Financial Planning – DON’T PANIC


Famous words, made all the more famous’er by the late but very great Douglas Adams, in his 4 book trilogy “Hitch-hikers Guide to the Galaxy” (although the actual number of books that make up the trilogy is subject to some dispute). Douglas Adams was referring to the great cosmic guidebook produced by Megadodo Publications.

Financial Planning Perth : When all else fails, fail to panic

Sage words in difficult times

“It is said that despite its many glaring (and occasionally fatal) inaccuracies, the Hitchhiker’s Guide to the Galaxy itself has outsold the Encyclopedia Galactica because it is slightly cheaper, and because it has the words “DON’T PANIC” in large, friendly letters on the cover” *. Very handy, should you ever be confronted by one or more of the Silastic Armourfiends of Striterax.

Of course, Douglas Adams was writing for intergalactic hitchhikers, whereas this blog is dedictated to terrestrial humans, and their issues financial. So, “DON’T PANIC” is a suggestion related to the unexplained increase in the level of Cosmic Microwave Background Radiation that has plagued all discussion of money strategies since the advent of monetary forms of exchange. More specifically, to the increase in reach and volume of The Very Clever People since the advent of the internet, and to the ability of these Very Clever People to predict the future down to an accuracy of five (5) decimal places.

No. Really. DON’T PANIC.

We mere mortals here in Australia have recently heard public comments  suggesting that there is too much superannuation money invested into companies listed on stock exchanges, and not enough money in fixed income investments.

 The argument goes something along the lines of “past returns may not be a guide for future returns – but just LOOK at the past returns!”

i regularly receive newsletters and financial commentary that suggests moving all investments to cash; avoiding risk; taking advantage of the latest “hot” market spots; keeping away from bonds while recommending other fixed income investments; positives for residential property and the lure of gold – and these are often all in the same publication! How on earth is an individual to make sense of all this? You can’t buy every recommendation in a publication, and you certainly cannot sell the investments you don’t hold.

Let’s just take a moment to return to Michael’s Uncertainty Principle. Peel our faces off the news screen and see just what is going on here.

Financial Planning – Post Crash Standard Stuff

For those who have been undertaking deep space travel via induced suspended animation these last few years – the Earth is currently recovering from a Global Financial Crisis (aka “GFC”), and there is quite a bit of uncertainty as to the ongoing validity of assumptions that have previously been thought to be quite solid and reliable.

One long term assumption is that equity outperforms debt. That is, the return from borrowing money and taking a risk should be sufficient to repay your debt, interest and costs, and make a bit of profit along the way. Of course, there is no such rock-solid guarantee but in a broad and wide economy, it should be the case that this occurs. Some will fail and some will succeed astronomically but overall, if lenders are cautious and prudent, the bulk of people who borrow money will make money from doing so. The problem is that there will be times (such as these we are in) where it seems like an awful lot of people will not only fail to make a profit – they will also fail to meet interest costs or be unable to repay their debts.

In this environment, commentary on the value of holding shares in companies as long term investments, is going to be quite negative. And into the breach steps former Treasury secretary Ken Henry, with his call for a rethink of investment strategies. “Less shares, and more of something else”. To some extent, Mr Henry’s comments are a simple reflection of disenchantment with returns from growth assets.

As an old and greying dinosaur relic of financial times long gone, i find these comments a rather straight-forward echo of similar opinions in the early 1990’s. At that time, returns from Australian shares were looking rather unappealing. The 1987 sharemarket crash had bitten huge chunks of money out of markets and those dollars were still not coming back years later. And it seemed like they never would.

Fast forward to today, and it seems that we will never quite return to a situation in which it makes sense to invest into listed company shares as a long term idea. Terms like “sucker”, “old-school”, “a fool and his money” are used for anyone adhering to a long term strategy. Folks using these terms point to a new paradigm – one in which the only money to be made investing in shares is that made through buying low and selling high. Trading, that is where the money is at, young man! Again, this is simply a rerun of a game that has been played before.

Financial Planning – Forgive me, while i sigh loudly.

Markets overshoot and markets undershoot. That is a basic plank of investing into growth assets. You have to accept a level of volatility. Unfortunately, that volatility has been high, and so exposure to growth assets becomes a question mark. That’s a normal reaction. However, that doesn’t mean that growth assets have no capacity for growth. Just because i don’t know how the Australian sharemarket can possibly lift in price from here, it does not mean that it cannot happen. Think of it this way – if we all knew that the market would be higher tomorrow, the price today would be higher than it is. If we all knew the price would be lower tomorrow then the price today would be lower than it is. We simply do not know. Some will buy on the assumption the market will be higher and some will sell on the assumption it will be lower. That’s called an active market. 

It is difficult to sit back and watch the value of your money jump up and fall down at the merest whiff of danger or opportunity but that is what happens in actively priced markets. Trying to move money in and out of markets to miss the falls, and catch the rises, is statistically unlikely to provide you with a return greater than the average market return. Of course, there are times when you might do very well from jumping in and out of markets. IF you can get the timing right, you will do very, very, very well.

The problem is to repeat your success. Not just once but again, and again, and again. That is where the real issue stands. Are you planning for a ride through multiple business cycles? Not just this boom and crash but the next one and the one after that? And what will you do about the ever eroding impact of inflation over all this time?

