The Most Expensive Game of Golf You’ve Ever Played

Last week I wrote an article on investing following a speeding infringement. I received quite a number of positive responses to this note – thank you. I also received a number of questions on the concept I talked about in my blog, that is, compound interest and market timing. I touched on this topic a little while back, but let me give it another go.

Have you ever played golf and placed a bet on each hole? You know, everyone places a small amount of money on each hole, and the winner on each hole takes the lot? Pretty simple, and a bit of fun. Have you ever played this game whilst doubling the amount of money you bet on each hole? Not a big deal…start with 10 cents a hole, and double this amount for 18 holes. Any idea what the number is on the 18th hole? Before reading any further, just take a guess, quickly, don’t take too long!










$13,107.20! Ridiculous, right!?

How on earth does this happen I hear you ask? Here’s the above table in a chart.

Notice how nothing happens for a long time, the all of a sudden, BOOM, the amount explodes. This my friends is compound investing – the eighth wonder of the world.

If you think that all you need to know is which way the stock market is going in order to make money, think again. Talk to any successful business owner or investor, it’s more about being disciplined, having a game plan, and taking the long view.

Meet John – he’s the world’s greatest stock picker. He only buys when the stock market index is trading at 52-week lows, and assuming they are 17% below his last purchase. Meet Jane – she’s the world’s worst stock picker. She invests $2,000 only at market peaks beginning in 1970, when she’s 22 years of age. She increases her investment by $2,000 per decade – $4,000 per year during the 80’s, $6,000 a year during the 90’s etc. She retires at age 65.

The results? Hands down winner is John, right? The results of this experiment (thanks to Ben Carlson) may surprise you. John does quite well, as you would expect. But the results are very similar. You’d think John’s portfolio would be multiples of Jane’s as he was buying at market lows, and Jane at market highs, however this is not the case. Why? Compound interest.

Jump on any online calculator and calculate the capitalised interest on a 30 year loan. It’s okay, I’ve done for you. A $500,000 loan, with an interest rate of 5%, accumulates interest of $966,279.60. Think about that for a second – that’s only the interest. Imagine compounding capital and interest on your stock investment! The reason John misses out on the benefit of compounding, is because he’s out of the market for long periods of time. Carlson clearly states in his analysis, “Short-term moves in and out of the market don’t matter nearly as much if you have a long-time horizon. Thinking long-term increases your probability for success in the stock market while the day-to-day noise gets drowned out by discipline and compound interest.”

The strategy is so simple, requires no insight into the future, yet it is so powerful, and actually exists – unlike the perfect market timer. The catch? It takes a long time, and it’s b-o-r-i-n-g! The irony is however, that the group of people who have the greatest capacity to absorb the market’s volatility, are the same group of people who seem to be the least interested in it.

I Received a Speeding Fine Last Week. Here’s What it Reminded me About Investing

Last week I was driving my family home after having dinner at my parents’ place. On the way home I was pulled over by the police – “I’ve pulled you over sir because you were speeding”. After 15 minutes of patiently waiting in the car, and after my wife convinced my 4 year old son that daddy wasn’t going to jail, my infringement notice was handed to me – $322 and 3 demerit points.

Now, the last time I received a speeding fine was at least 5 years ago, so I think I’m okay on the demerit point side of things. How about the money? It’s not a small amount of money. I mean, this money could buy my wife and I a fancy night out at dinner, it’s almost half the price of my Collingwood footy club membership, or 3 months of public transport costs. I chose not to spend the $322 on any of these items, but the infringement must be paid – this got me thinking.

I could have easily taken this money and invested it. I could have paid off the credit card. I could have put it toward my children’s school fees. I didn’t do any of these, because I didn’t have the money (that’s what we tell ourselves I guess). Yet the moment I am handed an infringement notice, the money miraculously appears. Why, as investors, do we not apply a similar philosophy to our own financial affairs and prioritise our wealth accumulation? Imagine if we placed as much importance and discipline to our wealth management strategy as we do ensuring we pay infringement notices on time? Imagine if each month we issued ourselves with a wealth infringement notice – say 5% of our net monthly salary, no questions asked – not negotiable.

