Among the bad raps that Wall Street actually deserves is a habit of creating lousy jargon. But sometimes that jargon captures a development that ought to concern individual investors.  The recent tendency of financial markets to oscillate almost daily from fear to enthusiasm and back again is a case in point.

Bad news, such as the Spanish deficits, crosses the wire and investors rush collectively to sell risky assets—like stocks—and buy supposedly risk-free assets —such as U.S. Treasury Bonds, or maybe gold.    Then, the headlines brighten, say, because of lower unemployment figures, and investors quickly reverse themselves. After all is said and done, they will have gained nothing but agita in the process.  That process has a name—the risk on/risk off, or ro/ro trade.

How can individual investors make sense of the ro/ro trade, let alone seek to benefit from it?  The answer is they probably can’t and almost surely shouldn’t try.

Investors make money because they uncover enterprises—which occasionally include governments— that can create real economic value but require capital to do so.  Investors provide that capital, and then hopefully reap a share of that economic value.  If that economic value eventually turns out to be greater than the market initially expected, the investor will do even better.  If the value is less than anticipated, the investor’s return will suffer.  Central banks printing money, governments writing regulations, and international agencies extending emergency loans can speed up or slow down the process, but investors prosper when—and only when—they’ve hitched a ride on true economic value creation.

Like most things worth doing, discovering economic value being created is easier to describe than to accomplish.  Investors who are aware of the ways the economic world is changing, however, are likely better positioned to succeed than those who are waiting for the past to return or think they can outguess tonight’s headlines.

Patiently and studiously uncovering investment value creation isn’t a ro/ro investment strategy.  It’s a strategy for investors who have managed their daily finances well enough to have money that can be placed at risk for the prospect of an eventual, acceptable return. It’s a roadmap for people who have already matched their savings to their necessities and now are able to invest to achieve their aspirations.

For the astute investor, risk is always “off” for the necessity, and always “on” for the dream.

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