As the long-term chart of the S&P 500 below demonstrates, the ideal time for investors to be considering an active investment strategy that incorporates risk management is after a long period of smooth, upward returns that leaves the index on the higher end of the valuation spectrum. This is when investors have been at greatest risk of loss in the past and an active risk management strategy could add the most value to their portfolio.
Unfortunately, most investors are inclined to do the exact opposite. They only start thinking about active risk management at the end of a bear market after they have already incurred a large drawdown.
But by the time the media is talking about a recession, it is often too late. At that point, investors should actually be moving in the other direction, seeking out more exposure to constant beta strategies as valuations are favorable and risk of permanent loss is diminished.
As we close out 2013, it has certainly been a remarkable year for U.S. equities and a remarkable five-year run from the end of 2008. While tempting to assume the next five years will bring similar gains, the intelligent investor will be considering the possibility that the future may look different.
If this is indeed the case, the time to protect against a risk of loss in the future is not when buy-and-hold is dead, but when buy-and-hold is alive and well.
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