30 Facts About The Stock Market

My son turned 4 years of age the other week and it was a weekend full of parties and eating. One of my son’s favourite toy is Lego. His imagination and creativity runs wild. I’m one of those dad’s that keeps the instruction manuals in a folder – I mean c’mon, how else will you know how to build the original toy Lego had designed with all those parts? Although I did recently find out that Lego’s website stores all the instructions. Maybe I’m just a little old fashioned…at 35 haha!

Anyway, this got me thinking about how often we, as investors, deviate from what the stock was always designed to do. We seem to lose the instruction manual too often and our imagination and creativity seems to run wild like my 4 year old son with his Lego.

So I decided to take the liberty and list 30 facts about the stock market. What it was designed to do, how it operates, it’s performance and behaviour, and some of the facts that many folk in our industry seem to ignore:

  1. Stock markets exist and were conceived in order to allow companies to raise equity from the public in exchange for shares in that company.
  2. For every seller of a company, there is a buyer.
  3. For every buyer of a company, there is a seller.
  4. Over the long-term, the Australian share market has returned 8.5% pa.
  5. On average, the number of times the stock market moves up or down 1% within a day is 57 times over one year. In 2017 we witnessed 20 +/-1% days, and in 2018 so far we’ve witnessed 6.
  6. Australia makes up 2.1% of the world’s stock market. The US makes up 52.2%.
  7. The Australian stock market is made up of 40% in banks, and 18% in mining.
  8. Since 1926, we’ve witnessed 10 bear markets (declines of 20% or more). On average, the decline has been 45% and lasted for just over 2 years. The shortest was 3 months, and the longest was 5 years.
  9. Since 1926, we’ve witnessed 11 bull markets (including the current). On average, the climb has been 159% and lasted for 3.5 years. The shortest was 13 months, and the longest 9.5 years.
  10. Since 1926, we’ve experienced 15 recessions. That’s 1 in every 6 years.
  11. The average recession lasts 15 months, and the average expansion lasts 47 months.
  12. Over long periods of time, small company stocks beat large company stocks.
  13. Over long periods of time, the average investor under performs the stock market by a about 5% pa.
  14. Over long periods of time, professional investors under perform the stock market 77% of the time.
  15. Over a rolling 10 year period, the stock market has not lost money.
  16. The biggest gains in stocks are made while the company is on the way to the top, not after the gains are made.
  17. The stock market returns double digit gains or losses in 70% of all calendar years.
  18. The stock market lost almost 90% of it’s value during the great depression.
  19. The Japanese stock market has done nothing since 1989.
  20. Dividends make up about 42% of an investor’s return.
  21. If you missed the best 10 days in the stock market over the last 20 years, your portfolio would have returned 67% less than the market. If you missed the best 40 days, your portfolio would have returned 114% less than the market.
  22. If you missed the worst 10 days in the stock market over the last 20 years, your portfolio would have returned 150% more than the market. If you missed the worst 40 days, your portfolio would have returned 952% more than the market.
  23. 90 days of the year generates around 95% of all the year’s gains.
  24. The US stock market rose 22% last year. 25% of that return came from 5 companies. 10 companies made up 35% of the return. 23 companies accounted for half the return. Apple’s return alone was responsible for of the index’s total return then the bottom 321 (of the S&P 500) companies combined.
  25. From 1980-2014, 40% of all the Russell 3000 stocks lost at least 70% of their value and never recovered.
  26. The stock market has experienced an average intra-year decline of 13.8% every year since 1980.
  27. The average return of stock markets are between 8-12%, yet stock markets see gains within this range only 5% of the time.
  28. The stock market produces a positive return 3 in every 4 years.
  29. The stock market produces a negative return 1 in every 4 years.
  30. Stocks go up most of the time.

The stock market needs to be looked at as owning a piece of a company, a business. The ownership or worth of a business represents it’s futures earnings power. I strongly believe that as technology progresses, as we become more innovative and efficient, profitability should increase, and therefore businesses become more profitable, and businesses become more valuable – on the whole. During this process, we’ll witness and many of us will experience default. But I believe this is part of the evolution and progress.

Returns on the stock market are not promised to anyone, nor are they guaranteed. Having said this, the track record of the stock market is compelling. If you’re patient and disciplined enough, you too may be able to participate in what it has to offer.

