Showing posts with label diversifying risks. Show all posts
Showing posts with label diversifying risks. Show all posts

Wednesday 26 September 2018

Non-Market Risk and a Concentrated Portfolio

Holding a concentrated portfolio is not as risky as one may think.

Just holding 2 stocks instead of 1, eliminates 46% of your unsystemic risk.

Holding only 8 stocks will eliminate about 81% of your diversifiable risk.


What about the range of returns?

Average return of the stock market during one period examined was about 10%.

Statistically, the one-year range of returns for a market portfolio (holding scores of stocks) in this period was between -8% and +28% about two-thirds of the time.  One-third of the time, the returns fell outside this 36-point range.

If your portfolio is limited to only 5 stocks, the expected return remains 10%, but your one-year range expands to between -11% and +31% about two-thirds of the time.

If there are 8 stocks, the range is between -10% and +30%.


Conclusion

It takes fewer stocks to diversify a portfolio than one might intuitively think.

Saturday 18 August 2018

Smart diversification is the key. The smart investors are focus Investors.

True investors are not random stock pickers.

They take out risk by understanding the investments and their intrinsic value, rather than by spreading the risk across more companies.

Smart investors are focus investors who drive toward deep understanding of their investments without diluting possible returns through diversification.

They see danger in owning too many investments, which may be beyond the scope of what they can manage or keep track of.

Here's the paradox:  Instead of reducing risk through diversification, risk may actually increase as it becomes harder to follow the fortunes of so many businesses.

That is why Buffett and others reject diversification per se as an investment strategy.

They prefer to reduce risk by watching a few companies and investments more closely.


"Diversification is for people who don't know what they're doing."  Warren Buffett.

Saturday 27 May 2017

Conservation of Value and the Role of Risk. Increasing value through reducing the company's risk and its cost of capital.

Cash flow drives a firm's value creation.

Growth and ROIC generate cash flow.



Value creation

Companies create value:

  • when they grow at returns on capital greater than their cost of capital or 
  • when they increase their returns on capital.
Actions that don't increase cash flows over the long term will NOT create value, regardless of whether they improve earnings or otherwise make financial statements look stronger.



One Exception:  reducing the company's risks or its cost of capital can create firm's value

Actions the company takes to reduce a company's risk and therefore, its cost of capital.

There are different types of risk and it is important to explore how they enter into a company's valuation.

Only risk reductions that reduce a company's nondiversifiable risk will reduce its cost of capital.


Monday 7 March 2016

The biggest risk of all.

Volatility is often equated to risk and many investors are concerned over this uncertain value of investments in the short term.

There are other kinds of risk too.


1.  Capital risk.
2.  Liquidity risk
3.  Currency risk
4.  Interest rate risk
5.  Financial risk
6.  Credit risk
7.  Event risk (Black Swan)

However, the biggest risk of all is when you elect not to invest or participate in the market.

You are assuring yourself of a declining standard of living because inflation will eat away the value of your holdings over time.

It is impossible to avoid risk in investing or in life.

Risk can be managed, through asset allocation and diversification, within and among asset classes and managing risk is crucial to investment success.

Time is your friend. Time smooths out volatility.

Historically, time smooths out volatility.

The longer you stay in the market, the more likely you are to see your investment do what it should.

The range of returns narrows when we hold our investments for a longer period of time.


















Even the most volatile asset class, that is, stocks, becomes relatively stable when you take the long view.

If you have a reasonable time horizon, you have an excellent chance of high average returns over many years.
That translates into a comfortable portfolio with plenty of cushioning along the way.

What if you are approaching retirement or you are already in retirement?

How can you get the returns you want while minimizing the volatility you don't want?

The answer:  diversify.

Thursday 25 July 2013

Monday 17 September 2012

How to diversify


You can diversify your investments at a number of different levels:

  • across companies
  • across industries
  • geographically
  • across asset classes.
If you want to diversify while still keeping your portfolio manageable, you should consider pooled investments.

