A defensive equity allocation may produce better long-term results and allow investors to de-risk without altering their strategic asset allocation. Investors typically increase the amount of risk they’re taking when seeking higher returns. However, preservation of capital in down markets is an important aspect of long-term growth. Limiting the amount of negative performance in your portfolio allows you to compound returns off a higher base and may heavily impact wealth creation over time (Figure 1).
Source: Morningstar as of 2/29/2020. Hypothetical example shown for illustrative purposes only. Performance data shown represents past performance and is no guarantee of future results.
As shown above, a portfolio that participates in only 95% of the benchmark’s upward performance but 85% on the downside will create wealth greater than a portfolio that achieves 100%upside but also 100% downside. Compounding off of a higher base is a powerful investment approach, and as Albert Einstein is reputed to have said, “compounding…is the eighth wonder of the world.”
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Beta is a measure of systematic risk, or the sensitivity of a fund to movements in the benchmark. A beta of 1 implies that the expected movement of a fund's return would match that of the benchmark used to measure beta.
Standard Deviation (Std Dev) of return measures the average deviations of a return series from its mean, and is often used as a measure of risk. A large standard deviation implies that there have been large swings in the return series. Loss Standard Deviation measures the deviation of negative returns.
Alpha is a measure of risk (beta)-adjusted return.
Sharpe Ratio is a risk-adjusted measure of return which uses standard deviation to represent risk.
The S&P 500 Index is an unmanaged index generally representative of the U.S. market for large capitalization equities. This unmanaged index does not reflect fees and expenses and is not available for direct investment.
The views expressed herein are those of Harbor Capital Advisors, Inc. investment professionals at the time the comments were made. They may not be reflective of their current opinions, are subject to change without prior notice, and should not be considered investment advice.
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