To The Moon

Volatility and Compounding

Compounding is a cheat code for investors. If you buy companies that can compound revenue and earnings growth over decades it will drive great performance and compounding stock gains.

The price we pay for high levels of compounding is volatility. That volatility is why the Asymmetric Portfolio is down over 25% in two months. But it’s a key to its outperformance long-term.

Let’s go through two examples of how higher volatility portfolio will beat a low volatility portfolio over time. This example is built on two assumptions:

1. The high volatility portfolio generates 2x the return of the low volatility portfolio each year

2. Stocks go up more than they go down

Historically, both are true, so let’s see how this plays out long-term.

You can see the high volatility portfolio outperforms by a wide margin.

But a 40% return over a 10-year period is below market average, so let’s kick up the returns to closer to market average.

As you can see, the high volatility’s outperformance is magnified.

If we kicked returns up to even the market’s average performance of an average of about 10% per year, the gains of the higher volatility portfolio would be even more magnified.

This combination of magnified returns from more volatile stocks and compounding over time is central to the success of Asymmetric Investing.

Buying Low

What the tables above don’t include is any additions to the portfolio at lower prices. Especially with more volatile stocks, taking advantage of the big downturns is where asymmetric returns can be found.

Yes, buying a great company early at a high price, like $Amazon.com(AMZN)$ at its in 1999 peak, would have been a phenomenal investment.

But buying more when shares dropped in 2001 would have resulted in even better returns.

The combination of buying high-growth stocks compounding their revenue, holding for a long period, and dollar cost averaging over time is a path to outperformance.