The history of managing money is littered with heroes who were not able to repeat a world-beating performance. Just ask the folk from Long Term Capital Management

So at least one part of this “noise” is a simple reflection of the desire to “do better”, and to do better than “average”.

Financial Planning – Do It Yourself

Another trend that is repeating itself is the flood of people looking to abandon professional funds management, and take over investing their own money directly. This certainly has a beguiling appeal to it. The desire to have greater control of [insert pretty much anything existing in the universe today] is an innately human characteristic. In this case, it is very easy to justify such a move:

  • Professional fund managers have, on average, lost money. I could have invested into a bank account and done better. What is the use of professional education, research, capital and advice if it does no more than lose me money?
  • Professional fund managers charge fees, and some are quite high. They still charge these fees when they are losing me money – so i’m losing money, and paying people for their ability to do so.
  • When i lost faith in fund managers back in early 2009, i bought a few bank shares, BHP and Rio. i put the rest in a term deposit. My returns over that period are so much better than the fund managers that it’s a joke.
  • i keep hearing people in media saying how badly fund managers have been doing, so it’s not just me who thinks so.

These are just some of the driving factors behind people wanting to “do it yourself” for their investments and their superannuation. Take my word for it – i remember these same points being raised back in 1988. These are natural reactions to difficult financial times.

And, some people really have done a great job of managing their own investments, so in many cases that natural reaction has paid dividends.

My own take on the situation is that the volatility within sectors that has occurred in the past 12 months will lead a lot of people to question their actions. Many will begin to reconsider the pro’s and con’s of professional funds management. Similarly, the flow of people setting up their own superannuation fund is a cyclical thing, and it too is likely to be reversed over time. However, for self-managed super funds, there are other pressures at work so it might take a bit longer for this trend to reverse.

Surely we are not dealing with Bias?

Another area that i believe is impacting on “noise” is bias. Not the obvious bias of a financial planner telling you to invest in his brother’s mechanic shop but other, less obvious forms of bias.

Ooops. A financial planner stepping onto the gangplank of discussion about BIAS? Regular readers would be aware of just how much depth there is to the discussion on bias. Financial planners are regularly being accused by the media, consumer groups, Industry Super Network and others, of being “too biased”. As an aside, it seems strange to me that regulators and politicians cannot see how recent changes and proposed changes to legislation in Australia have resulted in a substantial reduction in the availability of financial advice from planners who are free of insititutional bias. There are holes in financial planning as an industry but my personal take is that the overflow ramp of the financial advice dam is being closed but the holes at the bottom of the dam wall are bigger than ever. OK, i’ll get off my soapbox, and get back to the issue at hand.

There is an awful lot of biased advice going unreported at the moment. For example, there is a huge amount of repitition of market data and information that is being delivered by journalists who have vested interests. Has anyone else noticed this? There are a number of well-known commentators who for many years have bagged financial advisors as being biased, and who are now making money from “do it yourself” investors looking for regular market updates. In other words, there are people who have a vested interest in making the world look uncertain, who are using their position of authority to make the world look less uncertain.

Many financial advisors are quite happy to assist those who want to “do it yourself” but the mainstream approach of media is to suggest that the two approaches are incompatible.

In the case of people looking for changes in the mix of super funds there are at least a couple who have a vested interest in seeing a change to the “standard” allocation mix between debt and equity, or shares, property and bonds. Banks would naturally love to see an increase in the scope of fixed income investments available. Property people would love to see a greater allocation to property, and “alternative” investment managers would love to see more of their flavour of ice cream whipped into the mix.

i would like to introduce a new bias into the discussion.

Financial Planning – The Bias of Me

Yes, “me”. Also known as “you”. i believe that there is not enough bias towards the individual. If there were to be greater bias towards the individual then it is possible that there would be less focus on making markets fit people, and more focus on helping people fit their wants and needs into the possibilities of markets. For example, Australia has missed the boat on a generational opportunity for change to superannuation.

The default investment option for super funds is usually “balanced” or “managed”. This means that anyone who fails to make a choice in their superannuation fund, will usually have their money allocated to a mix of shares/property/cash that is considered “balanced” (whatever that may mean to different trustees and asset management consultants). In other words, the individual is forced to “fit” into a broadly defined mix of risk and return judgements. In many cases this would be entirely appropriate – but definitely not for everyone.

In my opinion, a more “correct” approach would have been to have every default fund invest only into short term cash. That way, no investment decisions are made until the individual has had a chance to compare the options available to them with their own financial position and outlook on money. In fact, i would have gone further, and mandated that ALL employer 9% contributions be invested into a single Commonwealth of Australia super fund that invested solely into cash and government securities. That would have provided massive benefits of scale, significantlyly reduced cost, increased the availability of insurance options and ensured that risks are absolutely minimised for individuals who have not had a chance to consider their mix of investments.

But it was not to be. Large fund managers, Industry Super Funds, Employer funds and others stood to lose power, fees and control of large chunks of money. And they say financial advisors are biased…

Having a bias towards the individual is not a guarantee of better returns but it just might bring about a better mix of investment possibilities with personal preferences, and through that process, Ken Henry’s call for a change in the strategic asset mix of superannuation funds would evolve to an outcome that “works” at the individual member level.

This would surely be a better outcome than randomly changing the mix of pools of money that are supposed to cover the needs of millions of different individuals, simply to keep up with the latest returns charts?





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