They say most of us overestimate what we can achieve in one year, and totally underestimate what we can achieve over a lifetime. Small amounts of money, invested over long periods of time can make an enormous difference to our wealth, yet we choose to ignore this fact.

Here’s my challenge to you: Apply a wealth infringement on yourself. Take 5% of your income, and everytime you get paid, direct that money into a long-term investment portfolio. Whether the market is booming or otherwise, religiously invest that sum of money each and every month. You’ll be blown away by what your portfolio could be worth 10, 20, 30 years from today.

Actually, I’ve done the work for you. I’ve compared three individuals. They all begin with a $1,200 investment, each investment earns 8% pa, and they invest for 30 years. Investor 1 simply makes a one off investment of $1,200. Investor 2 makes further investments of $6,000 every 5 years, and Investor 3 makes a $1,200 investment each and every year.

As you can see from the above chart, the portfolio of Investor 2 and 3 portfolio each ends up with a relatively close amount. However, Investor 3’s portfolio is worth 7% more than Investor 2. Small amounts of money over long periods of time make an enormous difference. Imagine swinging your golf club 2 degrees to the right off the tee. The further that ball flies away from you, the more and more it will swing to the right, well and truly beyond the 2 degrees from when you struck the ball. Investing is no different.

And if you think you may not have the money to save and invest, just think about it this way: If interest rates rose tomorrow, and the repayments on your loan subsequently increased, you’ll probably have the money to make the extra repayments. No different to if you were issued an infringement notice each month, you’ll probably have the money to make the payment.

How often do we look back to situations and think, I wish I had done this, or if only I had done that – especially when it comes to investment decisions. I’m sure you or someone you know has looked back and thought, if only I had bought that property 10 years ago, or, if only I had invested my money 20 years ago when I had the chance.

As human beings, we’re constantly in the pursuit of instant gratification. Work out what you really want, put in place a plan, execute, and remain disciplined. Once it becomes a regular thing, you won’t even notice it, and you’ll thank yourself later for it.

Here’s What Vikings And Investing Have in Common

On Saturday afternoon I visited the Vikings exhibition at Melbourne Museum. Over 450 artefacts were on display, making it the largest collection of it’s kind in Melbourne, and boy was it packed! Two things I learned from the exhibition:

1) Vikings’ swords weren’t that heavy, and

2) The importance of silver during trade.

This precious metal became such an important component of trade during the Viking period. Silver coins and ingots were used to balance transactions. Vikings would carry around their own set of small scales to ensure each transaction they entered into was measured accurately and precisely, and the transaction was completed fairly and that they weren’t being cheated.

When I look through the funds that have been used to construct a portfolio for individuals, families, and/or superannuation funds, I am always stumped by the high fees that are being paid by investors.

In business, there’s an old saying, you need to spend money to make money. When it comes to investing however, the more money you pay, history tells us that it has an adverse effect on what you have left in your pocket. Don’t get me wrong, every investment has a cost, even though it may seem as though you’re not paying anything. I recall being told by one “wealth management” firm, their fee to trade international shares for their clients was nil…NIL!? (I wasn’t aware you were a charity). After we did some digging around, we uncovered the firm would take a large clip from the foreign currency exchange. Sure, the brokerage was nil, but unless you understand how these things work, on face value it may seem as though you’re not paying anything.

Most people don’t evaluate the expenses incurred in managing their investments within their portfolio. When you understand how investment fees can dramatically reduce your returns, and when you understand how fees are a strong predictor of future returns, investors should spend more time in evaluating their investment fee.

Why costs matter 1

Sure, 0.50% here, 0.25% there, it doesn’t sound like much over the course of a year, but when you compound this number over long periods of time, it could mean the difference between retiring at age 65 instead of 69.

The impact of fees is two fold. Not only do you lose the annual fees you pay each year, you also lose the growth that money may have had for future years into the future.

To illustrate the significance of fees on an investment, I plotted the below chart, which shows 4 portfolios. Each earning 6% pa, and each invested over a 30 year period. Each portfolio has an internal fee of 1%, 2%, 3%, and 4% respectively.

