Conservative investing is an abused term

Are you a conservative investor? In these past couple of weeks as markets express their concerns over the economy, I've had many people email me perplexed about what is happening and how they could have lost so much money with conservative portfolios. How can all these conservative investors be losing so much money?

Since the last bear market of 2001/2002, it's been trendy to be conservative. As our population ages and baby boomers head closer and closer to retirement, one would expect that Canadians would naturally become adverse to risk. Why then are so many conservative investors feeling the sting of the market?

Firstly, low interest rates are partly to blame. At one time, you could invest in a GIC and earn healthy double-digit returns guaranteed with no risk. Today, guaranteed investing is not very attractive given GIC rates between 2% and 4%. Many investors are looking for alternatives like mutual funds and stock markets to earn higher rates of return but ultimately that means more risk in their portfolios.

Secondly, many financial advisors and institutions are geared to providing investment solutions using some form of managed portfolios. It's not easy finding staunch supporters of the good old-fashioned GIC these days.

Thirdly, there is a big disconnect when it comes to defining and understanding risk between the investor and the industry. The industry looks at risk on relative terms. For example, a fund manager can lose money but if it is less than the average or a relative benchmark, it's not too bad. Investors, on the other hand feel that losing money is not a good deal no matter what you compare it to.

The biggest problem as I see it is there is no universal definition for what conservative means. If you think about it, conservative investing for a 75 year old is likely to mean something different than conservative for a 45 year old. I think the word conservative is over used and abused. And given these volatile markets, more and more people are likely to jump on the conservative bandwagon.

The reason it is so hard to define conservative is simply that conservative is a feeling. It comes from the stomach and the heart. Not only will different people define conservative differently, but we all change how we feel about investing on a regular basis.

It's time to define conservative investing differently. It's time to try to quantify risk. Here's two tips on how to better quantify risk.

1. What is the most you can afford to lose? In technical terms, we call this downside risk management. In the non-guaranteed world, you may lose some money at some point in time. What is your comfort zone? 5%, 10%, 20% or more. Most conservative investors would prefer to minimize losses but what's your threshold?

2. How often can you deal with loss? If you think about it, the last bear market we had happened in between 2000 and 2002. That was about 6 years ago, which is a normal time frame for cycles to occur. Determining an investments chance of loss means understanding how often an investment has lost money versus making money in the past.

Most of us agree that understanding risk is very important to the investment process. Rather than generalize risk with generic terms like conservative and aggressive, it's time to look at risk in greater detail. Conservative investors need to take the time to understand risk, find ways to quantify risk and then select appropriate investments. Any investor that takes the time to go through these steps will be more comfortable with the investment choices they make.

Jim Yih is a financial expert, author, columnist and professional speaker. He can be reached at jim@retirehappy.ca or through his other website www.wealthwebgurus.com.