Why rehearse? An average year does not test you
Portfolios look alike on a good day. The difference between them shows up on a bad one.
#A portfolio shows its character at the extremes
In a rising market almost every portfolio looks good. Differences in strategy, discipline, and risk are all hidden on a good day.
The real test happens in the worst quarter. And when that quarter arrives, there is no time left to prepare.
#The deception of the average
"The long-run average return is X" may be true, but it says nothing about survivability. Because:
- You do not live the average; you live the path
- If your portfolio falls hard in the middle of the path, you may exit before reaching the average
- Once you exit, that average never happens for you
So the real question is not "what is the average?" but "what happens in a bad scenario, and can I stay invested through it?"
#What does a rehearsal measure?
A stress test reveals three separate things:
Most investors think only about the first. Yet it is the second and third that actually end portfolios.
#When do you rehearse?
The answer is simple: while calm. Analysis done during a crisis is not analysis, it is panic management.
The right times:
- When you first build the portfolio
- When you add a large position
- When your mix drifts noticeably from target
- At least once a year, as a routine
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