As you can see, over long periods of time, the net result to the investor is significant. And if for one second you think a 4% pa fee on an investment is unrealistic, just think hedge fund.

Why costs matter 2

You’d be forgiven for thinking that the higher the fee, the higher the quality of the manager. This could not be further from the truth. Research on managed investments has shown that higher costing funds generally under perform lower costing funds. The more one charges, the more difficult it becomes to add enough value to overcome the additional expense.

Research by Vanguard illustrates funds with lower costs have outperformed more expensive ones.:


Nobel Laureate William Sharpe once said:



“the smaller a fund’s expense ration (cost), the better the results obtained by it’s stock holders”

The Australian Securities and Investment Commission (ASIC) in 2017 made changes to Regulatory Guide 97 which forced funds to disclose more information about their fees. Now, disclosure documents issued by investment managers should provide greater transparency to investors in order to help them make a more informed decision.

In my personal and professional opinion, your portfolios’ investment fees should not exceed 0.50% pa, in fact, you could probably get it down to as low as 0.30% pa for a properly diversified portfolio.

There’s an old Chinese proverb that says, If the river is too clean, you will catch no fish.” Meaning, by being too transparent you will not win new business. There are many different kinds of costs when it comes to the world if investments, but they all have one thing in common: If the money is going somewhere else, it’s not going to you.

Like the Vikings, maybe investors should be carrying around their own set of scales.

We’re Headed For Another Recession & You Have No Idea What Will Happen

Daniel Kahneman once said,

“The idea that the future is unpredictable is undermined every day by the ease with which the past is explained.”

As investors, in fact as human beings, we’re constantly fighting the last war. In other words, we overweight recent events when we make judgment on the probability of an uncertain future event. We simply extrapolate the most recent event indefinitely into the future.

Think about the most recent economic decline, investors we’re running for the exits with the view that the ‘things we’re going to get worse’. The financial crisis of 2007/2008 was one of the most painful experiences in almost a century, yet it only lasted 18 months. I know plenty of investors who retreated at possibly the worst time, and were left hanging out to dry after the market bounced off the bottom, waiting for ‘the right time to get back in’.

Contrast this to how the market has been performing since the bottom of the GFC (March 2009), we have witnessed one of the longest recoveries in history, as illustrated in the chart below. This is probably one of my favourite charts – Bull markets since 1950 in measure in both duration and magnitude.

I know plenty of investors who have either bought back in after they had sold out at the worst time, or have been redeploying cash because they believe the market will continue it’s stellar performance.

Source: Yahoo Finance

Investor’s not only extrapolate the most recent events, but also try to plan ahead for the next GFC and how they’re going to deal with it, and it causes investors to shift their tolerance for risk at precisely the wrong time. If  you’re worried about a 10% correction in the stock market, stocks are not a place for you. Unfortunately for investors, no two market cycles are ever quite the same, so studying the last crisis is unlikely to prepare you for the next. Studying how you behaved during the last crisis on the other hand, may be quite beneficial.

Financial markets never follow the exact same route more than once, yet human behaviour follows precisely the same route, each and every time. Here’s a great, simple 30 minute animated video by Ray Dalio, on how the economy works. It’s probably one of the best videos on the economy I’ve seen.

The timing, the impact, and the duration of recessions are all different. Here is every US recession going back to the Great Depression along with the corresponding stock market performance.


Source: National Bureau of Economic Research, Ben Carlson

Even if you knew when the next recession was going to hit, the duration, and the impact it would have on the economy, it’s unlikely you would be able to profit from it. The stock market’s performance during each of these recessions would surprise most investors. This is one of the reasons why you can’t ‘wait for things to get better’ before investing – the stock market is a forward looking machine, not backward.

On average the stock market:

  • Has been up during a recession
  • Has been up 6 months prior to a recession
  • Has returned over 20%, 12 months after a recession has ended
  • Has returned over 52%, 3 years after a recession has ended
  • Has returned over 85%, 5 years after a recession has ended

By the way, we don’t need a crisis or a recession to see the stock market go down. Here’s 13 instances where the stock market has fallen 10% or more without a recession:

Source: Stocks for the Long Run, Ben Carlson

Paul Samuelson once said,

“The stock market has predicted nine out of the last five recessions.”