Source:

Index Fund Advisers

JP Morgan – The Agony & The Ecstacy

JP Morgan – Guide to Markets (Australia)

Vanguard/Andex

Morgan Housel

Ben Carlson

SPIVA

The Tale of an Unsophisticated Millionaire

It was 1909, in a small Illinois farming community, a little girl by the name of Grace Groner was born. Orphaned at the age of 12, and like many people who grew up and lived through the great depression, Grace Groner was quite frugal with her money.

It’s understood she bought her clothes from garage sales, and rather than buying a car, she walked everywhere. Her one bedroom house in Lake Forest was minimalist to say the least. Grace Groner worked at a healthcare company as a secretary for 43 years. Although she was quite frugal during her working days, she traveled widely upon her retirement, volunteered for decades, and occasionally made anonymous donations to those in need.

Grace Groner died in 2010 with an estate worth $7,000,000 which was left to a foundation she established prior to her death. It’s estimated the estate would generate $300,000 pa in income each year. She instructed that the income would be used to benefit the students of Lake Forest College by funding internships, international study, projects, and grants.

During the time of Grace Groner’s death, Richard Fuscone, a former top Wall Street executive declared bankruptcy – fighting to save foreclosure on his 18,471 square foot, eleven bathroom mansion.

“I have been devastated by the financial crisis which came to a head in March 2008, I currently have no income.”

He writes in his bankruptcy filing.

Richard had an MBA from the University of Chicago, and attended Harvard Business School. Fuscone was viewed by company insiders as a “winner”. Upon his retirement, then-CEO (of Merrill Lynch) David Komansky praised him for his “business savvy, leadership skills, sound judgment and personal integrity.”

Money and finance is one of those industries where the humble 100 year old secretary will outperform a Wall Street titan. In no other industry can this happen. The 100 year old humble secretary couldn’t beat Tiger Woods at a game of golf. And would not be better at open hear surgery than a specialist heart surgeon.

The correlation between financial education and financial success is not guaranteed, as we have seen with Groner and Fuscone.

So what was Grace Groner’s secret sauce? She bough $180 worth of shares in the 1930’s. She never sold the shares, reinvested the dividends, and let the magic of compound interest do the work.

Simplicity unfortunately is not sexy, and investors are attracted to complexity. We seem to think that complex problems require complex solutions, when in fact the converse is true.

Investors’ time horizons are getting shorter, patience is being tested, and we seem to have a desire to over-complicate things unnecessarily. It’s as if the more information we have, the better educated we are, the smarter we think we become, the dumber the decisions we make.

The finance industry is living in a world of hype, false complexity, and over-confidence.

I’ll leave you with this great passage from a Walt Disney biography:

Long-term successful investing is simple, but not easy.

Do The Opposite

I sold my share portfolio last week. It’s just too risky – you know, Trump, China, interest rates, there’s just too much risk in the market at the moment. The whole lot I replied? Yep, the whole lot. I’ll get back in when it’s less risky.

This was the latest portfolio positioning for a (I think mid 40’s) gentlemen I met over the weekend through a mutual friend. What do you think he asks, you’re in finance, right?

I get this question all the time. As soon as people find out what I do – Where should I investment my money? Is the market going to crash? What do you think of the property market? I love discussing markets, so I’m happy to roll with the conversation. Financial history fascinates me, so too does the ongoing propensity of poor decision making by individuals.

People always want something to talk about. Whether it’s crypto-currency or trade-war, choose the rabbit hole you want to go down – you’re not short of them. As advisers, and in fact as investors, we need to be able to separate the conversation that is going on at kid’s birthday parties and bbqs, with what people are actually doing with their money.

The noise

People have been investing money for centuries. They’ve been doing so through good news and bad. This is one of my favourite charts. It plots the US stock market’s tumultuous history from 1896 to 2016 and highlights major events during this time – from the sinking of the Titanic to Brexit and everything in between. Notwithstanding the 121 major events, the chart proves once again that over the long-term, the stock market has risen as the drive for innovation and productivity trumps fear (click for larger image).

Source: Chris Kacher – MoKa Investors

It’s not the poor decision making by individuals that puzzles me, it’s seeing the evidence and proof that what you’re doing just doesn’t work, yet still doing it anyway is what puzzles me. It’s insanity as Albert Einstein once succinctly defined:

“The definition of insanity is doing the same thing over and over again, but expecting different results”

The average investor

There’s never one portfolio solution that will meet every investor’s objective. Whether you’re in your 70’s, seeking a regular and stable income, or whether you’re 45 trying to grow your asset base for your future, the two portfolio’s are going to look very different. The one thing that these two investors have in common however, is that (typically) they look for activity and complexity.

