In choppy and down markets it’s natural to be nervous … so, it’s no wonder that investors start to look at funds that purport to ‘guarantee’ your initial capital, your return, or some combination of both.
I have a close friend who is a financial adviser, who works strictly on a fee basis, yet his practice is associated with the products of one major insurance and fund management company.
He was telling me of the rise of these Absolute Return funds that work on the basis of not only guaranteeing the original amount that you invested, but also lock in your returns to date …
– in other words, if you invest $1,000 this year and the market falls, the fund guarantees to pay you back at least $1,000
– then next year is a good year for the market and your fund increases by 10%; now the fund guarantees to pay you back at least $1,100
– but, next year there’s another market crash and the market drops by 15%; but, the fund STILL guarantees to pay you back at least $1,100
– if you remain with the fund and the market eventually totally recovers, as soon as the fund value rises above your new $1,100 ‘guarantee’ then so does your return.
There have been plenty of systems that have produced similar results … they usually do this by some combination of insurance and/or derivatives (e.g. stock options). In fact, you could replicate some of these results for yourself simply by buying the right type and duration of stock option along with the underlying stock (or index).
The problem is that all of these end up costing you money: the insurance premium and/or options are bought out of your initial (or ongoing) investments. The ‘cost’ of these ‘guarantees’ comes as some combination of increased fees or reduced returns when compared to a similar fund that does not offer the ‘guarantee’ …. it’s that simple.
You can provide yourself a similar – or better – result at far less cost: buy a low-cost Index Fund and wait 30 years to cash it out; I can virtually ‘guarantee‘ an 8.5% minimum return 🙂
Or you can just sink all your money into a Ponzi scheme and take your chances 😉
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Here’s a prediction for you….In about 5 years the NIKKEI index will show you to be completely full of it even at your 30 year timeframe. If you had picked up the NIKKEI 225 in 1990 you’d now be down 75% just on your principal. Fun! If you had picked it up in 1985, you’d be about even today, which is still an absolutely massive loss against inflation. Your entire premise has a market survivor bias built into it to which you are blind. There simply are no guarantees.
@ Rufus – Good point! However, mine was to “virtually ‘guarantee‘” simply based upon the fact that the past 75 years of the Dow Jones have seen NO 30 year periods (including buying in the day before the biggest stock market crash in history) of less than 8.5%.
I’m not sure whether Japan could claim anything remotely approaching the same track record, nor were its fundamentals the same as the USA.
Of course, ONE DAY, the will be a 30 year period where this does not hold true for the USA either, but by then I’ll be learning to speak Mandarin Chinese 😉
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