Rick Kalb: What Sancho Panza can teach us about investing
Would Don Quixote — famously known as an idealistic, tragicomic hero — have been as memorable if it weren’t for the advice of his faithful but cowardly squire, Sancho Panza?
It was Panza, after all, who quipped, “It is the part of a wise man to keep himself today for tomorrow, and not to venture all his eggs in one basket.”
You see, while the leaders, champions, presidents, and heroes often grab the headlines and accolades, the wisdom attributed to them is usually handed up from assistants, coaches, staff members, or even, yes, the lonely squires.
Panza’s sage advice about all eggs in a single basket, originally extracted from a translation of the 17th-century novel Don Quixote, is the backbone of a well-thought-out investment portfolio.
Diversification might be one of the least sexy words I have to say to my clients on a daily basis.
When clients insist that a certain stock, sector, or industry is red hot and they want to go all in, I have to be the voice of sanity that steps in to save them from themselves. That voice that I bring forth, when openly received, puts the lens of sobriety over their inebriated vision of reality.
One reason my argument makes sense? It’s based on a long, unarguable, unemotional history of the financial markets while an investor’s argument is often based on a feeling, a hot tip, or a friend named Earl.
Often it happens innocently enough; the investor has a bit of early luck with a certain stock (or another investment vehicle) and continues to buy more and more. Maybe he even liquidates other investments to buy more of this “jackpot.”
Before he knows it, he’s over-accumulated that one investment and it tanks — and he sinks right along with it.
This is where my unsexy talk about diversification could have saved him.
Based on his age, goals, portfolio, and other key factors, that investment that he so fervently believed in could have fallen off the cliff and may have still been on track for his long-term plan.
One of the most painful “diversification denier” stories still haunts me about an investor who had all of his investments in real estate. I mean all of his investments. On top of that, he was a Realtor.
His planner used every single ninja trick she could muster to get him to diversify. He wouldn’t have any of it. She fired him as a client because she didn’t want to see the crash. It was six months shy of 2008 and you can guess how this story ended. It’s so hard to watch people make decisions that are not in their best interest.
Investing is an art form. Too often I see investors treating it like an emotionally driven hobby which leads to huge losses, shame and regret. Having to witness this over and over again is the only down-side of my chosen profession.
Plain and simple, diversification lowers your exposure to risk. It states that, over time, a variety of investments will yield a higher return than any single-focused portfolio.
In investing – as with health, and long-term houseguests – a good defense starts with a great offense. A good financial plan that addresses both risk management as well as a diversified portfolio, are the best defense. Not to mention a mandatory two-day limit for houseguests.
The time to practice diversification is before it’s a necessity. By the time most investors react to a market correction or downturn, the damage may have already been done.
A well-diversified portfolio will help reduce the rise-and-fall patterns of the financial markets within the portfolio.
So while our friend Don Quixote may have indeed gone mad from reading too many books about chivalrous knights, he longed for a sense of purpose and beauty.
To that end, diversification might be the exact basket in which the smart investor indeed chooses to place all of his or her eggs.
Rick Kalb is a Representative of Northwestern Mutual Wealth Management Company®, (NMWMC) Milwaukee, WI (fiduciary and fee-based financial planning services), a subsidiary of NM and federal savings bank. All NMWMC products and services are offered only by properly credentialed Representatives who operate from agency offices of NMWMC. Representative is an Insurance Agent of NM, and Northwestern Long Term Care Insurance Company, Milwaukee, WI, (long-term care insurance), a subsidiary of NM, and a Registered Representative of Northwestern Mutual Investment Services, LLC (NMIS) (securities), a subsidiary of NM, broker-dealer, registered investment adviser and member FINRA and SIPC.
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