Let Me Clarify
If you saw two different investments, Investment A with an average 4% annual return and Investment B with an average 5% annual return, which would you assume performed better for those who had invested in them? Investment B, right? What if I told you that Investment A actually performed better? How could that be possible?
Let me clarify.
I’m sure you’ve heard that “past performance does not guarantee future results” or been told not to focus on returns alone, when it comes to investing. If you’re like most other investors, I’m also sure that you may have rolled your eyes or assumed that the advisor was simply avoiding something. In fact, those statements can be about as true as it gets, and the scenario I posed at the beginning is a perfect example.
Consider the hypothetical returns below of an initial investment of $100,000 into each fund. (Disclaimer: the returns in this example are hypothetical and are not from any specific investments)
The key here is that average returns alone do not tell you the full story. Without knowing the risk behind the roller coaster ride of fund (the range between its highs and lows), basic average returns can be a bit misleading. This isn’t always the case, but it does happen. Because of this, there are multiple ways for calculating investment performance. I won’t drag you down the technical side of the various methods, but what this means for you, is that you should never chase returns or try banking your financial future on a single number on paper.
My hope is that, by this point (whichever stage of your life you may be in), you’ve at least been told that “risk” is always part of investing. Risk really does matter, and investors should take an appropriate amount for their situation. However, I do encourage you to remember this example next time you’re tempted to invest in, or are being sold on, something based on returns or limited information.
As we embark on this clarifying journey together, I encourage you to submit any ideas, topics, or questions to firstname.lastname@example.org. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendation for any individual. “Let Me Clarify” is a weekly blog containing Chad Baxter’s insights and thoughts about a variety of topics. To learn more about Chad, click here
All performance referenced is historical and no guarantee of future results. All investing involves risk including loss of principal. No strategy assures success or protects against loss. This information is not intended to be a substitute for individualized legal advice. Please consult your legal advisor regarding your specific situation. Clarify Wealth Management and LPL Financial do not provide legal advice or services. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All investing involves risk including loss of principal. No strategy assures success or protects against loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk. Rebalancing a portfolio may cause investors to incur tax liabilities and/or transaction costs and does not assure a profit or protect against a loss.