Forget Returns! and Think About Risk!

real estate investing riskOne of the least significant statistics of any manager or trading system is its returns. Returns alone tell investors nothing about the risk required to reach those returns.

For example, how do we know if a 100% return is good or bad?

The answer should be that it depends on the risk required to get that return. Who cares if a few people made 100% return if an even greater percentage of the investors lost all their money first!

That’s pretty much equal to gambling or playing the lottery.

What does matter is RISK ADJUSTED RETURNS. Once we know how large of a risk a system or manager took to reach a return it is then we can properly evaluate the returns.

So how can we measure risk adjusted performance? One of my favorite ways is using the MAR Ratio. This is short for the Managed Account Reports Ratio.

What MAR measures is the average yearly percentage return divided by the largest percentage drawdown.

It is necessary investors use percentages and not raw profit or loss dollar amounts in order for the ratio to be correct.

If, for example, a manager or trading system had an average yearly return of 30% and at one time had a maximum drawdown of 15% then his MAR Ratio would be 2. In others words, 30 divided by 15 = 2.

What is an excellent MAR Ratio?

To determine this, I think one of the best places to look is at the world of professionally managed money.

These managers are often the best of the best when it comes to traders.

In some cases, they have track records 20 and 30 years old and have hundreds of millions or even billions of dollars under management.

When we look at the best of those managers, they are LUCKY if they are able to maintain a MAR Ratio of 1! Meaning, if they have made an average of 30% a year, then they also likely had a onetime largest drawdown of 30%.

I hope this sets off a few alarms in your head. Traders should wonder how it is they see products offering off the chart performance, when the best of the best cannot do it!

They may have had a “lucky” period, but 99.9 percent of the time they took more risk than a trader would probably ever want to take.

So how does real estate come in to play here?

One of the best reasons to invest in real estate is it low risk level.

Now I said low, not 0%! There is always a risk. Cities change, so do local ordinances, codes and so forth. Property taxes are also always an issue (click here).

But usually, when it comes to real estate, if you hold the clear deed in your hands, it chances of ever becoming worth zero is pretty distant. So what would be a similar MAR rating here?

This article is about realism, and what I think is truly possible with top caliber trading systems and money managers. Keep in mind, I have developed trading systems for over 18 years and have won many awards for them.

Besides this, I have gone on to be a successful hedge fund manager attracting tens of millions of dollars in investment capital.

So what do I think is possible? The answer is a MAR Ratio of about 1.5 – 2.00. In other words, an average yearly percentage return about 1.5 to 2 times higher than the maximum percentage drawdown.

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