Volatility is More Friend than Foe

Traditional investing advice has this all wrong.

Five minutes into your tenure as an investor, you were probably told to diversify.

Out came the aphorisms. “Don’t put all your eggs in one basket.” “Some things zig when others zag.” The idea is that owning a little of this and a little of that protects you, because when this goes down, that should go up.

Nice in theory. Wrong in practice. If you diversify, you will approximate market returns. If that’s what you want, own the S&P 500 and call it a day. If you just dollar-cost averaged into the S&P 500 with all of your investable capital, you would beat almost every pundit and advisor. All the hodgepodge portfolios consisting of 12.5% in Fund A, 17.4% in Fund B, 11% in gold, some shares of something a guy mentioned on CNBC, a position in the local utility, and so on, add up to a heap of mediocrity.

The problem starts when investing advisors equate risk with volatility. They’re not the same. Just because something occasionally declines in price does not necessarily make it risky. In fact, if it’s all but guaranteed to recover, the decline offers an opportunity to boost performance by adding more money at lower prices. That dynamic is what powers dollar-cost averaging.

In this report, I’ll examine how flat lines are less conducive to profit than fluctuating ones, and how focus works better than owning everything under the sun.