When the market is at an all time high, you need to concentrate MORE on risk than ever before. No, I am not a person who says that you should withdraw when the market is high. I am just saying look at your asset allocation, and your risk taking ability. The value of the large cap portfolio in your books is going up, see if you want to allocate some money from Large cap to mid cap. Or sell some large cap and keep some money in a short term bond fund – the money that you need in the next 3-4 years for some VITAL goal.

I was reading a book on world war II and saw the approach of the German navy and the British navy. The Germans were building ships with much more armor plates. This meant that in case the German ship took on some hits from the enemy ships, it could stand the bullets. The British were on the other hand giving up the armor because they wanted speed.

When it came to a war situation, the ability to stand there for a long time (taking hits but not going down) was far more important than speed. In a tough war like situation, the ability to stand there and be alive is far more important. So it was the German strategy which worked. Of course if the war was fought at a different places maybe the Brit quest for speed would have been more important. Who knows? In such a case speed would have been the ‘risk’ factor. who knows?

So understand where risk lies in your portfolio. That is also a very important skill.

A lot of British lives were lost – because a couple of hits and the ship would go down. The German Navy had done a much better job GIVEN THE CIRCUMSTANCES. The British quest for speed – which made them give up armor for speed is kind of a leveraged risk. See if you have appetite for Futures and Options. If yes, how much? Do you really want to take a leveraged position in the over-priced BFSI hoping for the PE to keep expanding or the growth staying at such high levels?

Should you be rethinking your strategy? Is it time to come out of the large cap or is there some juice left? Are you willing to let your friends have some of the juice?

Are you willing to add armor to give up speed? Its your call after all.

The British philosophy of sacrificing armor for speed, and safety for rate of fire, was a kind of leveraged risk with the hope of quickly reaping grand rewards in battle. This is good strategy when you are in a bear run. Are we in a bear run in the Midcaps and Small caps? Frankly I do not have a clue, and it is just my job to ask the questions. Each man has to answer these questions for their own portfolios. In fact even within one house different portfolios may need different answers.

The Germans were focused not on maximizing results by sheer speed, but on surviving the encounter long enough to land proper strategic hits. Even with a high degree of certainty regarding future outcomes, leverage lead to catastrophic results.  We see that time and time companies, families and individuals destroyed by leverage.  All too often when investors are behind on savings, or lagging a benchmark, they try to make up ground quickly by taking on more risk, neglecting of course the possibility of being wiped out should things go wrong. Have we not seen taxi drivers weaving through traffic as if his weaving is not risky for YOU sitting in the back seat?

The smart and good investor always starts with the GOAL IN HIS mind, vigorously evaluating  his assumptions, seeing what happens if everything is destroyed, what i there is a 5 year bear market, etc. This makes him focus on risk management. A defensive mindset does not mean that you will come short of your goals for lack of taking on sufficient risk. Awareness of risk will help you achieve your goals by helping you handle the markets when the tide goes out, thus keeping your portfolio healthy during tough times.