Today we’re going to talk about a topic that I call the power of zero. If you’ve ever talked to an investment advisor, you’ve probably heard them tell you that they’re going to help you get a higher return with less risk. The focus is on getting a higher return, and that’s the end of the risk discussion. People often mess up investing because they don’t understand the impact that risk has on their retirement savings.

I have a great example that I call the power of zero. Let’s imagine that you’re going to invest for the next 20 years. You can invest in Portfolio A or Portfolio B. Over those 20 years the average rate of return for Portfolio A, after expenses, is approximately 7.5%. Over the same timeframe, Portfolio B, after expenses, is going to average 5.9%. Do you want to put your money in Portfolio A, with 7.5% percent a year, or Portfolio B with a little less than 6%?

Of course, most of us will pick the higher number. For this example, let’s imagine you pick the higher number and have a million dollars to invest for the next 20 years. I’m using data that was taken from the real world between 2000 and 2020. You take the million dollars and put it in the 7.5% account. Your million dollars goes like this: 600k, back to a million, down to 700k, back to a million, then up to 2 million, and finally ends at $3.1 million. How do you feel about that? You might have liked the end number but along the way, it was a roller coaster. Despite the rough ride, you still ended up going from 1 million to 3.1 million.

Now, what if you had picked Portfolio B? With Portfolio B you earned 5.9%. If you would have chosen that one, and you start with a million dollars, it never goes below a million dollars. It only stays level or rises. It goes from 1.5 million to 2 million to 2.5 million and you end up with 50k less than the same $3.1 million from Portfolio A. You end up in a very similar place, but your average return is lower, and the ride was a lot smoother. How does that happen? In both cases, you tripled your money so why don’t you have the same rate of return?

You would think you should get the same rate of return, but that’s not the reality. When you’re going from 1 million to 3 million, it seems like the return should be essentially the same number, but they’re not. One is over 7.5% percent and the other is a little less than 6%. What’s going on here? This is the risk side of things and the power of zero. In Portfolio A, where the average is 7.5%, there were years where you were making 25% or even 30% a year. However, there were also some years where you were down 20% or 30%. When it all averages out, you’re at 7.5%.

What about Portfolio B with the 6%? You never had a year where you lost a dime, but in a good year, when the market was up, you only made about half of what the market made. With your best return, you had about five years where you made more than 10%. With Portfolio A, there were 11 years where the portfolio made more than 10%, but you also had three or four years where you lost money. In Portfolio B you never lost money ever, but a good year might only be 15%.

Here’s the point when it comes to investing; double-digit returns are awesome, but if they come with occasional double-digit losses, you might be better off hitting singles and doubles rather than trying to hit a home run and striking out. In both scenarios, you end up in the same place after 20 years. The biggest difference is that one is a roller coaster, and the other is a smooth ascent up. A rational person would always take the low or zero-risk path. This is the power of zero.

It doesn’t matter what order these returns come in. The power of zero is that if you invest your money so that you don’t ever lose money, you don’t need to have great returns because you still end up in a good place. Many people don’t understand that this is how they’re hurting their investing, especially when they’re getting closer to retirement. The closer you get to retirement, the less risk you must take.  If you’re out there, and nobody has educated you on how to intelligently build a portfolio where you’re combining good return potential with limited risk positions, I would argue you owe it to yourself to learn how to do these things.

How do you learn more? It’s easy. You call us. If it’s after hours, you’ll get our answering service, but they’ll set up a time where you can talk to us. We’d love to have a quick conversation, learn more about your situation, and determine if we can help you get on the right path. Based on what you’re looking for, we can either help you right then and there or connect you to an advisor. Either way, if no one is talking to you about how to hedge your downside risk and how to keep your losses to a minimum, then you owe it to yourself to give us a call. Let’s get you on the right track to Your Successful Retirement.

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