Thursday 16 August 2012

Risk is Manageable: Risk-Avoidance Strategies

Master Investors use one of the four-risk avoidance strategies:
1.  Don't invest.
2.  Reduce risk (the key to Warren Buffett's approach).
3.  Actively manage risk (the strategy George Soros uses so astonishingly well).
4.  Manage risk actuarially.

There is a fifth risk-avoidance that is highly recommended by the majority of investment advisors:  diversification.  But to Master Investors, diversification is for the birds.

No successful investor restricts himself to just one of these four risk-avoidance strategies.  Some - like Soros - use them all.

Saturday 30 June 2012

Very few people have gotten rich on their 7th best idea. You'd be much better off putting more money into your best idea.


Warren Buffett:

"There are a lot of things you can learn if you are around securities over the course of your career, and you will find a lot of arbitrage opportunities. However, that probably won't be the primary driver of your investment returns.

If you are not a professional investor, then you should be extremely diversified and you should do very little trading. However, if you want to bring an intensity to the game, and you are going to value businesses, then diversification is a terrible mistake. If you really know business, then you shouldn't own more than 6 businesses. Very few people have gotten rich on their 7th best idea. You'd be much better off putting more money into your best idea. "

Wednesday 28 March 2012

Managing Risk - Some Simple Rules


Managing Risk

Investors can manage their risk in picking individual stocks by following some simple rules:

•  Require that the company have at least five years of financial history. Younger firms haven’t developed enough of a track record for assessing management performance.
•  Study only companies that have proven they can make money. Someone who invests in a company that has never reported earnings is speculating, not investing.
•  Understand the possible risk and reward of owning a stock.
•  Diversify your portfolio. Even if you’ve done your homework on every holding using all the information you need to make an informed decision, you’ll still make mistakes. If you have a good-size basket of stocks, however, you’ll also have some stocks that perform much better than expected.
 
Besides investing in high-quality growth stocks and diversifying your portfolio, two other simple principles can help you build wealth over the long term. 
  • First, reinvest all your dividends and earnings
  • Second, invest regularly in both good markets and bad; this is often called dollar-cost averaging.
 
The type of analysis outlined provides a lot of the information fundamental investors need to determine whether a stock is a suitable investment. But not everything. Reading annual reports, listening to conference calls and viewing company presentations will help you form a fuller picture of the company.
    
In today’s unpredictable, volatile market, fundamental analysis is even more important than usual. But for an investor using a simple, straightforward methodology that focuses on the long term, these are also times of great opportunity.

Monday 20 February 2012

Reducing Portfolio Risk

The challenge of successfully managing an investment portfolio goes beyond making a series of good individual investment decisions. 

Portfolio management requires 
  • paying attention to the portfolio as a whole, 
  • taking into account diversification, 
  • possible hedging strategies, and 
  • the management of portfolio cash flow. 


In effect, while individual investment decisions should take risk into account, portfolio management is a further means of risk reduction for investors.

Appropriate Diversification


Even relatively safe investments entail some probability, however small, of downside risk.  The deleterious effects of such improbable events can best be mitigated through prudent diversification.



The number of securities that should be owned to reduce portfolio risk to an acceptable level is not great, as few as ten to fifteen different holdings usually suffice.



Diversification for its own sake is not sensible.

  • This is the index fund mentality if you can't beat the market, be the market.  
  • Advocates of extreme diversification - which I think of as over-diversification - live in fear of company-specific risks; their view is that if no single position is large, losses from unanticipated events cannot be great.  
  • My view is that an investor is better off knowing a lot about a few investments than knowing only a little about each of a great many holdings.  One's very best ideas are likely to generate higher returns from a given level of risk than one's hundredth or thousandth best idea.


Diversification is potentially a Trojan horse.

