WSJ: The Cruel Math Of Big Losses.
Excellent Wall Street Journal Article on the math behind large losses. In a year like last year losses were unavoidable if you were in anything other than US Treasuries and cash. However, the article talks about the hill investors must climb to recover from that sort of bear market. This is a very long article and parts of it are more germain to mutual fund investors it seems. I've excerpted what I think are the important take aways and added my own highlights in green. A link is at the end.
This year's robust stock-market advance has done a lot to bolster investors' psyches. Too bad many people's portfolios still haven't recovered from last year......in most cases those returns haven't brought people's stock-fund holdings back to their values at the start of 2008, let alone their higher values at the stock-market peak, in October 2007.
The culprit is what money manager and newsletter editor Daniel Wiener calls "the tyranny of the mathematics of loss": When you suffer a very large loss, you need a gigantic gain to get back to where you started.
If an investment declines 10%, it takes about an 11% gain to break even (assuming you don't pump in additional dollars). If the drop is 20%, you need a 25% gain to recover. A fall of one-third requires a rebound of 50%. And if your investment falls by half, "you need a double," or a 100% return, says Mr. Wiener, the New York-based editor of the Independent Adviser for Vanguard Investors. The recovery percentages grow exponentially because you have so few dollars working for you after a big loss.
Last year, the average diversified U.S.-stock fund was down 37.5%—requiring a 60% advance to break even—and plenty of funds were down 50% or more. Investors looking at this year's performance listings should know that some big gainers are volatile funds that were big losers last year; thus, investors' holdings may still be worth far less than they were in late 2007.
Many funds have posted eye-catching returns so far this year, but investors' nest eggs may not have much to show for it.
Goal Reminder
It's impossible to avoid losing some money when you are an investor. But the harsh math of 2008 and 2009 is a reminder of a key goal that most investors should strive for: avoiding the largest losses. Many investors trimmed their overall losses last year by holding bond funds and other investments along with stock funds. .......
The culprit is what money manager and newsletter editor Daniel Wiener calls "the tyranny of the mathematics of loss": When you suffer a very large loss, you need a gigantic gain to get back to where you started.
If an investment declines 10%, it takes about an 11% gain to break even (assuming you don't pump in additional dollars). If the drop is 20%, you need a 25% gain to recover. A fall of one-third requires a rebound of 50%. And if your investment falls by half, "you need a double," or a 100% return, says Mr. Wiener, the New York-based editor of the Independent Adviser for Vanguard Investors. The recovery percentages grow exponentially because you have so few dollars working for you after a big loss.
Last year, the average diversified U.S.-stock fund was down 37.5%—requiring a 60% advance to break even—and plenty of funds were down 50% or more. Investors looking at this year's performance listings should know that some big gainers are volatile funds that were big losers last year; thus, investors' holdings may still be worth far less than they were in late 2007.
Many funds have posted eye-catching returns so far this year, but investors' nest eggs may not have much to show for it.
Goal Reminder
It's impossible to avoid losing some money when you are an investor. But the harsh math of 2008 and 2009 is a reminder of a key goal that most investors should strive for: avoiding the largest losses. Many investors trimmed their overall losses last year by holding bond funds and other investments along with stock funds. .......
"A manager who limited losses last year goes a huge way to helping investors accumulate wealth over time and meet their long-term goals," says Don Phillips, a managing director at research firm Morningstar Inc. "It's the kind of victory that often goes unnoticed" amid the gloom of losing money, he adds......
Ms. Damato is a news editor for The Wall Street Journal, based in South Brunswick
Ms. Damato is a news editor for The Wall Street Journal, based in South Brunswick
posted by CR English at 6:37 AM
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