Investment Technology Designed to Help Investors Succeed

The primary reason investors struggle to achieve their retirement goals is a misalignment between their investment strategy, long-term financial plan, and "dollar-based loss tolerance". This disconnect often triggers emotional decision-making, particularly during market downturns. Many investors succumb to panic, selling at market lows, or chase returns by buying high and selling low, compounding their losses and undermining portfolio growth. These reactions not only diminish returns but can also derail even the most thoughtfully designed retirement plans.  

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The Cost of Emotional Decision Making

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Behavioral biases, particularly during bear markets, are a significant driver of underperformance. Studies show that investors consistently underperform market indices, largely because they fail to understand market volatility, the potential for losses in bear markets, and how these align with their personal risk tolerance.

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The DALBAR study highlights this issue:

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• Over a 20-year period, the annualized return for the average equity investor was 6.8%, compared to the S&P 500’s 9.4%.

• This 2.6% annual gap, driven by poor timing and emotional reactions, compounds into significant underperformance over time.

 

The root causes of this gap include:

 

• Loss Aversion: Investors feel the pain of losses 2–3 times more intensely than the pleasure of equivalent gains, often leading to panic-selling during market declines.

• Overexposure to Risk: When investors take on more risk than they can tolerate, escalating losses prompt emotional exits.

• Poor Market Timing: Many attempt to time their entry and exit, missing critical recovery phases and locking in losses.

 

Mismanaging Risk is a Critical Misstep

 

A major reason for this underperformance is that investors struggle to understand and manage risk. Traditional portfolio labels like “conservative,” “moderate,” and “aggressive” often confuse rather than clarify. Risk, as communicated by advisors and institutions, tends to be abstract, expressed in percentages or broad categories that don’t resonate with most investors.

 

Instead, investors think of risk in dollar terms. When shown a potential loss on their total invested capital, they can often identify the precise dollar amount that exceeds their pain threshold and would lead them to abandon their investment plan. Without this clarity, many investors unknowingly take on portfolios that are too risky, leaving them vulnerable to bailing out during turbulent markets.

 

Closing the Performance Gap

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To align your overall investment plan and appropriately blend strategies, you need to understand these two key factors:

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1. Required Rate of Return: Determined through a financial planning process, this involves discounted cash flow analysis that accounts for variables such as current income, expenses, investment assets, expected retirement income, inflation, taxes, and longevity. A well-designed portfolio targets the investor’s return needs while maintaining a manageable loss profile.  

2. Dollar-Based Loss Tolerance: By simulating potential losses in dollar terms, investors can identify the threshold beyond which they are no longer comfortable. This understanding ensures they can remain committed to their strategy through market downturns, reducing the risk of emotional reactions.  

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Portfolios should be tailored to align with an investor’s unique financial goals and risk tolerance. A properly constructed portfolio instills discipline, helping investors weather market volatility and avoid impulsive decisions that could derail long-term success.  

 

Adopting a Disciplined, Rules-Based Strategy

 

To effectively manage risk and minimize emotional decision-making, investors can adopt a rules-based, dynamic investment strategy. By blending management styles across a portfolio or multiple portfolios—such as cash hedging with trailing stops, trend following, active indexing, or optimized defensive allocations with specific loss targets—investors can limit downside exposure while preserving growth potential. These structured approaches remove emotional bias, enabling investors to stay disciplined during periods of uncertainty.

 

Achieving your investment goals requires a disciplined investment approach that aligns risk with long-term objectives. By accurately assessing risk tolerance, building personalized portfolios, and adhering to structured, rules-based strategies, investors can overcome behavioral pitfalls, minimize underperformance, and remain on track for financial success.