Stay on the ride
To drag out the old cliche about investing being a roller coaster ride is probably one of the biggest understatements possible.
Tuesday, August 20th 2002, 6:44AM
Right now investors are scared. Markets have been falling worse than they did in 1987. There's tension all around the globe. Out west in America US president George Bush is pushing for a fight with Iraq, Israelis and Palestinians continue to murder each other, Pakistan and India are in a state of tension and to top it off there are the so-called accounting scandals in the United States.
If you are an investor with money in international shares it's quite possible that your investment has fallen 40% in the past couple of years. It's pretty hard to lose that much money without seemingly doing anything. Just to make matters worse the markets have to rise something like 50% just to get back to where you were two years ago.
"You can see the fear in people's eyes," Grosvenor Financial Services chief investment officer David Beattie says after recently completing a series of presentations to investors around the country.
"There's a lot more (fear) in Auckland than Invercargill, but it's there nonetheless."
Investors are saying "I can't handle this any more I have to get out."
The trouble is it's dangerous to get off a roller coaster in the middle of a ride, so you have to hang in there. But what do you do?
Firstly it's worth looking at the markets and putting things into perspective.
The issue of falling markets has become such a big concern that a special session was held on the topic at this week's Association of Superannuation Funds conference in Auckland.
Three heavy hitters from the funds management industry fronted to present their views and answer questions. One of the most surprising, or some may say gratifying, points was that all three, AMP Henderson investment strategist Paul Dyer, Alliance Capital equities manager Andrew Bascand and BT Funds Management chief investment officer Craig Stobo agreed with each other.
"Stocks are very cheap relative to bonds," Stobo says.
He says an analysis of the markets shows that it's not all "doom and gloom" and that people are being too pessimistic.
Dyer noted that for the first time in a long time investors were getting a good risk premium for investing in shares.
On the issue of shonky accounting AMP Henderson has done an analysis where it compares the official US national economic production accounts, against what companies say they are producing. The benefit of this crude cross-check is that the national accounts are considered to be very accurate.
"Our sense is that there is not much rot below the surface."
Likewise, all three managers agreed sentiment was poor, mainly due to the press relating to issues such as accounting fraud.
Dyer put some of the recent issues into perspective saying, for example, Enron didn't fail because of accounting fraud rather it was a business failure. The dubious book keeping just hid the failure for a long time.
Stobo said the evidence coming out of the US, suggested that the economy was doing quite well.
For instance in the just completed second quarter company results reporting season 62% of earnings results were on the upside. That is two-thirds of the companies reported stronger earnings than analysts had predicted.
Although being in agreement on the outlook the three managers did say there are some risks to the scenario painted.
Is this a case, as the cynical may think, of managers "talk up their book?"
Who knows, but one person with a contrary view is economist Gareth Morgan.
Morgan, speaking at the same conference, supports the 'double dip' theory, and here we are not talking about winning Lotto, but that the US economy, which makes up roughly half of the world economy, has another leg down to go.
He says because of the changing circumstances it's "now more than probable" that the US market will fall further.
He bases this assessment on two factors. Firstly, he is not convinced company earnings will continue to rise. If that is the case then companies which have falling earnings will also have weaker share prices.
The second piece in the picture is household spending. US consumers have to keep spending to keep the economy on track. While they have been doing that admirably things could change quickly as the market falls wipe out wealth.
He says household debt is rising and people are pulling money out of the market.
Americans aren't the only ones who are pulling back from shares at the moment. Kiwis appear to be doing the same thing, or choosing to put new money into other areas
Morgan's worry, which is shared by Beattie and other investment experts, is that investors are leaving the sharemarket and loading up their portfolios with assets which carry just as much, if not more risk, than equities.
Among the list of investments they frown on are some types of property, fixed income investments such as capital notes and forestry.
Two of their major concerns are that some of these investments have incredibly poor liquidity, that is they can be difficult to sell, plus if an investor has to sell in the secondary market demand is so small that the price paid will be heavily discounted.
Likewise, many of these investments aren't "marked to market". Instead of the market setting a price each day, as the sharemarket does with companies, things like property and forestry are only priced when a sale is being done.
Beattie says if people valued their house every day they would find the price moves around significantly and they would end up having sleepless nights.
The other major risk, particularly with some of the fixed interest investments, is that investors are swapping what is known as market risk for credit risk.
The big issue in this sense is that with market risk, you are taking on the combined risk of a whole pool of companies, hence the spread lowers the chance of problems happening. It also means when problems do happen they are diluted because each company makes up a small portion of the market.
When you buy something like a capital note nearly all your risk is concentrated on the success or failure of one company.
While most companies don't get into trouble some, like Fortex and Skellerup, have failed.
Beattie also raises two other questions about some of these investments. One is how the investor is paid out, and the other is whether they are being adequately compensated for the risk being taken on.
In his view investors would be better off to buy the underlying shares of some of these companies because investors will be paid with shares when the fixed interest investment matures.
Secondly, he reckons, as do many other people, that these fixed interest investments don't pay investors a high enough interest rate for the risk they are taking on.
A valid question people ask now is should I stay with shares, even though the outlook is certain or is it time to bail to other assets?
While Morgan paints a rather sanguine picture of the short term, the long term picture is quite different.
He says that investors who want to succeed have no choice but to stick with shares.
"If you believe in economic growth, then you have to own shares as they are the only assets that will grow. Debt doesn't grow.
"If at the end of the day you think you are going to get economic growth globally then equities will always provide the best returns. Always."
Morgan says because of the changed environment he has switched his preferred way of owning shares from an index approach to one that favours active management and stock picking.
"It's an indiscriminate sell off now. I can't believe every stock out there is worth 50% less than it used to be looking forward."
Morgan says the question now is to find out where the best value for money is.
Beattie says the other issue which this sell off has highlighted is the need for investors to have a plan and to stick to it.
For instance if the plan you devised at the start of your investment programme said you should hold 40% of your portfolio in equities then it's probably time to be buying more shares to bring the weighting up to this required level.
Beattie's right in saying the ride is rough at the moment. But like any good roller coaster ride the elation at the end can be euphoric.
To put things into perspective Beattie draws on his 16 years experience in the funds management industry.
"The best decisions we ever made on behalf of investors was when I had that horrible fearful feeling in my stomach. My emotions kept telling me don't do this but my head and the objective analysis kept saying the contrarian view that it was the right thing to do.
"I need to actually experience the emotions of fear and greed to know whether it's the right decision to take the contrarian view."
While your stomach may be churning at the moment, try to forget about it and think with your head.
| « High income returns likely to decline | King builds an empire » |
Special Offers
Commenting is closed
|
|
Printable version |
|
Email to a friend |
