Things to Consider: Risk and Diversification Among Other Things

Beginners and seasoned investors alike need to take into consideration risk and diversification in one’s investment portfolio to sleep soundly at night. If anything, this past year should also have everyone evaluating one’s investment advisor as well as the risk & reward of an investment as this month marks the one-year anniversary of the arrest of Bernie Madoff and history’s greatest investment crime ever perpetrated. His wrong doing brought to the forefront investment advisor fraud and malfeasance, and we continue to read about similar type ‘schemes’ day in and day out. Yes, lots of bad stuff happens every day to investors… a lot more than you think.

In academic financial research, there’s a concept called “agency risk.” You incur this risk when someone who is acting as your “agent” has a set of interests that conflict with yours. We’re surprised at how little investors appreciate the magnitude of agency risk. Whether you invest in a hedge fund, a mutual fund, a public company, a private investment partnership, a venture fund, or your friend’s yogurt store – you are exposing yourself to agency risk. Managing your own diversified portfolio of ETFs dramatically reduces agency risk.

Investment fraud and agency risk is rampant. Small mistakes can cost you dearly. Over the holidays, think about your investments and who really has control of your money. Ponder the risks you might be assuming with having “agents”.