  • Junk-bond-market experts have argued vociferously that a diversified portfolio of junk bonds carries little risk.  Investors who believed them substituted diversity for analysis and, what's worse, for judgment.  
  • The fact is that a diverse portfolio of overpriced, subordinated securities, about each of which the investor knows relatively little,  is highly risky.  
  • Diversification of junk-bond holdings among several industries did not protect investors from a broad economic downturn or credit contraction.  
Diversification, after all, is not how many different things you own, but how different the things you do own are in the risks they entail.

Friday 17 February 2012

Unlike return, risk is no more quantifiable at the end of an investment than it was at its beginning.



While security analysts attempt to determine with precision the risk and return of investments, events alone accomplish that.

Unlike return, however, risk is no more quantifiable at the end of an investment than it was at its beginning.

Risk simply cannot be described by a single number.  

Intuitively we understand that risk varies from investment to investment:  a government bond is not as risky as the stock of a high-technology company. But investments do not provide information about the risks the way food packages provide nutritional data.

Rather, risk is a perception in each investor's mind that results from analysis of the probability and amount of potential loss from an investment.

  • If exploratory oil well proves to be a dry hole, it is called risky.  If a bond defaults or a stock plunges in price, they are called risky.  
  • But if the well is a gusher, the bond matures on schedule, and the stock rallies strongly, can we say they weren't risky when the investment was made?  
Not at all.  The point is, in most cases no more is known about the risk of an investment after it is concluded than was known when it was made. 


There are only a few things investors can do to counteract risk:

  • diversify adequately, 
  • hedge when appropriate, and 
  • invest with a margin of safety.  

It is precisely because we do not and cannot know all the risks of an investment that we strive to invest at a discount.  The bargain element helps to provide a cushion for when things go wrong.

Monday 20 June 2011

Learn to Manage Risk

Several investors clamour for risk-free products, assurances, guarantees and promises. But just as we do not have perfect spouses and perfect jobs in the real world, we don't have risk-free investment products as well. So, we must understand and manage risk in our investments.

We all invest our capital in an enterprise or a business activity. The entity with which we entrust our capital uses it to create assets. The primary source of business risk is that despite the assets being managed well, their performance is subject to multiple, unknown factors . The ability of the enterprise to service and return our capital is impacted by these risk factors. If a bank deposit is seen by investors as safe and risk-free , this comes is due to the the bank's capital to bear any risk arising from the assets it has funded with those deposits.

The only other way to ensure that an investment is risk-free is to back it by sovereign guarantee. The government is not expected to default because it can raise taxes, borrow internationally, or in the worst case, print currency notes. However, the Indian government no longer guarantees any investment product other than its own borrowings through the issuance of government securities, for funding the deficit in its annual income and expenditure. The products offered under the National Savings Schemes are the only exception.

To the investor who is seeking safety, government bonds and savings schemes are the first choice. However , the returns from these products may be quite low, exposing the investor to inflation risk, thereby making it unsuitbale for long-term investors. The investors who seek fixed return and relative safety of principal can invest in deposits, bonds and certificates issued by borrowers such as banks and companies. The risk of default is inherent in these instruments. It can be managed only by choosing and monitoring the quality of assets of these businesses and the adequacy of equity capital to bear those risks. Credit rating agencies offer rating services to gauge these risks. However, investors may still face the risk of illiquidity of such investments.

The investors who are willing to take on business risks by directly investing in equity of enterprises bear the risk arising from the changing quality of assets. They can take this risk only if they are provided adequate , accurate and complete information about how the assets are performing. They should be able to assess their business risk on a continuous basis and quit if they are uncomfortable with the changing levels of risk. This is why equity investors can sell their equity in a stock market where it is listed. But in this case, they are exposed to the market risk. Every investment is exposed to risk and each of these is of a different nature. If equity bears direct business risk, in case of debt, it is of an indirect nature as a possible default. If non-government debt is exposed to default risk, government debt is open to inflation risk. The only time-tested strategy to manage investment risks is diversification. Holding assets that are exposed to different risk factors reduces the overall risk of the investment portfolio. Rather than running away from risk, we must understand and use it to our advantage.

