# Risk and return: no "high and safe" > Higher expected return always comes with bigger swings. Read twenty invented years of three options, see why averages flatter and why a fall needs a bigger rise to recover. - Course: [Personal Finance: Budget, Safety Cushion, Debt and Investing](https://productovi.com/courses/personal-finance.md) - Module: How to invest without illusions? - Lesson 21/32, ~18 min - Source: https://productovi.com/courses/personal-finance/risk-and-return ## High and safe, please **Alex Tutor:** You're still helping Dana, and now it's money for the long run. **Dana:** The emergency fund is done, the kitchen money is placed. Now I can put 3,000 a month aside for the long run, twenty years or so. I want a high return and no risk. **Alex Tutor:** Everyone wants that, which is exactly why it doesn't exist. If something paid a lot with no risk, everyone would buy it, its price would rise, and the return would shrink. Higher expected return is the payment for accepting bigger swings. **Alex Tutor:** Here are twenty invented years of three made-up options, after inflation: something cash-like, a bond fund and a share index fund. Not history, not a forecast, just the typical shape. **Invented real returns of three options, years 1–20, %** | Year | Cash-like | Bond fund | Share index fund | | --- | --- | --- | --- | | 1 | 3 | 5 | 12 | | 2 | 3 | 3 | -8 | | 3 | 2 | 7 | 21 | | 4 | 2 | 4 | 15 | | 5 | -1 | -6 | -28 | | 6 | 0 | 9 | 6 | | 7 | 2 | 4 | 9 | | 8 | 3 | 3 | 4 | | 9 | 3 | 6 | 18 | | 10 | 2 | 1 | -5 | | 11 | 2 | 5 | 11 | | 12 | 2 | 6 | 23 | | 13 | 2 | -3 | -14 | | 14 | 1 | 4 | 7 | | 15 | 2 | 5 | 16 | | 16 | 2 | 3 | 2 | | 17 | 3 | 2 | -3 | | 18 | 3 | 6 | 19 | | 19 | 2 | 4 | 10 | | 20 | 2 | 2 | 5 | *Invented for teaching: averages 2% (cash-like), 3.5% (bonds) and 6% (shares); worst years −1%, −6% and −28%.* **Dataset (CSV):** [Invented yearly returns, after inflation](https://productovi.com/datasets/personal-finance/risk-and-return/invented-yearly-returns.csv) Twenty invented years for teaching, not a real series or a forecast. - `year`: Year 1–20 - `cash_like_pct`: Cash-like savings, % after inflation - `bond_fund_pct`: Bond fund, % after inflation - `share_index_pct`: Share index fund, % after inflation **Sofia:** The share index has the tallest bars both ways. **Alex Tutor:** That's **volatility**: how far returns swing from year to year. Count the years the share index lost money. > **Exercise:** In how many of the 20 invented years did the **share index fund** lose money (a return below zero)? ## Why the average flatters **Dana:** Five bad years out of twenty. But on average it still made 6% a year, the best of the three. **Alex Tutor:** On a simple average, yes. But 100,000 compounded through those twenty years ends at 275,589, which is 5.2% a year, not 6%. Losses hurt more than the same-sized gains help. **Sofia:** Because after a fall you're growing from a smaller base. **Alex Tutor:** Exactly. Take year 5: minus 28%. How much does the fund then have to rise just to get back to where it was? > **Exercise:** In year 5 the share index fund fell 28%. By **what percentage** must it then rise to get back to its value before the fall? Two decimals. ## Time decides how much risk fits **Dana:** 38.89% just to break even. And in year 5, 100,000 would have turned into 72,000. I'd panic. **Alex Tutor:** Many people do, and they sell at the bottom. That turns a drop on paper into a real loss. The best protection is not needing that money soon. **Alex Tutor:** Money for next year can't wait out a −28% year. Money for twenty years can wait out several. So the time until you need the money decides how much swing it can carry. **Sofia:** That's why the kitchen money went into deposits and bonds, not shares. > **Exercise:** Match each of Dana's pots of money with the invented option whose swings it can live with. ## The promise test **Dana:** A friend from my book club keeps sending me an offer: 25% a year, guaranteed, "no risk at all". **Alex Tutor:** Then you already know the most important thing about it. In our invented chart, even the riskiest option averaged 6% a year with a −28% year in it. Anything promising much more with no risk is either hiding the risk or isn't real. **Sofia:** So "high" plus "guaranteed" is a warning sign in itself, before checking anything else. **Alex Tutor:** Yes. We'll come back to how such schemes work at the end of this module. > **Exercise:** **True or false:** an offer of 25% a year "guaranteed, with no risk" is a warning sign in itself, before you check who is behind it. ## Returns as a range **Dana:** So what do I tell myself about the share index? "About 6% a year"? **Alex Tutor:** Say a range and a bad year. Here: about 5% a year compounded over twenty years, with single years from −28% to +23%. A different twenty years could be better or worse. **Sofia:** And after fees, which we haven't even counted yet. **Alex Tutor:** Right, that's lesson three. For now: return and risk come as a pair. Pick the swings you can live through, then accept the return that comes with them. > **Exercise:** Which description of the invented share index fund is the most **honest**? ## Your turn: Dana's risk in three sentences **Dana:** Help me write it down before I start, so I remember it in a bad year. **Alex Tutor:** Three things: how long the money stays invested, how big a fall Dana can watch without selling, and what return range she expects in exchange. **Sofia:** With a number for the fall, in hryvnias, not just a percentage. **Dana:** Yes. "Minus 28%" sounds abstract. "Minus 28,000" doesn't. > **Exercise:** Write Dana's risk note in 3 sentences: how long the 3,000 a month stays invested, how big a fall she should expect to sit through without selling (in hryvnias on 100,000), and what return range she expects in exchange. > **Key ideas** > > - Return is payment for risk: there's no "high and safe". A promise of both is a warning sign. > - In the invented series, the share index had the highest average (6%) and the most swings: 5 losing years out of 20, the worst −28%. > - Averages flatter: compounded, the same years give 5.2% a year (100,000 → 275,589). A 28% fall needs a 38.89% rise to recover. > - The time until you need the money decides how much **volatility** it can carry: money for next year doesn't belong in shares. > - Describe returns as a range with a bad year, after fees and inflation, never as a promise. This is educational, not personal financial advice. **Alex Tutor:** Next: how to take market risk without betting on any single company. - Previous lesson: [Case: where to keep Dana's savings for two years](https://productovi.com/courses/personal-finance/two-year-savings-case.md) - Next lesson: [Diversification and index funds](https://productovi.com/courses/personal-finance/diversification-and-index-funds.md) --- Productovi Learning. Free, no sign-up needed to read.