Physician Finances: Pursuing Optimized Investment Outcomes by Balancing Risk vs. Reward
By: Andy Reynolds, CFP®, MBA, CEPA
“Bro, THAT stock is now worth over a million dollars; it paid for all of this and my entire trip!”
As I sat on the chair lift while skiing a few weeks ago, I heard someone barely out of undergrad touting to his friends about his Nvidia stock. What once was a $10,000 gift from his dad a decade ago, is now worth well over $1,000,000 and paid for the lavish Burton snowboard dangling below the chair lift. “I’m never selling that stock, I’m a millionaire!”
Stories like this can be heard across the country in the back of Ubers, in bars, at dinner parties, etc. The recent explosive growth within the Magnificent 7 stocks – Alphabet (Google), Amazon, Apple, Meta (Facebook), Nvidia, and Tesla – has created massive wealth across the world, while also making investing “fun” again. Since March of 2009, the S&P 500 is up more than 700% point to point, with a relatively straight path, minus COVID and a brief V-shaped sell off and recovery in 2023/2024. Maybe “fun” is the right word to use as we look back over the past sixteen years.
However, when we look back further throughout history – Financial Crisis, Dot.com Bubble, Black Monday, etc. – investing has not always been so “fun.” And we likely will experience challenging times again as we navigate through the next sixteen years. So, what should a person do when balancing investment growth with protecting the hard-earned money?
#1: Risk Tolerance + Emotions – The most significant cause of true wealth loss for investors is due to a misaligned portfolio design with an investor’s tolerance for market volatility. A great example of this was in March of 2009, during the bottom of the financial crisis. During that month, which was the trough, retail stock mutual funds experienced the largest exodus of investors dollars. This resulted in investors missing a significant portion of the market rebound and thus experiencing true loss. While market pullbacks are not enjoyable for anyone, investors MUST have a portfolio designed with the investor’s emotional stability in mind.
#2: Liquidity – Risk tolerance and emotional stability is largely established by understanding the liquidity need from a portfolio. If you are 30 years old and have all your investments in a 401K, does it impact you if your investments lose 40%? Probably not, you likely can’t even access the money without some sort of loan/hardship. Alternatively, if you are nearing or currently in retirement, the liquidity need from a portfolio is imperative. These investors tend to be the most susceptible to poor choices during times of market volatility. Designing a portfolio for stability and liquidity is incredibly important at this phase of life. Unfortunately, there is not a one size fits all approach because each person’s liquidity need is different based on their own situation. Preplanning for liquidity needs is one of the most important aspects to sound portfolio management.
#3: Portfolio Construction – Diversification is the cornerstone of constructing a portfolio, but most are unintentional about how or why they diversify. Proper portfolio construction should primarily be based on the two factors previously discussed: risk tolerance and liquidity need. Taking the most extreme examples… Why does a Target Date Retirement Fund seeking retirement in 40 years own bonds? Similarly, why does a 75-year-old taking a 1% portfolio withdraw own bonds? The answers to these questions should be very well identified/understood and likely are primarily derived from risk tolerance and liquidity needs.
#4: Buy Low & Sell High – In the simplest terms, this is Investment Management 101. In practical terms, this is extremely difficult for individual investors. Investors enjoy touting their large gains on high flying stocks and their biases (outcome bias, confirmation bias, familiarity bias, etc.) often justify holding onto the stock long past its peak performance. While we all have biases, disciplined investing with fundamentals at the core should dictate investment decisions during the portfolio management process. Think about today’s market… how are valuations affecting the current investment management process?
#5: The Role of Tax Planning + Placement of Assets – Within the components of investment management, achieving favorable returns is often the primary, and sometimes sole objective. However, investors are increasingly recognizing that tax benefits (and consequences) have a significant impact on how much of the return is actually captured. In today’s environment, proper investment management must include tax strategies such as tax-advantaged accounts, Roth ownership, capital gains/dividend tax planning, tax loss harvesting, asset location optimization, etc. These decisions should be comprehensive across the portfolio and within a multigenerational financial plan.
Physicians often find themselves in complex financial scenarios due to high incomes, intricate investment opportunities/plans, debt management needs, and risk management challenges, coupled with opportunities for generational wealth. Navigating this intricate and ever-changing landscape requires both deep and wide expertise, time and effort, and a desire for continual, life-long learning.
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