How to use standard deviation to determine volatility of a portfolio

We all learned standard deviation in our statics course during high school and we have solved a lot of math questions associated with this concept in classes. But do u know that it can be used as volatility measurement of any given portfolio. It served as important indication how risky one potential investment relative to another in consideration. Let's look at two hypothetical assets with 6 years annual gains. I guess majority of investor will choose Asset B. But let us examine further and calculate the standard deviation.

Asset A with standard deviation 9.52 is expected to be able to generate annual return between 3.48 (13 - 9.52) and 22.52 (13+9.52) wheres Asset B with standard deviation 29.44,32 is expected to be able to generate annual return between -14.44 (15-29.44) and 44.44 (15+29.44) in 2/3 of the time which approximately thirteen out of every twenty years. So obviously Asset B is more risky and volatile although Asset B have bigger average return. In fact, Asset B annualized return is 11% compare to almost 13% of Asset A. Another measurement that can be used to measure volatility is risk drag which have discussed in here.

Be your own steerer when travel in finance ocean

Everyday there are lot of hypes,tips,news and financial pandering sprung out like mushroom after rain. Are u able to distill the gem out? Have you accessed your risk tolerance? Have your plans being twisted by your agent who try to fight for their yearly sales target? Are they qualified in the first place?

As an investor I always want the freedom of

• able to choose my cashing tools from big pool of available investment vehicles.
  
• create my portfolio with the lowest cost
• access my portfolio report anytime anywhere at my own convenience
• trade in my own pace and react fast to circumstances
  
• test out strategies learn from books
• access third party review of finance product information concerned and facts
• receiving high quality services from finance institute who charge premium

I choose to spend more times understanding the game and become an informed consumer. My method is through reading and practicing. I use visualization to picture the success moments to strengthen my faith towards any decisions made.

Remember this your wealth will only increase to the level equivalent to the efforts you are willing to spend.

I have taken my first step to reach my current destination. I'm seeing a bright picture waiting in front.

Tips: No 2 of 36 tips of Wealth Creating: Write yourself SMART check

You want to start investing as mean of wealth accumulating. Let's begin with the end in mind.Have you asked yourself how much money you need to acquire to become rich as defined by yourself? How much money is rich? Well, everyone have his own figures as it depend on one's life style and expectation and it only matter to the individual who set up the target. The important thing is you should not just say "I want to be richer." or "I want to earn more money".This is a vital question u need to think through. With a definite figure, it eliminate ambiguity and give you target to chase after. By then only we can derive plans, strategies and choose the appropriate vehicles. The more definite of your target, the more complete of your investment plan thus chances of become wealthy increase. This is extremely important for most of us who live check by check. You are not afford to lose money.Let's imagine now you are issuing a check to yourself. You precisely specify the figure and the duration. To avoid bounced check, you cant pluck the figures from sky and it highly depend on your result of your investment. Financial adviser recommended we should act prudently in this regard and strictly adhere to S.M.A.R.T. S.M.A.R.T is acronym to Specific, Measurable, Achievable, Realistic, Time frame.

Specific : When you plan your financial goal, you need to be as specific as possible. "After several years, I would buy myself a house" is lame. What do u mean by several year? What type of house? Location? "I want to buy a 3 room condominium in Mutiara Damansara in 3 years time" is a better answer. Now you get it.

Measurable : A specific goal allow you translate into real financial requirement. If you are not able to do so, it imply that your goal is not specific enough.
Achievable : It's not wrong in fact you should always think big if you said your goal is to have billion worth of wealth. The pitfall is when your current income and your goal display big gap, peoples prone to involve themselves in high risk portfolio for highest return. Furthermore, wealth accumulation is a long journey. Imagine you are short distance runner and is put to a marathon for the first time. It's very easy to feel defeated and give up finally when you find out that your financial status still far behind your dream.
Realistic : You need to picture vividly the "rich you" and feel intensely the happiness when dreams come true. Without emotional element as part of the equation, your journey have no meaning because it does not reflect your inner values. The wealth you get from your investment probably just figure which bear no meaning of self realization.
Time frame: Every financial goals should have some time frame attached. It measure your sucess rate after some period of time. Initially you use this time table to check your progress. If you find that you are behind, you need to keep reminding yourself to revise your investment plan. If everything is on track(congratulation :)), naturally you will start to think hard to accelerate and be ahead of the time table.

Start to think S.M.A.R.T. today.

