Moon Shot
This story is about a real-life experience had by my business partner, his son, and his nephew this summer. It was one of those hot summer days. Parents and kids alike looking for respite from the heat. Fortunately, the in-laws’ neighbors have a pool and they graciously allow access this fateful afternoon. (Full disclosure the pool owners happen to be super great folks and clients of OnTrack.)
Dad/Uncle – a.k.a., Jimmy Burns of OnTrack – tells son and nephew to shoot some basketball shots on the pool’s basketball hoop. Seeking to amp up the fun, Jimmy offers a bet he thought would never pay out. “$100 to the first one who makes a moon shot,” yells Jimmy to the boys. “A moon shot is tough to make! You got to shoot from the diving board on the far away side of the pool for it to count.” And it was indeed a tough shot, probably 50 feet out.
Naturally the boys are energized! $100 is a lot of money for anyone, but especially a couple of 7-year-old boys. Full of confidence, they see themselves as skilled shooters just like Stephen Curry sniping three pointers from waaaayyyyy outside!
After a few dozen shots never get close to scoring, Jimmy offers the boys an interesting deal. “I will give each of you $50 if one of you makes the shot.” Both boys dismiss the offer without thinking. Back to shooting they go…
Time passes. More shots. More misses. Jimmy perks up again, “You guys sure you don’t want to take me up on my $50 offer to each of you if just one of you makes a bucket?” This time his nephew gives it some thought, but to no avail as his son has confidence that he will be the one to make the shot. “No deal Dad!” Back to shooting they go…
Minutes later the unthinkable happens! Jimmy’s nephew drains the moon shot and takes home $100!!! Jimmy’s son is devastated! Tears pour down his cheeks. He cannot believe that he didn’t score first. To Jimmy’s credit, no prize for second place.
We thought it would be interesting to illustrate the lessons and connective tissue of this real story to real investing. Read on…
Lesson #1 Concentration Risk
Concentrating all one’s risk into the hands of one person makes a tough shot even tougher to make. One person can only take one shot whereas two can literally double the number of shots, greatly increasing the chances of scoring. Investing Insight: putting large percentages of one’s money into one asset is risky. Reduce that concentration to a reasonable percentage and increase chances of winning by investing in more than one asset. Ideally invest in multiple asset classes and dozens if not hundreds of individual assets (see diversification below).
Lesson #2 Hedging Your Bets
As the odds of winning reduce (i.e., a moon shot!), it’s sometimes good to hedge a little bit. Is there an opportunity to create small-to-medium-size wins without going for broke? How about a way one can take the sting out a shooting cold spell? Investing Insight: there are ETFs that offer hedging to limit downside risks; they are very cost effective and allow investors to achieve modestly good returns. Once the domain of insurance companies known to charge high fees for such products, some hedged ETFs offer a balance point for those looking to reduce market volatility and improve consistency of upside returns.
Lesson #3 Diversification
Diversifying risk takes a variety of forms. Having multiple shooters is critical because sometimes one shooter is hot and the others are not. Investment Insight: different asset classes will perform differently under the same exact circumstances. Having non-correlated assets helps your overall portfolio perform or even outperform benchmarks during good and bad market times alike. Stocks and bonds are considered noncorrelated assets. Owning both in a portfolio is a hallmark of good diversification.
Happy shooting this summer!!!