Leveling the Investing Field
A golf handicap allows players of all talents and skill levels to compete on a level playing field on any given day. Can the same idea apply to investing?
In golf, a handicap formula attempts to match the difficulty of a course and a player’s skill, denoting the number of strokes a golfer receives to adjust scoring ability to a scratch, or zero-handicap, game. This allows less-experienced players to compete with superior competitors when tallying scores.
When competing against superior talent, golfers must focus on their own game and resist trying to play at the same level as their competition. They must suppress their ego and the urge to try for a heroic drive to match a longer hitter, or trying to aggressively go after a single long putt when two shorter putts will do. They must select their clubs and calculate their shots for each hole, obstacle and circumstance.
Amateur investors make at least as many poor decisions as amateur golfers. This can occur in the form of attempting a miraculous recovery after a bad investment decision instead of accepting a bogey and moving on. They may try an investing technique without studying or fully understanding how to execute it. And perhaps most similar to golfers, investors will acknowledge the “talent” employed on a great investment, but the “bad luck” involved in a poor one.
In attempting to compete with Wall Street and high-speed trading, you as an amateur investor stand little chance if you attempt to play the pros’ game. Fortunately, investing has its own version of the handicap system. Implementing and sticking with a solid asset allocation levels the playing field and offers you a proven system for success. A well-constructed allocation considers your need and willingness to take risk and your ability to handle it.
Like its golf counterpart, your investing handicap is personalized to your situation and goals. The ultimate objective of managing your portfolio does not hinge on outperforming better investors. Instead, you shoot your investing version of par (the average number of shots an expert golfer needs on a given hole) by keeping your portfolio in line with your allocation targets.
If, for example, your allocation calls for 20% of your portfolio to be in the stock of large-capitalization U.S. companies, your primary goal is to keep that slice of your investments aligned amid market ups and downs.
Buy low and sell high: Rebalancing automates this each time you bring your portfolio targets back in line. For example, if your large-cap holdings perform so well that they swell to 25% of your total portfolio, you can safely assume that one or more of your other positions fell below the original target percentage. Rebalancing back to 20% requires you to sell that position at a higher price than you bought it and buy a different, less-expensive security.
Golfers can realize a very successful round of golf when using the handicap system appropriately. Similarly, you can invest smart and successfully, playing your own game rather than trying to always outshoot the pros.
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