How many times must this lesson be learned? Apparently there’s no limit when it comes to naïve and overconfident investors, which is to say that the need for tutoring is vast and unending. Sad and frustrating, but still true.
Two examples from today’s papers remind once more that diversification is too often ignored, assuming it’s recognized at all. Chalk it up to greed and fear, and perhaps ignorance of sound investment strategy. Good financial planning advice is widely available, but that doesn’t stop self-destructive behavior in finance, even in the center of the financial universe.
In today’s New York Times, for instance, a story about the fallout from the collapsing Lehman Brothers—a 157-year-old Wall Street investment bank—quotes a “rank and file employee” of the stressed company as it relates to the person’s investments. This former Lehman worker, who left the firm earlier this year, “lamented that he had put enough faith in the firm to retain shares — a decision he is paying for. ‘My children’s education fund is wiped out,’ said this person.”
One might imagine that working on Wall Street would provide some exposure to the lessons of sound portfolio strategy that have been honed over the last 50 years, but one can never assume when it comes to money.
Another sad item comes today via The Wall Street Journal, which relates the tale of a man who apparently invested all or at least most of his sons’ college money in Freddie Mac shares last week. The government has since taken over the battered mortgage institution and the shares have dropped sharply, leaving the investor’s college fund virtually wiped out.

The lesson, of course, is that diversification is your only friend. That truism is only rarely on display, such as the two instances above demonstrate. But please don’t confuse frequency of value with general necessity. Most of the time diversification, along with fire insurance and a sturdy roof, are taken for granted. That leads some to fall into the trap of thinking, especially after a long stretch of good fortune, that neither are relevant after all.
Similarly dim views are known to harass diversification, which usually pales in comparison to betting the ranch on a more narrowly focused investment notion. A few lucky or skillful investors can turn those odds in their favor and break the rules and cash in on easy profits. For the rest of us, a prudent approach to portfolio strategy is still the only game in town, even though it appears otherwise 98% of the time. Risk management, to be precise, is too important to ignore, as we’ve discussed many times over the years, including here and here.
Even so, the value of risk management is rarely obvious, save for extraordinary moments in the cycle–like now. The prudence of risk management is unrelated to how often it’s useful. It’s primarily a strategy minimizing the odds of insolvency. Sometimes winning on that front just once makes all the difference. Indeed, for most of us, we won’t have a second chance to accumulate a lifetime of savings. ‘Nuff said.

2 thoughts on “CYCLICAL WISDOM

  1. westwest888

    Uhhhh education fund? They should be so lucky. Waaaah, they’ll have to take out a student loan. Gasp!

  2. Mark Et-andall

    For the 1st guy, I can’t believe the market liar bought into the lie himself. Hey, but what do you expect from the corporate execs greed machine and bonus for no performance recipients that’s been in overdrive for the last 5 years. Kiss the money good-bye……all in a days work on the Street, hue!

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