Tuesday, November 4, 2008

The Getting Back on Track Calculator

The trouble with a down market is not the loss in value that your dividend portfolio gets hit with. Instead, it is the time period that it takes an investor to get back on track in order to meet a well defined investment goal. For example, lets say an investor planned to have an investment portfolio worth $250,000 by the year 2033 with a growth rate of 8% and started by investing $34,000 in 2007. WIth those numbers then that is a reachable goal. However, let's say that that same investor just lost 50% of their portfolio (paper loss). What would that mean to this person's portfolio?

With a drop in portfolio value to $17,000 the game changes a for this investor. Obviously with these kind of numbers they are no longer on track to achieve their $250,000 by 2033 at an 8% average growth rate. It doesn't mean that they will not get there, it just means that one of two things need to happen. First, they have to hope that they are able to achieve a high rate of return on their portfolio. With a portfolio value now at $17,000, the average return required to get to $250,000 in 2033 is now 11.3%. That extra 3.3% does not sound like much but will be difficult to achieve. The second thing that can happen is that this individual adds on a couple of years to their retirement date. By adding on another 4 years then the rate of return required is down to 10.9%. Still a high return but perhaps a little easier to achieve that 11.3% (not by much though).

So what is the moral of this story. Markets are always going to go up and down and we need to be prepared to deal with them when it happens. However, most important is to ensure you are properly diversified and have managed the risk in your portfolio! My example above assumed that this investor was investing very aggressively and managed to lose 50% of their portfolio in the year. Although extreme, I personally know people who are sitting on such a loss. By investing more conservatively and with a properly structured portfolio you can limit your downside risk.

If you want to run some number like I did above, then there is an online calculator that can do this for you. Stick in your numbers and see the impact that this market drop has had on your goals. Head over to the ""Getting Back On Track" Calculator and play around with it. It will highlight the importance of risk management in your own portfolio.

This article was written by The Dividend Guy. You may email questions or comments to me at info@thedividendguyblog.com.

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