Seth Godin writes a daily blog and he recently wrote the following. (Apologies for basically quoting his entire post.)

“An abundance of caution.

Lawyers are fond of this.

And sometimes, parents are too.

At least you won’t get blamed if something goes wrong.

It turns out that we don’t need an abundance of caution. We need appropriate caution. They’re different things. Abundant caution is wasted.

Things like ripe avocados and morel mushrooms are terrific to have in abundance. By definition, though, abundant caution is not only more than we need, it’s more than is helpful. Because we get hooked on the feeling.

We can always make a risk ever smaller. But the cost is that we will increase other risks.”

This may be one of the most overlooked “risks” when it comes to investing. We talk about risk in investing as if the definition is a temporary decline in value. That is more of a “perceived risk” because we naturally make the connection that a temporary situation is permanent.

Few things that are temporary can be considered true risks. Hurricanes and tornados have lasting effects, but temporary downward market volatility - not so much. A risk that is temporary can’t matter that much in the grand scheme of a 30-year retirement.

Real risk is the risk of a permanent loss of capital. In the entire history of the U.S. stock market, this has never happened. The actual results have been the polar opposite of that. In our mental extension of assuming temporary declines are permanent, we exercise an “abundance of caution” because it’s hard to stomach reviewing our monthly statements. This causes us to unknowingly increase other risks.

Conventional wisdom - defined as “a generally accepted theory or belief” - says it’s risky to hold too much in equities in retirement. Charlie Munger says,

“Invert, always invert. Turn a situation or a problem upside down. Look at it backward”

Conventional wisdom inverted: Over the course of a 30-year retirement, what if the real risk isn’t owning too much in equities, but owning too little? If conventional wisdom says we should own fewer equities, using Munger’s advice, we should at least consider the idea of doing the opposite.

Along those same lines, Nick Murray said,

“If most people were right, most people would be rich. Since most people aren’t rich…”

With regard to investing for retirement and conventional wisdom, my contention is that we should invert. I’ll return to my question above, what if the real risk isn’t in owning too much equity, but in owning too little?

By exercising an abundance of caution with regard to our retirement portfolios, we are seeking to reduce temporary volatility at the cost of reducing our permanent return. That’s irrational.

As Godin discusses, we shouldn’t be seeking an abundance of caution, but the appropriate caution. I’ve written about this before -> Appropriate caution is rethinking how we address investment risk in retirement.

By all means, we need to address sequence of returns risk and we need a plan to deal with temporary volatility. But we need to balance those temporary risks with the need to grow the income our future selves will invariably need. Anything else is simply trading one risk for another. Perhaps the biggest risk of all is (unknowingly) ignoring a permanent risk by constantly avoiding a temporary one.

Invert, always invert.

Stay the course,
Ashby

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