Staying the course, staying diversified, keeping your costs low is far too boring for these folk. And because it’s boring, they seek complexity and activity. Yet, the evidence suggests that because they’re doing the opposite of what they should, they lose money. And when I say they lose money, I mean they leave money on the table. They don’t generate the returns they should have generated should they have stayed the course. It’s as if you don’t even realise what you’re doing because you’re still generating some rate of return, albeit lower than what you should (but you never knew that).

Source: JP Morgan

Our industry thrives on these types of investors. And investors love hearing from the mouth piece that has a great story to tell. It’s a match made in heaven. For the most part of our industry (and I’m ashamed to say it), their job is to keep you as their investor/client, amused and entertained. It’s nothing more than dinner theater.

In the pursuit of trying to beat the market, the average investor falls short – by a huge margin.

You have to understand one important thing, about the market and that is for every buyer, there is a seller. And every seller, there is a buyer. So when transactions take place, the only winner, net, is the man in the middle. The croupier in the gambling casino.

– Jack Bogle

The perils of market timing

He sold his share portfolio because the market was too risky, and he’ll get back in when the market is less risky. He may get the first part of this call right, but he then needs to get the second part right too – when does he get back in?

The best investors in the world can’t get this right. They can’t pick the winning stocks, they can’t pick the manager who picks the stocks to beat the market. What makes you think you can?

I recently shared this chart, and I think it’s timely to share again. Harvard University’s endowment has trailed the S&P 500 index for the last 1, 3, 5, and 10 years. This is the largest university endowment fund in the US with some of the smartest people too, you’d think the fund’s investment returns would be out of this world. Yet even the biggest and the best can’t beat the market over the short, medium, & long-term.

Source: Bloomberg

It’s crazy but true.

If you’ve ever attempted to time the market, you don’t need me to tell you how difficult, stressful, and time consuming it is. To efficiently time the market, you need to be right twice – selling at the top, and getting back in at the bottom. Rarely anyone can predict either – it’s almost impossible as skill, more possible with luck. You may not have “lost” money, but allow me to show you what you left on the table.

Historical data clearly shows that staying invested and following a consistent strategy produces larger returns over time than letting current events or market valuations drive your investment approach.

Here’s the performance of $10,000 invested between 1 January 1997, and 30 December 2016. The chart shows the return of an investor who stayed the course (7.68% pa), the investor who missed the 10 best days in the market (4% pa), 20 best days (1.57% pa), and so on, you get the picture. Missing the 10, 20, 30 best days over a 20 year period makes all the difference in the end – the margin for error is so small!

Source: JP Morgan

In summary

I know how difficult it can be. It’ tempting – the excitement, the thrill, the belief that you’re smarter or different to the millions of other investors trading on the same day. Yet the evidence is clear. Unless, your Warren Buffett or Jim Simons, don’t risk your family’s future by gambling away your wealth.

Next time your find yourself itching to do what you normally do, pause for a moment and maybe do what George Costanza once did – do the opposite.

How to Invest Your Money

Over the last week, I’ve been speaking with a number of clients and investors about their investment portfolios and how to best allocate capital.

It’s a tough one. With so much content being publish dictating how we should invest our money, it’s no surprise investors are being left a little confused. I feel as though many investors are allocating capital based on how someone else thinks they should live their life, rather than allocating capital based on their own life goals and priorities. I mean, who better to tell us what we want than ourselves, right?

So, I decided to create a blueprint to help you decide how to allocate your capital, with the following caveat: There are many other investment options that are available to investors than what has been captured in this design, although, I reckon you could probably place most of them in each of the buckets I have included. My point is, it’s not perfect, but a good enough guide.

If you have any questions, need clarification, or would like to discuss further, please feel free to get in touch.

Enjoy (click for larger image).

Like any destination, before you decide how you’re going to get there, it makes sense to decide on where you’re going first.

The Market Collapse Explained

Over the last week, I’ve been speaking with a number of people about what’s been going on in financial markets. People that typically don’t follow the financial markets seem to have knowledge of it’s collapse. But what really happened and why? Here’s my attempt of a simple explanation of what’s been happening and why.

