rogernusbaum

A quote attributed to Nassim Taleb that I hadn't seen before; it takes five years to learn how to make money and twenty-five to learn how to not lose it.

This resonates with me as I see how my beliefs about money have evolved as I have gotten older. I'll be 55 in a few weeks and will post more about that when the time comes but an important part of engaging with your investment portfolio is to understand not just the risk you are taking but the consequence of that risk if something goes wrong. The ARK Innovation Fund (ARKK) has been dominating the news lately. First for going up so much and then for going down so much. The fund is behaving exactly how I would expect it to, exactly. It tends to go up more than the broad market during uptrends and down more than the broad market during down trends like we're going through now. If you have even a vague familiarity with the fund then you already know this.

If the stock market ever cuts in half again (it probably will again at some point) then I'd expect ARKK or other similarly oriented funds to fare worse than cutting in half. If you're 70, retired, drawing from your portfolio as part of your retirement plan then how much should you have in a fund with that kind of potential volatility? That of course is up to the end user, there can be no single answer but if you a have a position so large that you succumb to emotion after a 50-60% decline (it was down 40% briefly last spring) then the extent of the damage will depend on position sizing....that is knowing how not to lose or more precisely how not to have a loss materially impact your portfolio.

Materially impact is also dependent on the end user but a 20% allocation that drops by 60% that is then sold at a low point might qualify as materially impactful. Compare that to a 5% allocation dropping that much. The pain could be measured in basis points and while that pain might be just as bad, the impact will not be. Even then, 5% might be a high starting point in the context of learning how not to lose.

The average annual return of the S&P 500 is 7-8% depending on the period studied. If you're lucky enough to have an adequate savings rate then that's enough to get the job done subject to proper asset allocation and somehow managing sequence of return risk as you approach the time you expect to start drawing from your portfolio. A basic diversified portfolio might be all you need (I'd argue it is all you need) but if you're doing something more involved like some sort of barbelling of risk and/or volatility then more to something like ARKK blended with something that is reliably less volatile than the broad market can work too. That concept is intellectually appealing to me but it requires playing a more active role in the management of your portfolio. It's kind of funny how few people I know from outside the investing realm that have very little interest in day to day management of their portfolio. That of course is totally legit, it's their money but that is the sort of thing that someone has to understand about themselves.

Speaking of ARKK, understanding volatility, position sizing and how not to lose, ARKK manager Cathie Wood told CNBC that she could see the 60/40 stocks/bonds portfolio evolving to 60/20/20 allocated with 60% to stocks, 20% to bonds and 20% allocated to Bitcoin. She seems to be talking down the road once it stabilizes more, if it stabilizes more. Unless you're in at a very low price, playing with house money because you've already benefitted from asymmetry then 20% to Bitcoin seems insanely high to me. Similar to calls from the before the financial crisis to put that much into things like gold, REITs and MLPS, Bitcoin is a narrow exposure and those previous recommendations all ended badly.

It was not clear to me what Wood meant by stabilize but Bitcoin is up more than ten-fold in a little over two years. Are you going to now put 20% into something that just went up that much and maybe has now stabilized? That makes no sense to me. It could still have an asymmetric return from here though. I've been defining asymmetry for Bitcoin as either going to a bazillion or going to zero. It is far more likely that you can afford a 1-2% allocation going to zero than you can a 20% allocation. And for the record I have no idea whether Bitcoin has now stabilized.

Learn how not to lose or maybe more correctly, learn how not to permanently impair your capital with overly risk allocation decisions.