What paintball can teach about investing
This past weekend I ventured out for a round of paintball for my son’s birthday. For those who haven’t played it isn’t just a free for all, as there is a multitude of different games that require varying strategies for success.
I learned this rather quickly given the direct relationship between risk taking, making mistakes and pain — as evident by the many welts on my body. Like paint ball, there are three important lessons for investors that we think will not only help capture the flag but minimize the damage done to a portfolio along the way.
There isn’t always safety in numbers
What they say about the perceived safety in herds is true as I felt much more secure knowing I had others around me. Although the risk of getting hit with a paintball was the same if not greater because of the concentrated positioning, my perception was that the overall level of risk was lower.
Interestingly, while most of us were conservative at first, all it took was one or two brave souls to charge forward without getting hurt before the rest of us would join in. However, this wasn’t always the best strategy as the herd at times headed in the wrong direction resulting in an ambush and a barrage of paintballs.
The same can be said about investing, as people find comfort in what others are doing and join in for fear of missing out. For example, the level of risk surrounding something like Bitcoin has not changed over the past 12 months despite all of the attention it has recently garnished from mainstream investors. In fact, we would argue that it may face even greater risk given the return chasing that has pushed it to what could be dangerous levels, should new buyers fail to materialize.
Divide and conquer
One strategy that worked particularly well was when the team divided up into smaller groups each with a different approach toward the main target. This dramatically increased our odds of successfully reaching our objective, especially when each group knew what the other groups were doing.
Taking the same diversified approach to investing also helps increase the odds of meeting your goals and objectives. This means dividing up a portfolio into categories that vary in risk, including a lower-return stay-at-home defensive portfolio and a couple of higherrisk, higher-return portfolios whose weightings depend on what has been outlined in the investment policy statement.
The key is co-ordinating this diversification while knowing full well that each portfolio will have a different approach and not all will perform the same.
Adapt to the conditions
We learned that deploying previously successful strategies in a different game not only didn’t work but also at times proved to be catastrophic. For example, if we deployed more of an aggressive approach when playing capture the flag we risked exposing our own flag to the enemy, which meant losing the game instead of guaranteeing a draw would be the worst-case scenario.
The same can be said for investing, in which different levels of risk should be taken at different times in the market cycle. Unfortunately, human emotion often steers us to doing the opposite of what we should be doing, such as deploying too defensive of a strategy during market lows while taking on too much risk during market highs.
This is evident in today’s environment where investors have drawn down cash levels to decade lows by stepping in to buy even more of the U.S. equity market that has not had a five per cent or more pullback for one and a half years — the longest in recent history.
This peak level of complacency is a concern considering the market is at all-time highs sending valuations to levels not seen since 1929 and 2000. At the same time you have the ongoing political environment in Washington, and global geopolitical risks such as Iraq and North Korea.