Tail Risk – Definition: A form of portfolio risk that arises when the possibility that an investment will move more than three standard deviations from the mean is greater than what is shown by a normal distribution.
Tail Risk is a term, that until a few years ago, very few outside of the investing elite on Wall Street had any knowledge of its meaning. According to experts, this Wall Street term which has become popular as of late has less than .5% chance of happening but the possibility is still out there. Tail Risk investing is now something that many high net worth investors are looking at as a way to hedge their wealth against a possible destructive economic tsunami like the collapse of the Euro or the US Dollar or even the enviable collapse of the Chinese housing market which has been in fire for years. The theory goes, by investing a small amount of your overall portfolio in these “Tail Risk” funds, if the economy collapses and your investments take a big hit at least one investment (a Tail Risk Fund) will make money and you will still be wealthy.
How does this work?
An investor would buy shares in a Tail Risk Fund. As the stock markets around the world began to fall, a Tail Risk or Black Swan fund would profit because it owned the options to sell shares in the stock index at far higher levels. The more the world indexes decline, the more valuable those options would be for the Tail Risk Fund. I think of it as buying insurance at the black jack table. The dealer has an ace showing, you think he might have black jack. You buy the insurance and the dealer flips up a King. You lose your bet but you get a little bit back on the side. You live to gamble another day.
What does this mean?
It means that people who are a lot smarter than you and I know that there are substantial “black swan” risks out there to our way of life. These are events or actions that cannot be anticipated but could have long reaching adverse effects on our daily lives. These investment advisers are advising their high net worth clients to put a portion of their wealth into these investment vehicles to insure their standard of living during a crisis stays the same.
How can you invest for Tail Risk?
Tail Risk or Black Swan investments do not make a lot of sense for us regular investors, they tend to lose money every year and the upside might not justify the constant portfolio losses. One way you can plan for a potential “Tail Risk” or a “Black Swan” event is by getting involved in the modern preparedness movement and becoming more self-sufficient.
Here are some ideas for investing for Tail Risk (for everyone else):
1. Buy a small amount of Silver & Gold with each paycheck. (Gold has always had value since recorded time)
2. Keep some cash at your home or apartment (invest in a good safe and keep it hidden).
3. Begin to invest in a long term food plan.
4. Store water and have at least two ways to purify water.
5. Have a back up family shelter and quality sleep systems for everyone in your family.
6. Organize with your neighbors
7. Invest in alternative power & heating sources (wood burning stoves, solar panels, generator)
8. Invest in tools to help you protect your property and possessions.
9. Invest in good outdoor clothing.
10. Invest in everyday use items (toilet paper, paper towels, soap, shaving items, etc).
11. Keep extra fuel on hand (use fuel stabilizers like Sta-Bil).
12. Invest in survival tools (fire starters, cutting tools, knives, fishing gear).
13. Plant a garden or live on or near a farm.
14. Invest in everyday home repair items (hammers, nails, screw drivers, saw, etc).
In reality, many of these ideas are things that preppers & survivalist have been planning for and preaching about for years. The fact that Wall Street is now offering investment vehicles for SHTF events is further proof that all of us need to be prepared for unforeseen events. If you have more ideas for Tail Risk investing please share them below.
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