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2017.03b

Down markets are bad, but recovery is worse. It is hard to grasp the fact that a 50% drop in value requires a 100% market improvement for complete recovery. Look at the red curve reflecting performance of an all-stocks portfolio that lost 59% of its value in the 2008-2009 Great Recession; it had to improve by 144% for full recovery and a year later only reached the 90% mark. For contrast, look at the orange curve for a half stocks/half bonds and cash portfolio: within a year it had recovered to values 5% beyond its 2007 peak. Portfolio assets are identical from curve to curve, but equities and fixed-income allocations vary. On the illustration, fixed-income assets (bonds and cash) increase from 0% to 100% from the top down; portfolio curves flatten as fixed- income allocations increase and performance volatility decreases. Conversely, allocations for equities (stocks) increase from the bottom up. The red curve (all-equities) portfolio recovered fully in about 5 years, but the orange curve (50% equities/50% fixed income) portfolio recovered within a year… and the lower blue curve (all fixed-income) portfolio did not lose value at the 2009 market bottom. Which curve would you choose for your portfolio?

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