Related Post
Tips: No 1 of 36 tips of Wealth Creating

It's ain not a Secret

Most probably you have heard about the secret or heard about people mention law of attraction. It was a hit in most local bookstore and I saw this book in piles in bookstores when I transited in LA international airport in my recent trip to USA. However it slipped from my attention as soon as work load and events started to pick up till recently when I chatted with a friend over phone and she mentioned she had attended some classes which have transformed her. She show impressive improvement and I can feel her focus and determination is more intense than ever since I knew her. Awesome!

In layman term, Law Of Attraction means "You get what you think about, whether wanted or unwanted. You get what you put your energy and focus on.Energy attracts like energy.Everything draws to itself that which is like itself." Practically, you demand to the universe and you believe and you prepare to receive.Most of us have applied this law everyday without realizing it and unfortunately most of us was brought up in notions such as "We must feel gratitude and content with what he already have and we can not always get what we want. The worse I can think of is "if we cant have it most probably we are not deserving or we are not capable of".

If you ask me whether I'm skeptic about it, frankly my answer is yes. The idea sound like magic and effortless. Let's do a checklist on how many negative thoughts u circulate innerly in your mind per day and how many of your achievement was started of by a strong determination and intense focus. In certain extent, it explain why it is much more easy to find instances from our past experience to negate the attraction law eventually most of us was trained to express our thought in negative manner such as "I do not want to be scolded by my client", "I can not handle this task" and etc. In my life till date I received several outcomes which I had said negatively in my mind. Energy attracts like energy materialized here.

mind -> thoughts -> actions -> result.

I started to believe it's not magic. Whenever your mind have negative thought about some outcomes, the actions derived from it will eventually lead you to the disastrous result.

Tips: No 1 of 36 tips of Wealth Creating: Identify your Latte Factor

Everyone of us I guess have been bombarded by media directly or indirectly that investing is one of key of wealth creating. There are lot of means of commanding your money to work harder for you such as you buy property, you invest in shares market or through mutual fund and etc. Either you are born rich or you just do not believe or do not care about, I guess most of us would have considered any chances presented in front of us if it can make us richer even by small margin. In fact this is the most important of mindset that the rich have in mind. We must strive more positive increment of our wealth. I heard lot of my friends or colleagues complain that they have too much commitments that their salary merely enough to cover. They have no extra left to invest. I believe it's true till certain extent and myself was a believer of the above comment too. We just hope that next year we can get salary increment to facilitate our investment dream. We got increment as expected and that's why we are still working in same company or same field. But I challenged that u still have not squeezed out the little extra to start investing unless you deliberately being conscious. Everyday we are all exposed to fallacies merchants are imposing through their glamor advertisements. So we end up getting new 3G hand phone, branded clothes and etc to match our income level. So we are back to square.

For most of us, the faster and most effective way to control our financial fate is to identify how much we have wasted our potential wealth on unnecessary small things such as morning dose of starbucks coffee which cost about 3.5 dollars. That's the concept of Latte Factor popularized by David Bach.In the nutshell, it's just very simple concept, you just got to cautious of every small money you spend and think twice whether you can indeed convert it back to yourself. This is powerful when it put into daily practice. This idea indeed help me to make decision to cut down my satellite tv channels subscription or switch to a lower cost mobile service provider. Let's me tell you, it's just a myth that everyone should abandon that their life quality have been compromised by living below one's mean. We are so used to living in premium standard even thought we only have 24 hours a day and we can't fully utilize resources that we purchase.The extra money we just savage are to be channeled back to our investment pipeline.

The first exercise you got to do is track your daily expenses to weed out the Latte Factor. If that amount is insignificant compare to your investing plan, try further to identify your double Latte Factor. You got to believe me you do not need to keep tracking long term basis if you have sincerely perform an analysis. I stopped tracking once my latte factors are surfaced. Here is my reason.

Good luck trying.

Average and Annualized Return Paradox

You have been convinced by a handsome positive average annual return as advertised in an investment instrument brochure and about to surrender your hard earned money with the hope that it will work harder for you as suggested by your agent. Wait a minute, do u have the annualized return or do u know how volatile of the portfolio?