The author is MD, Centre for Investment Education and Learning, and can be reached at uma.shashikant@ ciel.co.in

Tuesday 29 March 2011

Redefining Investor Risk


Redefining Investor Risk

by Troy Adkins
You have probably been told by many financial advisors that your risk tolerance should be a function of your investment time horizon. This belief is touted by almost everyone in the financial services industry, because it is predominately accepted that if you plan to invest for a long period of time, you can make more risky investments. However, before blindly accepting this theory as factual truth, let's look at four ways in which risk can be defined. After thinking about risk from these four different perspectives, you may reach a different conclusion about investing. (Forget the clichés and uncover how much volatility you can really stand. To learn more, see Personalizing Risk Tolerance.)

Risk Theory No.1: Risk is Reduced if You Have More Time to Recoup Your Losses
Some people believe that if you have a long time horizon, you can take on more risk, because if something goes wrong with your investment, you will have time to recoup your losses. When risk is looked at in this manner, risk does indeed decrease as the time horizon increases. However, if you accept this definition of risk, it is recommended that you keep track of the loss on your investment, as well as the opportunity cost that you gave up by not investing in a risk free security. This is important because you need to know not only how long it will take you to recoup the loss on your investment, but also how long it will take you to recoup the loss associated with not investing in a product that can generate a guaranteed rate of return, such as a government bond.

Risk Theory No.2: A Longer Time Horizon Decreases Risk by Reducing the Standard Deviation of the Investment

You may have also heard that risk decreases as the time horizon increases, because the standard deviation of an investment's compounded average annual return decreases as the time horizon increases, due to mean reversions. This definition of risk is based on two important statistical theories. The first theory is known as the law of large numbers, which states that the likelihood of an investor's actual average return achieving its long run historical average return increases as the time horizon increases – basically, the larger the sample size, the more likely the average results are to occur. The second theory is the central limit theorem of probability theory, which states that as the sample size increases, which in this context means as the time horizon increases, the sampling distribution of sample means approaches that of a normal distribution.

You may have to ponder theses concepts for a period of time before you comprehend their implications about investing. However, the law of large numbers simply implies that the dispersion of returns around an investment's expected return will decrease as the time horizon increases. If this concept is true, then risk must also decrease as the time horizon increases, because in this case, dispersion, measured by variation around the mean, is the measure of risk. Moving one step further, the practical implications of the central limit theorem of probability theory stipulates that if an investment has a standard deviation of 20% for the one-year period, its volatility would be reduced to its expected value as time increases. As you can see from these examples, when the law of large numbers and the central limit theorem of probability theory are taken into account, risk, as measured by standard deviation, does indeed appear to decrease as the time horizon is lengthened.
Unfortunately, the application of these theories is not directly applicable in the investment world, because the law of large number requires too many years of investing before the theory would have any real world implications. Moreover, the central limit theorem of probability theory does not apply in this context because empirical evidence shows that a constant standard deviation is an inaccurate measure of investment risk, due to the fact that investment performance, is typically skewed and exhibits kurtosis. This in turn means that investment performance is not normally distributed, which in turn nullifies the central limit theorem of probability theory. In addition, investment performance is typically subject to heteroskedasticity, which in turn greatly hinders the usefulness of using standard deviation as a measure risk. Given these problems, one should not postulate that risk is reduced by time, at least not based on the premise of these two theories. (For more information on how statistics can help you invest, check out Stock Market Risk: Wagging The Tails.)
An additional problem occurs when investment risk is measured using standard deviation, as it is based on the position that you will make a one-time investment and hold that exact investment over the length of the time horizon. Given that most investors employ dollar-cost averaging strategies that entail ongoing periodic investment contributions, the theories do not apply. This is because every time a new investment contribution is made, that portion is subject to another standard deviation than the rest of that investment. In addition, most investors tend to use investment products such as mutual funds, and these types of products constantly change their underlying securities over time. As a result, the underlying concepts associated with these theories do not apply when investing.

