by Jon Lagerstedt and Dr. Brian Jacobsen, Wells Fargo Asset Management
Dr. Brian Jacobsen discusses preparing for downside events in order to participate in potential upside opportunity.
Jon Lagerstedt: This week, Dr. Brian Jacobsen discusses how preparing for downside events creates the opportunity to participate in upside potential. I’m Jon Lagerstedt and this is The Essential Practice. Dr. Brian Jacobsen is chief portfolio strategists here at Wells Fargo Asset Management—Brian welcome.
Brian Jacobsen: My pleasure to be here, thanks.
Jon: Let’s start with how you’d describe or characterize the recent risk environment we’ve all been experiencing.
Brian: The way that I like to put it is that it feels like we’re running a risk gauntlet. This row between two lines of individuals you have to get through without getting beat up. And I think that I think investors could be looking down the road and feeling a little intimidated, but maybe the market reactions should tell us that perhaps we just have to walk on through this and not to be too worried about coming out the other side too beat up.
Jon: And how have the markets reacted to these events?
Brian: You know, I think that it’s been interesting looking at the way that the markets have reacted to some of the bigger geo-political issues over the last year. If you think about Brexit, it took about, you know, a good, what was it, about three months really fully to recover, but really about three weeks for the U.S. markets to recover from the shock of Brexit. You suddenly get to the U.S. presidential election, took about three hours to recover from that shock. And then we had the Italian Referendum; it took basically three minutes. So it seems to me that markets are doing a pretty good job of pricing in some of these bigger risks that a lot of people have been flagging. Over the next few months I think that we are going to encounter some additional risks, but you know, perhaps it’s the case that markets are pretty well anticipating the results of these.
Jon: Very interesting. So how is it that the markets can be so much more forward-looking than you or me Brian?
Brian: HA! That’s right.
Jon: Well… me at least… heh… Not YOU of course!
Brian: Yeah, I appreciate that, I always try to be forward-looking. But it really is too easy to anchor our behavioral bias on the most recent past; and we also allow our own personal prejudices and politics and biases to sort of cloud of view. And so when you look at market prices, I mean at least reflects the collective wisdom of, you know, millions of individuals. I mean, it’s a very efficient way to aggregate all sorts of information. And maybe that’s a good base case for thinking about how to think through some of these political risks. And then ask yourself, is that reasonable? Does that actually make sense? Ask, what if the market is wrong, or, what is the consensus is wrong? What’s kind of the worst-case? And, am I well diversified enough to be able to ride through that?
Jon: And part of diversification also means having some money set aside to be able to participate in potential upside when it presents itself, right?
Brian: Sure. I think that that’s a good way to kind of think about it—the role of liquidity—I view that as a way to be able to budget for patience.
Because the important thing is that things take time to play out in the markets and sometimes they play out a lot sooner than what you expect. So it buys you time in the markets in the sense that if things do go down or if they go against you in some capacity, does it allow you the flexibility, the optionality to ride it out? And that’s where I think that differential of perspective can give some individuals—you know, some are better at it than others—the idea of, well, maybe I want to take a little risk off the table, or, maybe I want to add a little bit risk on because I don’t think the market is pricing it in correctly. And so, how do you manage that? Well, I think having that liquidity bucket, adequately filled up, that’s a good way to be able to do that.
Jon: Brian, that’s all the time we have for this week. I was to let our audience know they can expect the Wells Fargo Asset Management 2017 Outlook videos from yourself and your colleagues, John Manley and Jim Kochan, over the next few weeks. But for now, Brian, thank you. And happy Holidays!
Brian: Well thanks for having me, it’s always a pleasure.
Jon: Until next time, I’m Jon Lagerstedt and this is The Essential Practice.
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