Next time you find yourself captivated by the alarming predictions made by the guy or gal on the television, in the paper or on Twitter, please remember this: More money is lost in trying to anticipate a collapse in the stock market than the collapse itself.

Probabilities Versus Predictions

Last week, South Korea stunned the football world by knocking out World Cup favourites Germany. In an astonishing finish, South Korea kicked two goals within minutes of the final whistle during extra time, in one of the biggest upsets in the sport’s history. Why? Because Germany were expected to take out the 2018 Fifa World Cup.

Here’s the 2 minute wrap up of the match courtesy of SBS:

It wasn’t only the football world who expected the German’s to take the cup home, it was also the expectation of UBS’ analytical team who ran complicated statistical models to place probabilities on all nations competing in the World Cup. Here’s the report if you’re curious.

Following Germany’s loss to South Korea, UBS have been copping criticism from journalists and social media trolls, about their inability to predict or forecast the future. Individuals’ and companies’ inability to forecast the future is well documented and certainly not news to anyone that studies the market, no matter how sophisticated they are or their technology is.

Let’s get one thing clear, UBS nor any of the other investment banks “predicted” Germany would win the World Cup. They simply applied a 24% probability of winning, in other words, a 76% probability of not winning – there is a huge difference.

“We are humble enough not to outright claim that Germany will win the tournament again, but our simulations indicate there is no other team with higher odds to lift the trophy than the defending champion.” – UBS (emphasis mine)

As nerdy and as absurd as this analysis may seem, what else do you have to rely on? Your gut feel? The tip your taxi driver gave you? Your “expert” football mate? I’ll take the odds thank you very much.

This is exactly how casino’s work. Their gaming systems are all designed to ensure the odds are firmly in their favour. Sure, you may win, and you may even win big, which is why you keep playing – but the odds are slim. And if you keep playing for long enough, you will eventually lose.

And when it comes to investing, investors seem to throw the odds out the window and prefer to play a very different game. One that is akin to the gambler at the roulette table. One where investment professionals try to outguess prices established by the collective wisdom of millions of different buyers and sellers each and every day.

Investors may be surprised by:

1) The number of investment funds that become obsolete over time, and

2) The low percentage of funds that are able to outperform their benchmark.

The chart below shows the sample number of funds that existed as at 31 December 2017, the number of funds that survived, and the number of funds that outperformed their benchmark. For example, 5 years ending 31 December 2017 (from 31 December 2012), there were 2,867 sample funds, of which 82% survived the 5 years, and only 26% were able to outperform their benchmark.

Source: Dimensional Fund Advisers (DFA)

Both survival and out-performance rates fall as the time horizon expands. For 15 years ending 31 December 2017, only 14% of funds survived and outperformed their benchmark. The odds of this game don’t seem very compelling if you ask me.

Let’s say you’ve found a manager who’s been able to outperform their benchmark for the last 3 years, and you’ve decided to hire them. Most investors and advisers use this method of manager selection, reasoning that a fund manager’s past success is likely to continue into the future – sack the poor performers, and hire the strong performers is how the narrative goes. The evidence suggests the contrary.

The chart below shows that among funds ranked in the top quartile (25%) based on previous three-year returns, most of them did not repeat their top-quartile ranking over the following. Over the periods studied, top-quartile persistence of three-year performers averaged 26%.

Source: DFA

The assumption that strong past performance will continue often proves faulty, leaving many investors disappointed. And despite all the evidence, investors continue to search for the winning investment – taking far greater risks than they ever expected.

Imagine for one second you could invest like the casinos. Putting the odds of success firmly in your favour the longer you play the game. As investors, we need to consider more than just a compelling story, and more than just good past performance. You may choose to ignore the evidence. You may choose to take on the odds. You may choose to ignore probabilities and make decisions based on predictions. Now that Paul the octopus is no longer with us, you may as well ask Achilles the cat for stock tips.