Risk Theory No.3: Risk Increases as the Time Horizon Increases

If you define risk as the probability of having an ending value that is close to what you expect to have at a certain point in time, then risk actually does increase as the time horizon increases. This phenomenon is attributed to the fact that the magnitude of potential losses increases as the time horizon increases, and this relationship is properly captured when measuring risk by using continuously compounded total returns. Since most investors are concerned about the probability of having a certain amount of money at a certain period of time, given a specific portfolio allocation, it seems logical to measure risk in this manner.

Based on Monte Carlo simulation observational analysis, a greater dispersion in potential portfolio outcomes manifests itself as both the probability up and down movements built into the simulation increase, and as the time horizon lengthens. Monte Carlo simulation will generate this outcome because financial market returns are uncertain, and therefore the range of returns on either side of the median projected return can be magnified due to compounding multi year effects. Furthermore, a number of good years can quickly be wiped out by a bad year.

Risk Theory No.4: The Relationship Between Risk and Time from the Standpoint of Common Sense
Moving away from academic theory, common sense would suggest that the risk of any investment increases as the length of the time horizon increases simply because future events are hard to forecast. To prove this point, you can look at the list of companies that made up the Dow Jones Industrial Average back when it was formed in 1896. What you will find is that only one company that was part of the index in 1896 is still a component of the index today. That company is General Electric. The other companies have been bought out, broken up by the government, removed by the Dow Jones Index Committee or have gone out of business.

More current examples that support this empirical position are the recent demise of Lehman Brothers and Bear Sterns. Both of these companies were well established Wall Street banks, yet their operational and business risks ultimately led them into bankruptcy. Given these examples, one should surmise that time does not reduce the unsystematic risk associated with investing. (This company survived many financial crises in its long history. Find out what finally drove it to bankruptcy. Read Case Study: The Collapse of Lehman Brothers.)

Moving away from a historical view of the relationship between risk and time to a view that may help you understand the true relationship between risk and time, ask yourself two simple questions: First, "How much do you think an ounce of gold will cost at the end of this year?" Second, "How much do you think an ounce of gold will cost 30 years from now?" It should be obvious that there is much more risk in trying to accurately estimate how much gold will cost in the distant future, because there are a multitude of potential factors that may have a compounded impact on the price of gold over time.

Conclusion

Empirical examples such as these make a strong case that time does not reduce risk. Given this position, investors should reach a very important conclusion when looking at the relationship between risk and time from the standpoint of investing. You cannot reduce your risk by lengthening your time horizon. Therefore, the only way you can mitigate the impact of unsystematic risk, is by developing a broadly diversified portfolio.

by Troy Adkins

Mr. Adkins is a senior investment analyst with a global tactical asset management firm. He works and resides in New York City. He has a diverse background and more than 10 years of investment experience.

Wednesday 19 January 2011

The Best Way to Minimize Risk of Your Portfolio: Asset Allocation

The best way to minimize the risk of your portfolio is to carefully balance your assets among various investment vehicles.  Many people think that seeking out the top-performing stocks and mutual funds is the key to successful investing.  They are wrong.

Study after study has shown that individual investment choices account for only 5 or 10 percent of a portfolio's success, while 90 to 95 percent can be attributed to the way the portfolio is allocated among stocks, bonds and money market instruments.

Five Factors of Asset Allocation

When you plan to allocate your assets, you must consider five key factors:
  1. your investment goal, 
  2. your time horizon,
  3. your risk tolerance,
  4. your financial resources, and 
  5. your investment mix.
The three most important personal factors to consider: Your Time Horizon, Risk Tolerance and Investment Objectives.  Read more here:  How well do you know yourself.

