Returning to Risk (Part 2)

What is risk?

Risk comes in two major flavors: short-term and long-term. With investments, short-term risk comes from the investments themselves—where they sit in the corporate capital structure. When a company generates cash, there are three different types of claims on that cash: senior claims (bonds), operating claims (real-estate), and residual claims (equity). The volatility of the cash-flow and the priority of the claim determine the likelihood of the investor getting his or her money back.

But long-term risk comes from outside the investments—from the economic environment. It takes four major forms: inflation, depression, confiscation, and devastation. Of these four, inflation is by far the most common. Confiscation—by unexpected taxes or by other means—is less common. Devastation by war or natural disaster even less so. And depression and deflation is the least common.

The best hedge against unexpected inflation are stocks. They tend to grow in real terms even in hyperinflationary environments. Foreign assets protect against confiscation and devastation, especially foreign real-estate. And bonds protect against deflation and depression. Sensible asset allocation takes all these factors—and their likelihood—into account.

Your investment horizon should determine the kind of risk you needs to manage. A short horizon calls for short-term risk management. Whatever your risk is, your investments should match it.

Douglas R. Tengdin, CFA

Chief Investment Officer

By | 2014-05-13T09:39:40+00:00 May 13th, 2014|Global Market Update|0 Comments

About the Author:

Mr. Tengdin is the Chief Investment Officer at Charter Trust Company and author of “The Global Market Update”. The audio version of each post can be heard on radio stations throughout New England every weekday. Mr. Tengdin graduated from Dartmouth College, Magna Cum Laude. He received his Master of Arts from Trinity Divinity School, Magna Cum Laude and received his Chartered Financial Analyst (CFA) designation in 1992. Mr. Tengdin has been managing investment portfolios for over 30 years, working for Bank of Boston, State Street Global Advisors, Citibank – Tunisia, and Banknorth Group. Throughout his career, Mr. Tengdin has emphasized helping clients manage their financial risks in difficult environments where they can profit from investing in diverse assets in diverse settings. - Leave a comment if you have any questions—I read them all! - And Follow me on Twitter @GlobalMarketUpd

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