Here’s the last week or so in trading:

We haven’t seen this much market volatility for a long time. Here’s market volatility, a measure of market risk, or what is also known as the “fear index”, since 2008.

Source: MarketWatch

We have not seen market volatility like we are seeing today, since 2011. Investors have been accustom to market calm for 7 years – 7 years, without a bump, and you wonder why everyone is freaking out. Having said this, the level of market risk we are witnessing now is nowhere near the levels we saw in the 2008-2011 period.

So what happened?

On Friday (02/02), the US released employment data that showed not only were more jobs being created, but wages were growing faster than expected. Higher wages means inflation. And too much inflation may prompt central banks, in this case the US Federal Reserve, to raise interest rates. This has investors worried about the implications of higher rates on stocks and bonds.

Why does this matter?

Inflation has a kind of insidious effect. The cost of production rises, company revenues fall as they try and adsorb the early stage rises, and the economy starts to slow until consumers become accustom to a new pricing environment. This can be bad for stocks.

High inflation can be a good thing, as it can stimulate job growth. However, it could also impact corporate profits if company’s are unable to pass on the higher input costs to consumers.

What’s interesting is that since the GFC, we have seen corporations passing on higher input costs not via increased prices, rather, reducing the size of their products, also known as ‘shrinkflation‘.

Investors are also less likely to hold cash during times of inflation, because it’s value decreases over time. It can be a confusing time for investors. It can also be challenging for central banks as they want to ensure some inflation, but not too much.

The last week as has both the bond market and stock market sell of at the same time. This doesn’t happen too often, but it does happen, as I wrote about last week.

What’s the impact on my bonds

Let’s say you purchased a government bond for $100. This bond is paying you 2.50% pa. You’re happy. You can buy more of these bonds, or in fact sell your bond…for $100 (as long as someone is willing to pay you $100).

As inflation rises, so to follow interest rates. Some time passes since you purchased your government bond. The government announces it’s issuing a new bond. It’s worth $100, but they’re now paying 2.75% pa.

Now, if you had a choice of buying two bonds, both worth $100, but one paying 2.50% and the other 2.75% pa., which bond would you buy (not a trick question)? The one paying 2.75% of course. What this means is that if an investor has this choice, they’re not going to be paying you $100 for your bond paying 2.50%. They may offer you $95 for your bond however. And there it is. What investors fear. Loss.

Yes, your the price of your bond can go down (and up too, if rates fall, as we have been seeing over the last decade and more).

However, as long as you hold your bond until it’s maturity, you’l receive you $100 back. Whats more, is that you may be able to buy bonds that are selling at a discount to their issue price as rates rise. And as these bonds get closer to their respective maturity dates, the prices rises, and voilà – capital gain!

A history lesson in stocks

You’d be forgiven for blowing the dust off the history books in an attempt to examine the impact of high inflation and stocks. There have been numerous studies that have looked at the impact of inflation on stock returns. Unfortunately however, the studies have produced conflicting results. Here are some numbers I analysed courtesy of Robert Shiller’s data, which shows us how the stock market has performed given different levels of inflation. The x-axis (horizontal) represents the inflation rate, and the y-axis (vertical) represents the corresponding return in the stock market during that year.

As you can see, trying to find a pattern in the data is very difficult.

 

Source: Robert Shiller data

Let’s take a look at things a little differently.

In the following chart we can see the blue bars represent the average annual inflation for each year during the decade. So we can see for instance that in the years between 1913 and the end of 1919 they averaged 9.8% inflation. That is a high annual inflation rate! The stock market on the other hand generated just over 5% (5.68% to be exact). In the 1920’s, the annual inflation rate was virtually non-existent (actually slightly deflationary at less than 1/10th percent deflation) and the stock market soared. In the 1930’s the stock market had a bad decade and basically finished where it started (after dropping like a rock). So from this chart you can see that there doesn’t appear to be a correlation between high inflation and high stock market returns. If anything there might be an inverse correlation with the stock market doing better during decades when the inflation rate is below 3%. With the exceptions being the 1930’s when there was outright deflation and the 2000’s.

 

The market is worried that the Federal Reserve will have to raise rates much quicker than anticipated, given the surprising data. Here’s why it makes a difference. Bloomberg put together this great chart, which plots the performance of the US stock market during slow tightening cycles (raising rates slowly), and fast tightening cycles (raising rates quickly). And as you can see in the chart below, the performance of the stock market during the two cycles follow a similar path.

