In the last 5 years, the stock market has shown some attractive returns. In 2010, the Dow Jones was at about 11,000 points, and in 5 short years, it blew up to over 17,500. But what about the years before 2010? In 2008 investors were sitting pretty at around 14,000 but in a little over a year it crashed to under 7,500. That?s nearly 50%.
These are things to think about when dealing with your clients’ investment portfolios. A market correction like we saw in 2002 and 2008 could ruin their portfolios by 40% or more. Take this opportunity to encourage ?your clients to review their current asset allocation considering their risk tolerance as well as goals and objectives. Nobody knows if and when a correction is coming. If you take a look at the volatility and market action in the last couple of months, you might wonder if a correction could be on the horizon.
Before we get too far into all of our thoughts we would like to ask a question. What does volatility really mean? It?s something we hear about all the time but has it ever really been explained? Well we would love to tell you about it.
There are two kinds of volatility: implied volatility and historical (or statistical) volatility. Historical volatility measures the rate of movement in the price of the underlying asset and implied volatility measures the price movement of the option itself.
Implied volatility: This is the estimated volatility of a security?s price in real time, or as the option trades. Values for implied volatility come from formulas that measure the options market?s expectations, offering a prediction of the volatility of the underlying asset over the life of the option.
Another way of looking at it is that implied volatility is the volatility implied by the market price of the option based on an option pricing model. In other words, it is the volatility that, given a particular pricing model, yields a theoretical value for the option equal to the current price. It usually rises when the markets are in downtrends and falls when the markets are in uptrends.
Historical volatility: Also known as statistical volatility, is a measurement of how fast prices of the underlying asset have been changing over time. Because historical volatility is always changing, it has to be calculated on a daily basis. It?s stated as a percentage and summarizes the recent movements in price. In general, the bigger the historical volatility, the more an option is worth.
So now that we know a little more about what volatility really is, let?s get down to why we think your clients are better off with something more consistent.
The Stock Market
The stock market is based on the concept of high risk, high reward. You have a higher reward when it comes to percentages and return on investment but all of this comes at a much higher risk of losing that investment. For example, the Dow Jones Industrial average return on investment is nearly 5% annually while other options like fixed index annuities may be something like 2% to 3%. While the rewards of investing in stocks may be higher, we think that clients that are coming up on their retirement would be better off rethinking their options and choosing something with fixed rates.
Nassim Nicholas Taleb, a Lebanese-American essayist, scholar, statistician, and risk analyst, said, ?Fragility is the quality of things that are vulnerable to volatility.? While this may be a bit extreme, there is definitely some truth to it. Volatility most certainly has the trait of fragility at times. Think back to the recent stock market declines in 2002 and 2008 and you?ll realize just how fragile it can be. When will the next one be? That is why we say it?s time to suggest other options to the clients who look to you for wise counsel.
SilverSide Knows Best
If you want to learn about what SilverSide has to offer when it comes to these types of options?for your clients’ investment portfolios,?visit our Agent Resources page or give us a call at 480.400.7171!