We have spent a great deal of time lately dwelling on potential changes in Florida Retirement System benefits. Since the legislative session is over until next winter, we can breathe easy at least until then. In the meantime, the news is full of dire financial news and predictions. We are in year three of a terrible recession, and the devastating crash in real estate prices has set us all back a few years. So what is a person to do to try and protect their nest egg?
In order to discuss how to protect one’s nest egg, we should probably start with trying to figure out what risk is, and how do we deal with it. For this discussion, let’s define risk as the possibility of losing money! Does that sound fair? The legislature has added risk to our pensions by threatening us with the loss of benefits we thought were secure. The real estate market has become risky as the value of our homes has declined, and the stock market goes up and down on a regular basis. Seems like wherever we turn, we are at risk of losing our hard earned savings. Interestingly, it is just that volatility that makes them attractive. We have all heard the adage, no pain no gain. Without risk, there can really be no reward!
Over the last twenty five years, I have witnessed some seemingly cataclysmic events – all having dire consequences on savings and investments. Remember the stock market crash of 1987? That was probably my first real taste of risk. I was old enough to have some assets and investments and remember being horrified that they were losing money so quickly. When something like that happens, it is easy to err on the side of fear, and sell into the panic. The fight or flight mechanism kicks in and since we don’t really understand what is going on, we run! Unfortunately, as often as it happens – we know it will be a mistake. The average investor buys when they should be selling, and sells when they should be buying. After several hundred years of experience, we know that time will cure most of the markets ills. The crash of 1987 was regained in a mere two years. The fall after 9-11 took less than six months. Even the devastation after the fall of Lehman Brothers in September of 2008 triggered the worst financial panic in our history was regained in about 18 months. The Florida Retirement System Pension plan has rebounded to $118 billion from a low of $83 billion (Current FRS Plan Balance). Had you sold into the panic, those losses become real, with no real way of regaining your losses. On the contrary, had you maintained your holdings in a well diversified portfolio, you would have been made whole in relatively short order!
One could argue the biggest risk with a diversified portfolio is time! As the accompanying chart demonstrates, the longer one holds a portfolio, the real risks disappears. The ten year period ending December 31, 2009, was the first time in history that a ten year holding period was not profitable. It was a breakeven. We got the triple whammy in that time period. First came the dot.com bubble, and then came 9-11, and finally the financial crisis of 2008. As history goes, we should do well in the next ten years.
There is risk in owning stocks, but it can be a calculated risk. There is a big difference between a calculated risk and gambling or doing something stupid. Stocks have long been the best performing long term asset to own. The Dow Jones Industrial Average or the Standard and Poor’s 500 Stock Index are a pretty decent representation of business and the economy of the United States. Owning a piece of them is like owning a piece of what makes America great. It should probably be a part of most everyone’s investment portfolio. You will want to work with a trusted advisor on how to best fit them to your individual situation.