Your financial resources relate to HOW MUCH money you have to invest.  The amount of money you have to invest will be a big factor in the risks you want to take.  A small investor just doesn't have the funds to properly diversify a portfolio.  In that case, a well-diversified mutual fund is your best bet for getting started.  Once your portfolio has grown large enough, you may want to take some risk by selecting a more aggressive mutual fund or picking individual stocks.

Your investment mix relates to how you will ALLOCATE what you have to invest.  Historically, the rate of return for large-company stocks has averaged 11.3% between 1925 and 2000.  During the same period, bonds averaged 5.1% return and cash savings averaged 3%.  Rates of return are even higher for small company stocks, but they are also much more volatile.

What chance does your current asset allocation have of meeting your goals?


A portfolio balanced for growth would likely have 60% stock, 20% bonds, and 20% cash.  Using these returns as the average, the portfolio would likely earn 8.4% before taxes and inflation. This is what is called a weighted average.

This is how it works:

60% stock at 11.3%
11.3 x 0.60 = 6.78%
20% bonds at 5.1%
5.1 x 0.20 = 1.02%
20% cash at 3% 
3.0 x 0.20 = 0.60%
Total = 8.40%

You can group your portfolio into these types of baskets and get a weighted average of the return you might expect from the portfolio.  If you have mutual funds, they should calculate what percentage of stock, bonds, and cash are held within the fund.  You can use those percentages when you want to compare this in your portfolio.

Use this information to decide how balanced your portfolio really is and whether that balance matches your savings goals and your risk tolerance.  What chance does your current asset allocation have of meeting your goals?

If your gap is huge and you know you can't meet your goals with the current estimated level of return, you must decide whether 

  1. you can tolerate more risk and try to improve your portfolio's growth potential or 
  2. revise your goals to a level that more realistically matches what your portfolio can achieve.


Related:
Your Time Horizon, Risk Tolerance and Investment Objectives.  How well do you know yourself?
http://myinvestingnotes.blogspot.com/2010/01/three-most-important-personal-factors.html

Understand what money means to you:  Answer 10 simple questions
http://spreadsheets.google.com/pub?key=tr9oMvjAsDJvkcPgXdd763A&output=html

Monday 17 January 2011

Don't be afraid of risk. Learn how to manage it.

Don't be afraid of risk. You will face some kind of risk no matter what you do with your money. Fear of risk can sometimes paralyze your investing. You end up watching your money lose value solely because you missed investment opportunities and let the money sit in a safe savings account, earning less interest than the inflation rate.

The least you need to know:

  1. Get to know the types of risks you face as  a value investor, but don't be afraid of them.
  2. No investor can avoid risk, but you can learn how to manage it.
  3. Time can heal many investment woes, as long as you have the patience to wait out an investment storm.

Wednesday 1 December 2010

Upscale Americans Investing Abroad

WEALTH MATTERS
Buy American? Upscale Investors Look Abroad
By PAUL SULLIVAN
Published: November 19, 2010

Well-heeled American investors have been doing something lately that they resisted for decades — becoming more like their European, Asian and Latin American counterparts and substantially diversifying their portfolios outside their home country.

There are two reasons for this. The financial crisis and the slow recovery showed them that the United States was not immune to devastating crashes of the kind that wealthy people in emerging markets have tried to hedge against by investing abroad. And second, American investors are worried that their portfolios are going to suffer for the foreseeable future, given the size of the United States’ budget deficit, the weakness of the dollar and the uncertainty over the stock market.


“I’ve never seen a period in which clients have expressed such an interest in nondollar investments,” said Kent Lucken, managing director at Citi Private Bank. “People are spreading their chips around more prudently and I think more wisely.”

What is different is how directly these investors are going into non-American markets. They are not content with buying international equities or going into an international bond fund. They are looking to invest directly in Chinese private equity, Indian real estate, Brazilian equities denominated in reals and Australian government bonds. They are also opening cash accounts in multiple currencies.