Let's explore the table above. I listed 7 years worth of annual return data of an instrument. By summing up all the yearly figures and divided by seven, we got an average whooping 29% return. Logically, we would think this is a fruitful investment. But if you start counting from year one and starting off your journey with $10,000. By year 7, your investment only worth $3400 which is equivalent to a lost of -66% instead. Apparently the periods of loss erode value hugely, gains have to work doubly hard, first to restore the value lost and then to grow principal. If you compute the annualized gain using formula ((1 + Rate of Return)^1/N) - 1, where N is the period in years, you will get -14%. Knowing the important of calculating the annualized return or seek information of it before making decision on purchasing any investment instrument is so important,yet lot of investors choose to accept blindly the beautiful tag lines on the advertisement and recommendation by leading finance magazines is irony. Peoples need to start learning the meaning of figures or ratios being put up in the fund sheet to get self well informed. Eventually,the fist rule of investing is not to lose money.

Now you might think that average return have no reference value which is not quite true. We can use the different of annualized and the averaged to measure the portfolio volatility. The value is termed as "risk drag" .
The higher the risk drag, more volatile the portfolio.

What's the real cost of buying mutual fund?

For first time buyer, it might not be so clear what is the total long term cost being incurred when invests in mutual fund. The most prominent fee that capture attention of consumer no doubt is annual management fee. Typically in Malaysia, an equity fund commands annual management fee of 1.5% while bond fund charges a lesser fee of 1%. As a matter of fact, running a mutual fund involves costs, including shareholder transaction costs, annual trustee fee, investment advisory fees, operation fees, marketing, distribution expenses and etc. Those misc fees together with annual management fee make up the real cost of holding mutual funds. Annually this expense materializes as an expense ratio which is in nutshell merely "annual operating expenses divided by average annual net assets."

This is no way fund house is hiding this figure from investors. This figure can be obtained in their annual report and updated prospectus. The irony is investors more interested in the yearly gain instead of figures being shown in balance sheet and new buyers are often sold to newly launched funds. This ratio need at least a year worth of data to compute.

So why does it matter? Well if under same fund category, it serve as a factor to take into consideration to choose a fund to invest in. The one with higher MER will erode more of your yearly gain and the fund manager in fact need to work harder to beat the index to justify the asking price.

Keep track of your daily expense?

I guess a lot of you have been diligently cranking up your excel file to keep track of your daily expenses to have a picture of your daily cash flow. I would not surprise if 98% of peoples failed to continue on this habit after 3 months because it's simply too tedious and time consuming. At least I do not have a habit to keep receipts(I do keep receipts for buying books, parent medical for tax relief) or remember how much money I have spent on a simple lunch in local food stall where receipts are not always issued.

Having said so, does it mean that we should abandon this practice at all. The answer is no. You at least need to do it for some short period to understand your spending habits. Now it's vital you group your expenses into category such as foods,transportation,entertainment and etc. With this in mind, you do a calculation on net income minus expenses. If your figure is red, too bad you are overspending. So, what should you do next? Apparently, you need to reduce expenses on unnecessary items to get blue figure. After tweaking, finally you have a positive balance sheet. If you stop here, that's fine for short term at least you are not digging deeper into debt hole assume you include your credit card usage in your calculation and settle them promptly. If u are seriously thinking improve your financial status, you ought to do more than this. The magic word is "Save". You got to have a lot more cash before you can use it as tool to accumulate more wealth. How about set up a monthly saving target. I'm asking you to deduct this target from your net salary and keep it a safe place such as a checking bank account. The final step would be you need to readjust your expense against this "new" salary. It's lot harder this time but you got to more prudent in spending your hard earned money.

So, you can throw away your monthly budgeting or daily expense tracking routine and start to appreciate your tool to manage your money.

Prologue

Stop believing wealth management is only for peoples with big pay cheque, indeed is for every one of us regardless you are house wives, students, salesmen, teachers and etc. In fact this knowledge should be included in school curriculum as one of the subject. Recently I read a book about wealth creation, let me briefly share with you one of the concept of that I believe are flag posts for people out there who care about to craft their financial journey.

Here come the 4 level of wealth :
Level 1 : Financial Stability
- You have liquid assets to cover your current expense for at least 6 months
- You are protected from disability, losing job, death by insurance
Level 2 : Financial Security
- You have critical amount of Positive Cash Flow Assets that generate enough passive income to cover basic expense
Level 3: Financial Freedom
- You have critical amount of Positive Cash Flow Assets that generate enough passive income to sustain current life style
Level 4: Financial Abundance
- You have critical amount of Positive Cash Flow Assets that generate enough passive income to sustain your desired life style

So which level are you now in?I would challenge you you find out your actual net worth(total assets minus total liabilities).After all, which level you would like to achieve?