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The Sandy Spring Way

While nobody knows what the future holds…

June 25th, 2012 | By Beau Mercer

While nobody knows what the future holds, one powerful person came pretty close to accurately predicting the problems Europe is having with the euro – a full 17 years before the current crisis began in 2010.

Former British Prime Minister Margaret Thatcher strongly resisted having Britain join the single currency and, instead, pushed the country to keep the pound sterling. Her view prevailed.

Today, the controversial Lady Thatcher is retired from public view, but her take on the common currency of Europe has proved uncannily accurate.

Paraphrasing her 1993 autobiography, a November 18, 2010 article in the Daily Telegraph said Thatcher argued, “The single currency could not accommodate both industrial powerhouses such as Germany and smaller countries such as Greece. Germany, forecast Thatcher, would be phobic about inflation, while the euro would prove fatal to the poorer countries because it would ‘devastate their inefficient economies.’”

True to Thatcher’s prediction, the euro zone is suffering from the imbalances caused by a currency shared by countries with dramatically different economic, political, and cultural norms.

We monitor the euro zone problems because, in our global society, a breakdown in Europe could spread to the rest of the world. And, once again, euro zone leaders are meeting this week to try and solve their structural problems. But, consider this. In the U.S. we have one country and two major parties. In Europe, 17 countries share the euro and each of those countries have multiple major parties. Knowing how hard it is for Democrats and Republicans to agree, imagine how hard it is to get 17 countries and their respective parties to agree on anything!

Given this difficulty, it’s not surprising that the euro crisis has dragged on and on and on. Eventually, though, Europe will have to make some tough decisions – or the market may do it for them.

Data as of 06/22/12 1-Week YTD 1-Year 3-Year 5-Year 10-Year
Standard & Poor’s 500 (Domestic Stocks)

-0.6%

6.2%

5.3%

14.3%

-2.3%

3.0%

DJ Global ex US (Foreign Stocks)

0.0

-1.5

-17.6

4.6

-7.4

4.8

10-year Treasury Note (Yield Only)

1.7

N/A

3.0

3.7

5.1

4.8

Gold (per ounce)

-3.8

-0.6

0.8

19.4

19.1

17.0

DJ-UBS Commodity Index

-0.4

-8.8

-19.6

2.0

-5.6

2.6

DJ Equity All REIT TR Index

-0.5

10.3

8.7

32.9

1.6

10.0

Notes: S&P 500, DJ Global ex US, Gold, DJ-UBS Commodity Index returns exclude reinvested dividends (gold does not pay a dividend) and the three-, five-, and 10-year returns are annualized; the DJ Equity All REIT TR Index does include reinvested dividends and the three-, five-, and 10-year returns are annualized; and the 10-year Treasury Note is simply the yield at the close of the day on each of the historical time periods

Sources: Yahoo! Finance, Barron’s, djindexes.com, London Bullion Market Association
Past performance is no guarantee of future results. Indices are unmanaged and cannot be invested into directly. N/A means not applicable.

VOLATILE MARKETS HAVE EXPOSED ONE FLAW

Volatile markets have exposed one flaw in the traditional thinking about how to determine an investor’s “risk tolerance.” Traditionally, risk tolerance was thought of in terms of a spectrum moving from very conservative at one end to very aggressive at the other. And, risk was defined as how much of a loss an investor could stomach. That makes sense, but it’s only one part of the risk tolerance story.

Investors essentially have two types of risk tolerance:

  1. Financial risk tolerance – which is an investor’s financial ability to withstand a decline in their portfolio.
  2. Emotional risk tolerance – which is an investor’s emotional ability to withstand a decline in their portfolio.

Source: The Charles Schwab Corporation

Now, here’s the key – there could be a very large gap between these two levels. For example, some investors may be able to financially withstand a 30 percent decline in their portfolio without it negatively impacting their ability to meet their long-term goals and objectives. However, some of those same investors may be able to withstand only a 20 percent decline in their portfolio from an emotional standpoint.

The emotional risk tolerance level is effectively your “sleep” level. It’s the level where if your portfolio went down any further, it would affect your ability to sleep soundly at night.

But, there’s more…

We also have one other factor to consider here and that’s your time horizon. If you are 10 years away from needing to tap your investment portfolio, then a decline in your portfolio today should not be a cause for alarm. Why? Because you have 10 years to recoup the decline. Remember, today’s stock market prices are only relevant to those who are selling today.

As your advisor, it’s important for us to know your financial risk tolerance level and your emotional risk tolerance level. With this knowledge, we do our best to manage your portfolio in such a way that we won’t breech either of those levels. After all, we appreciate a good night’s sleep, too!

Weekly Focus –How to Sleep Better…

Are you one of the lucky 42 percent of Americans who consider themselves “great sleepers?” If not, try these tips from the National Sleep Foundation:

  • Set and stick to a sleep schedule by going to bed and waking up at the same times each day.
  • Exercise regularly, but do it in the morning or afternoon.
  • Establish a relaxing bedtime routine such as reading a book or listening to soothing music.
  • When you go to sleep, make sure your room is dark, quiet, and cool.
  • Avoid caffeinated beverages, chocolate, tobacco, or large meals right before bedtime.