Bringing it all together

Since the GFC, interest rates around the world have hit rock bottom. Central banks around the world have been working hard to try and resuscitate a dying economy. Investors seem to have turned a blind eye to the reality of the global economy as they ploughed money into risky assets, such as shares and property – sending the price of risky assets around the world to record highs.

More and more we’re starting to see signs that the global economy is improving – yet the market would prefer an environment of fragility whilst being supported by the ‘invisible hand’ (governments and central banks).

All we’ve done over the last 7 or so years, is anticipate a stronger economy and have brought forward our future gains. Investors need to understand that periods of high growth are followed by periods of low growth, and vice versa. There is nothing new here, yet you’ll be told it’s a “new era”, and that we’ve never seen anything like this before. You’ll hear the saying, “time will tell”, more than you ever have, because no one knows how this is going to play out – don’t be fooled by somebody else’s ignorance. The outcome is not binary. Market’s may continue to rise for sometime, they may meander along, or we may have just seen the beginning of what’s to come.

What is certain however, is that the time will come when rates rise, whether faster or slower than expected. This will be because the economy is heating up. Heating up too quickly for the liking of central banks. And eventually, we will see a real collapse in the price of risky assets, including stocks and property. Like always, it will be temporary, although the market will respond as if it is permanent.

Plan ahead, and pack for your destination, not somebody else’s.

The Crash Begins. And There’s Nowhere to Hide.

The day has come my friends. A dip…finally. Or as some are calling it…a market crash.

Over the weekend, the US stock-market tumbled 666 points in the biggest fall since June 2016. In fact, it’s the 531st worst day in the history of the Dow Jones Industrial Average – we’ve seen this before.

What we haven’t seen before however, is the stock market trading 310 days without back to back 0.50% declines. Let that sink in for a moment. We need to go back to November 2, 2016, since we’ve had two days in a row of declines of just half a percent.

Source: BIG

Given we haven’t seen a meaningful pullback for some time, the current decline is going to feel extremely painful for some investors. And for investors who haven’t witnessed these types of declines, not pressing the sell button is going to be a little difficult, which in turn could make things a little worse.

The stock-market is a giant distraction to the business of investing. Invest for the long term, and pay no attention to the foolishness that goes on in the short term in the stock market.

– Jack Bogle

To put Friday into perspective, it marked the seventeenth -2% day for the S&P500 in the last five years. An average of 3.4 times per year.

 

Source: Michael Batnick

The funny thing is though, when the stock market rises for such a long period, we’re telling everyone a pullback is due. And when it finally arrives, everyone freaks out. Here’s market volatility, also known as the ‘fear index’, climbing it’s way higher after claiming record lows in November 2017.

One of the other reasons the market is freaking out is because both bonds and stocks fell at the same time, something that isn’t supposed to happen…apparently.

Bonds are supposed to provide your portfolio with support when stocks are losing money, as they’re supposed to act as a diversifier. But what is supposed to happen to stocks when bonds lose money? Can stocks diversify your portfolio from bonds? Ben Carlson of A Wealth of Common Sense ran the numbers a little while ago, however I decided to look into it myself. I’ve crunched the numbers, and here’s what I’ve found.

I’ve taken the S&P500 and Five-Year US Treasury data going back to 1926 and adjusted it for inflation. First, I looked at how bonds performed when the stock market was down:

Date S&P500 Five-Year US Treasury
Jan-30 -13.80% 5.88%
Jan-31 -32.26% 13.42%
Jan-32 -45.58% 8.13%
Jan-33 -13.81% 18.78%
Jan-35 -23.44% 5.80%
Jan-38 -39.25% 2.03%
Jan-40 -0.89% 4.79%
Jan-41 -14.08% 1.68%
Jan-42 -7.02% -10.12%
Jan-47 -12.85% -17.29%
Jan-48 -1.67% -9.40%
Jan-58 -8.62% 2.07%
Jan-63 -6.21% 4.41%
Jan-67 -9.37% 2.44%
Jan-70 -13.42% -7.47%
Jan-71 -1.38% 13.18%
Jan-74 -18.79% -4.63%
Jan-75 -22.71% -5.65%
Jan-77 -4.92% 4.89%
Jan-78 -11.72% -3.34%
Jan-82 -11.82% 1.26%
Jan-83 -0.83% 24.84%
Jan-88 -8.30% 0.98%
Jan-91 -3.68% 6.42%
Jan-93 -1.70% 9.02%
Jan-01 -15.21% 10.58%
Jan-02 -23.10% 5.81%
Jan-03 -34.55% 8.94%
Jan-08 -15.48% 8.89%
Jan-09 -47.04% 8.38%
Jan-12 -4.01% 5.30%
Jan-16 -2.38% 0.34%
Average -14.68% 3.76%

