What You Don’t Know About Risk0

Asset protection planning is risk management. Plain and simple. It’s my job to handle your lawsuit risk, but I thought you might like to know about other types of risks so you can think about how to hedge. As an aside, I do not believe your bank is about to fail or that the market is going to collapse. I’m not a doomsday thinker, and it’s really my hope and desire that we figure out how to make this country prosperous. Nonetheless, it’s important that you challenge yourself to think . . . .

Institutional Risk

In order to manage risk, you first have to identify risk. One risk that people often overlook is the Institutional Risk. Institutional Risk is the risk of that the institution holding your money goes under. Don’t think that can happen? Where is Lehman Brothers today? How about MF Global?

Most people aren’t even aware that this type of risk exists, even after the fall of Lehman and MF Global. Part of that is a false sense of security in FDIC insurance.  FDIC covers accounts up to $250,000, but you are aware that the FDIC can delay paying you for up to 99 years. Like so many other perceived safety nets, the FDIC provides the illusion of safety.  Well, the illusion of safety and a nice looking sticker on your bank’s door.

Two Levels of Market Risk

Investing in liquid markets (e.g. stocks and bonds) involves risks. You can pick the fasting growing, lowest P/E, and highest value company out there, but all performance is at least somewhat tied to the overall market. No matter how good a company’s might be, there is very little that anyone can do about the macro-economy. Therefore, all investments are subject to two levels of market risk: The macro level (overall domestic and international economic conditions), and the micro level, or a company’s ability to compete profitably in a niche that attracts long-term investors.

If you’re invested in great companies, you can often take advantage of macro level downturns by buying of that great company. It’s like Warren Buffett says, “Be fearful when everyone else is greedy, and be greedy when everyone else is fearful.”

Managing Your Own Investments

Many of my clients manage their own portfolios.  “Home gamers” are often disadvantaged, because they directly compete with Wall Street professionals who are trained to suck every marginal penny out of the market.  Remember, the stock and bond markets are a zero-sum-game.  For every winning trade, there is also a losing trade on the other side. Ask Gordon Gecko.

It’s always surprising to me to find out how many seemingly sophisticated professionals are “long only” investor. What’s even more interesting is how people don’t even know that going short (or selling assets that you don’t already own in anticipation of falling stock prices) is even an option.  Knowledge like this (and having nothing else to do except understand market conditions) is one advantage that professional money managers have over the typical individual investor. The knowledge gap presents a huge risk.

Conclusion

Again, I do not believe that the market is crashing or that you should be worried about your bank failing. I just want to let you know that there is risk out there that you maybe haven’t considered. It’s relatively easy risk to handle. In the case of institutional risk, just don’t put all your eggs in one basket. In the case of macro market risk, psychologically train yourself to take advantage of it, rather than fall victim to it. On unknown investment risk, make an effort to educate yourself. It’s really that simple.

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