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Higher Returns

I believe that higher returns do not mean higher risk. Let me say it again: I believe that higher returns do not mean higher risk.

Albert Einstein stated: “No matter how, where or when or by whom measured the speed of light in a vacuum is constant.”

That sums up the scientific method. There are no exceptions. NONE! If someone were to find an exception, the whole theory is invalid.

Since Irving Fisher in the 1920s, economists have been trying to find the theories and laws that govern the stock market. The “Efficient Market Curve” has been proposed and is generally accepted as rational and logical. It is the concept that the higher the performance the higher the risk. If it is true in the scientific sense, like the speed of light, then there can be no exceptions. NONE.

Not only can I find one exception, I can find multiple examples where the highest risk was in stocks where the returns were lower.

For example, the Eastman Kodak company from 1990-91. owned 90% of the world film market and 85% of the camera market in the 1990s. The stock price of Kodak doubled in the 1990s, growing at a compounded average of 7% per year.

During that same period, McDonalds grew more than four and a half fold, a rate of 16% per year.

Intel grew more than 38 fold, or at an annual rate of 43% per year.

Now, given the theory of the Efficient Frontier, part of the Rational Market Hypothesis and Modern Portfolio Theory, would you say that Intel was the riskiest of the three stocks? Would you say Eastman Kodak was the safest, least risky stock of the three?

In fact Eastman Kodak was on the verge of bankruptcy. Even though Kodak had invented the digital camera in the 1970s, they were on their way to dying. It was by far the riskiest stock.

That is but one example. There are many more, a number of which have declared bankruptcy during this pandemic. During the last few years and now during the pandemic they all had lower returns than most of the stocks in my clients’ portfolios.

In my opinion, higher returns do not mean higher risk.

The AFC Incentive Profit Sharing account’s return is not just luck. The structure of the portfolio is patterned after long/short hedge funds. James P. Owen calls that structure conservative in his book The Prudent Investor’s Guide to Hedge Funds. The AFC Inventive Profit Sharing account is not a hedge fund, but the structure is similar. The other part of the better performance is the stock selection.

I do not know what the volatility will be with the Profit Sharing Account. Since the launch in February of 2020, there has not been a sustained down period. In the downturn of March 2020, the account was buffered by the short positions. But that was only four months or so.

What I do know is this: higher performing stocks are not necessarily higher risk and lower performing stocks are not necessarily safer and less risky. Just the opposite may be true. Higher performing stocks may be less risky than low performing stocks.

In other words, unlike the constant of the speed of light, the theory that higher performance is higher risk is by the scientific method proven false by showing exceptions, and is therefore not valid.

Watch the video.

Mike Adams

Notes:

  1. Adams Financial Concepts (AFC) Incentive Profit Sharing (PS) Accounts results are net of all costs and expenses. The results are net, net, net.
  2. AFC Incentive Profit Sharing Accounts are not appropriate for qualified accounts. The structure of PS accounts requires leverage for both the long and also requires short positions. Neither leverage or shorting is permitted in qualified accounts.
  3. AFC PS Accounts returns as of February 1, 2020 include all active accounts as well as any closed accounts. As of the date of this note there have been no accounts closed.  
  4. The objective for all AFC PS and Managed Accounts in these tabulations have a common objective: “Beat the S&P 500 over the longer-term (10 years)”.
  5. AFC PS Accounts are concentrated in 8 to 12 securities on the long side and concentrated on the short side as well. Concentration may increase volatility.
  6. AFC PS Accounts include capital gains and losses, both realized and unrealized, but do not include the impact of taxes on capital gains.
  7. Minimum Account Size: Per Washington State Code WAC 460-24A-150 There has to be $1 million USD under management with AFC which can be split between both PS and Growth Accounts. In addition, client must have a net worth of $2.1 million USD excluding home.  
  8. Past performance is no guarantee of future returns.
  9. S&P 500 Index includes dividends reinvested.
  10. This summary does not constitute an offer to sell or a solicitation of an offer to buy any securities or to enter into any investment advisory relationship and may not be relied upon in connection with any offer or sale of securities.
  11. “Luck versus Skill in the Cross-Section of Mutual Fund Returns” published in The Journal of Finance, October 2010 by Eugene Fama and Kenneth French.

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