“International clients understand the need to diversify currencies, but this is something new to U.S. clients,” said David Frame, global head of alternative investment at J. P. Morgan Private Bank.

The people putting as much as 40 percent of their portfolios into nondollar investments are quite wealthy. But consider it this way: What can investors of more modest means learn from what the wealthiest people in the country — with the best research and advice at their disposal — are doing with large portions of their fortunes?

UPSIDE Investors who lived through the 1990s will remember the crises in Asia, Mexico and Russia that shook global capital markets. Investing internationally has always carried risks and it is by no means without perils today.

But many investors see a different trade-off, one based as much on a stagnant or declining United States as on certain international markets that are growing, if not booming.

“When you make an investment in nondollar currencies, you’re making two investments at once,” said Tony Roth, head of investment strategies at UBS Wealth Management. “You’re betting the dollar will go down, but you’re also buying another investment. You need to be compensated for that source of risk.”

He cited the example of buying a one-year Australian government bond, yielding 5.25 percent. He said he believed that the American dollar was going to lose value and the Australian dollar was going to gain it. That’s Part 1. Part 2 is that the Australian government is stable, so an investor can count on receiving that 5 percent annual return. The alternative is less than half of a percent if invested in United States Treasuries.

“I’m going to receive a return,” he said, “that more than compensates me for the marginal risk I’m taking.”

But there are far more risky investments. And the ones that are less liquid — infrastructure in China, say, or a private equity fund in Brazil — carry more uncertainty. But like their equivalents in the United States, they provide a higher return, in theory.

Mr. Frame said clients were investing in Asian infrastructure and Asian private equity by pooling their money with other investors. “There is a lot going on when a country is growing and developing that is hard to address through the public markets,” he said.


While there’s an obvious "pull" to international investments, there is also a bit of a "push" out of the United States: investors who are making their portfolios more international are doing so because they believe that the role of the United States in the global economy is shrinking.

Mr. Roth said the United States contributed 40 percent of global gross domestic product 15 years ago and now contributed 21 percent. He predicted that that figure would fall to 12 percent in another 15 years. Going along with this is the shrinking market capitalization of American stocks compared with global stocks.

“We have the U.S. experiencing flat to 2 percent G.D.P. growth, but you have Brazil, India and China with substantially higher rates,” Mr. Lucken said. “Equity investors are investing abroad to capture higher returns and invest ahead of higher growth rates.”

DOWNSIDE The biggest risk is uncertainty, followed by a lack of knowledge. No one knows exactly what is going to happen, and there are always investors who rush in too quickly without fully understanding the risks.

Those risks run the gamut from income inequality that could create unrest, to legal systems that have not been tested by foreign investors, to managers abroad without established track records.

There is also the unforeseen. “I witnessed firsthand the collapse of the Soviet Union,” said Mr. Lucken, a former foreign service officer. “That speaks to the unique political risks in smaller developing countries.”

Also, South Korea and Brazil, which are now darlings of investors, were shaken by crises in the 1990s. “The history of success has been relatively short — the past 10, 12 years,” said Christopher J. Wolfe, chief investment officer for the private banking and investment group at Merrill Lynch.

But Mr. Wolfe said clients were investing across all asset classes when they invested internationally and that gave them greater diversification. It is also a big change from the time when “it used to be U.S. stocks and non-U.S. stocks,” he said.

Like all big changes, there are going to be fits and starts. But after what investors lived through over the last three years at home, some are willing to chance it.

http://www.nytimes.com/2010/11/20/your-money/20wealth.html?ref=wealth_matters


Hunting for Returns Abroad

Are overseas investments worth the risk? Which ones can be part of the mix for a prudent investor?

Wealth Matters
Paul Sullivan writes about strategies that the wealthy use to manage their money and their overall well-being.