The Math of Gains and Losses

Here’s an interesting part of investing that most investors get wrong. In fact, if most investors understood this they probably would fire their broker. It has to do with how much it takes in percentage terms for a portfolio to recoup losses after a market correction.

So let’s look at this.  If you claim to be a conservative investor, and can handle a 10% loss, then I would agree that is very tolerable for a market investment, as it only takes a gain of 11% to get back to even. No problem. This happens all the time, the market may drop for a bit with a 10% or less loss just to quickly recover.

If you claim to be a moderate investor and think that you can withstand a 25% loss, it will take a little more to get back to even.  This is starting to get a bit more ominous as it now would take a 33% recovery to get back the 25% loss.  This could take quite a bit longer because as a moderate investor you’re normally only getting about half of what the market returns as it recovers.

So what if you’re an aggressive investor and say, “I want all of the market returns and invest in a S&P 500 index fund,” as most financial experts will tell you to do. Let’s say you experience a 50% market correction. Guess what? You now have to make 100% to get your money back.  “Wait a minute I don’t like this game”, you might say.  Well this is the stark reality of gains and losses. The more you lose the more you have to make to get your money back!

Here’s where it really gets ugly.  

Let’s say your broker recommends an individual stock with the hope of a large gain.  Unfortunately, the stock goes the other way and losses 70% of its values. I hate to say it but this happens a lot. Now, you have to make 233% just to get back to even.  “Wow I never would have done that if I would have known!” many would say.

You see, large losses are killers to growing a market portfolio over time.  Large endowments such as Yale and Harvard and high net worth investors know this and invest very differently than the retail investor.

Here’s the bottom line, if you want to be a successful investor you need to find out “How to limit your losses and still capture gains”.  If you want to find out how to do this, click our contact information below and take control of your portfolio!