Then I looked at how the stock-market performed when bonds were down:

Date S&P500 Five-Year US Treasury
Jan-42 -7.02% -10.12%
Jan-43 25.57% -6.06%
Jan-44 16.75% -0.44%
Jan-45 17.36% -0.08%
Jan-46 41.79% -0.16%
Jan-47 -12.85% -17.29%
Jan-48 -1.67% -9.40%
Jan-51 36.45% -7.11%
Jan-52 18.18% -3.81%
Jan-57 5.08% -2.10%
Jan-59 39.74% -3.15%
Jan-66 8.76% -1.30%
Jan-68 8.67% -2.37%
Jan-69 11.30% -0.47%
Jan-70 -13.42% -7.47%
Jan-74 -18.79% -4.63%
Jan-75 -22.71% -5.65%
Jan-78 -11.72% -3.34%
Jan-79 14.18% -5.36%
Jan-80 18.44% -11.78%
Jan-81 13.67% -6.16%
Jan-89 16.02% -0.56%
Jan-95 5.26% -7.54%
Jan-97 24.05% -0.75%
Jan-00 13.18% -5.57%
Jan-05 4.23% -0.97%
Jan-06 9.65% -3.25%
Jan-10 32.00% -1.49%
Jan-13 15.83% -0.64%
Jan-14 23.33% -3.40%
Jan-17 20.00% -2.46%
Average 11.33% -4.35%

Here’s all the data and the take out:

Date S&P500 Five-Year US Treasury
Jan-27 4.20% 7.49%
Jan-28 35.21% 5.56%
Jan-29 52.42% 1.33%
Jan-30 -13.80% 5.88%
Jan-31 -32.26% 13.42%
Jan-32 -45.58% 8.13%
Jan-33 -13.81% 18.78%
Jan-34 65.65% 0.98%
Jan-35 -23.44% 5.80%
Jan-36 58.54% 4.29%
Jan-37 27.64% 0.60%
Jan-38 -39.25% 2.03%
Jan-39 14.83% 7.05%
Jan-40 -0.89% 4.79%
Jan-41 -14.08% 1.68%
Jan-42 -7.02% -10.12%
Jan-43 25.57% -6.06%
Jan-44 16.75% -0.44%
Jan-45 17.36% -0.08%
Jan-46 41.79% -0.16%
Jan-47 -12.85% -17.29%
Jan-48 -1.67% -9.40%
Jan-49 8.11% 0.72%
Jan-50 18.67% 4.07%
Jan-51 36.45% -7.11%
Jan-52 18.18% -3.81%
Jan-53 14.45% 0.85%
Jan-54 0.92% 2.80%
Jan-55 46.01% 2.44%
Jan-56 23.81% 0.34%
Jan-57 5.08% -2.10%
Jan-58 -8.62% 2.07%
Jan-59 39.74% -3.15%
Jan-60 2.31% 0.25%
Jan-61 5.59% 7.70%
Jan-62 12.84% 1.32%
Jan-63 -6.21% 4.41%
Jan-64 17.90% 0.63%
Jan-65 13.07% 3.17%
Jan-66 8.76% -1.30%
Jan-67 -9.37% 2.44%
Jan-68 8.67% -2.37%
Jan-69 11.30% -0.47%
Jan-70 -13.42% -7.47%
Jan-71 -1.38% 13.18%
Jan-72 3.80% 4.78%
Jan-73 10.86% 0.35%
Jan-74 -18.79% -4.63%
Jan-75 -22.71% -5.65%
Jan-76 28.71% 1.15%
Jan-77 -4.92% 4.89%
Jan-78 -11.72% -3.34%
Jan-79 14.18% -5.36%
Jan-80 18.44% -11.78%
Jan-81 13.67% -6.16%
Jan-82 -11.82% 1.26%
Jan-83 -0.83% 24.84%
Jan-84 8.39% 5.04%
Jan-85 0.84% 10.81%
Jan-86 4.41% 14.99%
Jan-87 18.38% 13.96%
Jan-88 -8.30% 0.98%
Jan-89 16.02% -0.56%
Jan-90 3.63% 5.56%
Jan-91 -3.68% 6.42%
Jan-92 10.68% 9.42%
Jan-93 -1.70% 9.02%
Jan-94 3.07% 7.28%
Jan-95 5.26% -7.54%
Jan-96 23.88% 12.06%
Jan-97 24.05% -0.75%
Jan-98 16.85% 8.49%
Jan-99 23.64% 7.18%
Jan-00 13.18% -5.57%
Jan-01 -15.21% 10.58%
Jan-02 -23.10% 5.81%
Jan-03 -34.55% 8.94%
Jan-04 30.73% 1.92%
Jan-05 4.23% -0.97%
Jan-06 9.65% -3.25%
Jan-07 11.21% 1.23%
Jan-08 -15.48% 8.89%
Jan-09 -47.04% 8.38%
Jan-10 32.00% -1.49%
Jan-11 16.45% 4.10%
Jan-12 -4.01% 5.30%
Jan-13 15.83% -0.64%
Jan-14 23.33% -3.40%
Jan-15 10.11% 4.21%
Jan-16 -2.38% 0.34%
Jan-17 20.00% -2.46%
Average 6.78% 2.28%

