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Volatility measures changes in price. Price is a measure of sentiment. Volatility measures changes in sentiment.<\/p>\n\n\n\n
Most of the time, it is impossible to tell the difference between the two. <\/p>\n\n\n\n
Exhibit A: AIG<\/h2>\n\n\n\n
American International Group, AIG, had enjoyed a AAA rating for 22 years and had been just one of eight US companies to hold the top rating from both S&P and Moody’s.<\/p>\n\n\n\n As mortgages started to go bad, AIG stock began its long journey to zero from July 2007. During that time, a majority of investors thought that every dip was a buying opportunity.<\/p>\n\n\n\n The problem with trying to be too smart about \u201cvolatility\u201d vs. \u201crisk\u201d is how do you know what is priced-in vs. what is panic-selling? <\/p>\n\n\n\n Panic is good only if you panic early, and as a trader the first thing you learn is to panic early. – Nassim Taleb<\/em><\/p><\/blockquote>\n\n\n\n Discretionary investors wax eloquent about the strength of their conviction. Having done their homework, they claim, they have the \u201cdiamond hands\u201d to hold onto their investments during bouts of volatility and to buy the dip. <\/p>\n\n\n\n However, these narratives are heavily driven by survivorship bias. You will never hear about conviction and diamond hands from investors who bought the dip in Bear Stearns, Suzlon or Kingfisher Airlines.<\/p>\n\n\n\n As an investor, you get no points for being a hero. If there is a whiff of something unpleasant, it is better to get out of an investment entirely, take a beat, re-evaluate, do a relative-value assessment to figure out how it compares to other opportunities and only then decide whether you want add it back to your portfolio.<\/p>\n\n\n\n Exit first. Ask questions later.<\/p>\n\n\n\n Losers average losers – Paul Tudor Jones<\/em><\/p><\/blockquote>\n\n\n\n We have all seen the Whatsapp forward about compounding: (1 + 0.1)^10 = 2.59<\/strong><\/em> i.e., 10% compounded over 10 years will turn every rupee into 2.59 rupees. Rarely do you see the reverse: a 50% loss requires a 100% return to get back to even.<\/p>\n\n\n\n If you care about compounding your portfolio, stop compounding your losses!<\/p>\n\n\n\n \u2026 and risk management is not free.<\/p>\n\n\n\n Most investors focus on the glamor part of the process: scuttlebutt stock-picking to find the rare \u201chidden\u201d gem that will 100x in 5 years. They would have better odds buying lottery tickets instead.<\/p>\n\n\n\n There are plenty of investors who became millionaires simply by grinding away at harvesting risk premia and managing risk. <\/p>\n\n\n\n Avoid blowing yourself up and allow statistics to do play out.<\/p>\n\n\n\n Risk Management Is Not Free: Part I<\/a>, II<\/a>, III<\/a><\/p>\n\n\n\n The only investors who shouldn\u2019t diversify are those who are right 100% of the time. – Sir John Templeton<\/em><\/p><\/blockquote>\n\n\n\n There is a big difference between the advice professional investors give to other professional investors (like the ones above) and the advice that savers<\/em> need to follow. The media often focuses on the former because it is exciting and there\u2019s always something new whereas the later is mostly timeless and boring.<\/p>\n\n\n\n The media\u2019s sampling and survivorship bias ensures that only large, successful, telegenic professional investors get the spotlight. And media\u2019s short attention span ensures that most of them are never held to account for their pontifications. As far as the media is concerned, the only crime is to be boring. <\/p>\n\n\n\n The tragedy is that there are only so many ways in which you reframe \u201csave into a diversified portfolio by dollar cost averaging into a low-cost, broad-based equity fund and a short-term bond fund.\u201d So it is guaranteed to never get the airtime in proportion to how important it is.<\/p>\n\n\n\n![\"\"\/](\"https:\/\/bucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com\/public\/images\/7f35e54a-12b9-49d5-8f33-ef54de09c540_1400x800.png\")
<\/figure>\n\n\n\nIf you are going to panic, panic early!<\/h2>\n\n\n\n
Compounding works both ways<\/h2>\n\n\n\n
![\"Paul](\"https:\/\/bucketeer-e05bbc84-baa3-437e-9518-adb32be77984.s3.amazonaws.com\/public\/images\/a433bae4-e67c-4202-9903-66f34979fd90_850x400.jpeg\")
<\/figure>\n\n\n\nInvesting is risk management<\/h2>\n\n\n\n
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\n\n\n\nDiversify and Rebalance<\/h2>\n\n\n\n