Source: Returns 2.0

Since 1926, the stock market has been down 32 years out of 91, and the bond market has been down 31 times – an average of around 35%, or up around 65% of the time. Of the 31 years that bonds were down, stocks were also down in just 7 of those years – or 22.58% of the time. Put differently, stocks were up >77% of the time bonds were down.

What we have witnessed over the weekend doesn’t happen too often, but it does happen. Stocks diversify bonds and bonds diversify stocks. Most importantly, investors need to ensure the allocation between bonds and stocks in their portfolio is the right mix for them. The allocation to stocks in my portfolio is almost 100%. The allocation to stocks in most of our retired clients’ portfolios is between 50% and 70%. There is no “right” mix for all. Investors must find the right mix for them.

You Don’t Design a House Based on a Weather Report

You don’t design a house based on a weather report.

Robert Frey

When I first heard this analogy from Robert Frey, a former hedge fund manager and quantitative investor, whose firm was bought out by Jim Simons’ Renaissance Technologies, an investment management company who’s performance trumps those of Warren Buffet’s Birkshire Hathaway, I thought it was so simple, yet absolutely brilliant. How true it is.

A snapshot of Jim Simons’ Renaissance Technologies

While many believe that value king Warren Buffett is the greatest investor of all time, his 17.1% average annual return over the last 29 years looks very pedestrian compared to those produced by the 90 PhDs employed by the $10 billion quant shop, Renaissance Technologies.

According to Bloomberg, the notoriously secretive hedge fund has delivered an extraordinary compound annual average return of 40.6% after its 5% annual and 45% out-performance (pa) fees since 1988 (or 2.4 times annually more than Buffett).

If you want to know more about Simons, check out this TED interview titled, “A rare interview with the mathematician who cracked wall street”. The man is a genius.

Anyway, Frey’s quote got me thinking about the similarities between architecture and portfolio management, and how similarly the two professions think.

Architects and Advisers love clients who come to the table with something to say. Clients who have thought about their goals, their ideas, the things that are important to them. It is the basis from which the design will evolve.

Architects and Advisers are trained professionals who have spent years studying, and gaining experience. You hire them as a wealth of knowledge to contribute. So be open to new ideas.

Architects and Advisers (good architects and advisers) will take the long-term into consideration. You want your project and money to last, without having to put more money into it. If you want a classic home, don’t fill it with trendy ideas that will fizzle into the future.

In the end, you need to feel confident and comfortable with, and trust the professional you engage. You’re going to be a team. It’s a personal journey.

As you wouldn’t build a house based on a weather report, don’t build an investment portfolio based on an investment forecast. The weather changes daily, so too do the investment forecasts.

Like you would with your important project, be clear on your vision, and think about what you want to get out of your investments. Seek professional advice. Be open to new ideas, and please, don’t cut corners on the finishings of your dream home. You know it’s not worth it.

2017 – The Year of Bubbles

Stock market bubble

Every day, investors are scratching their heads, undecided as to where they should be investing their hard earned money (fiat money, cash, not Bitcoin – more on that another time).

And rightly so. Financial markets have trotted along over the last 11 months, without stopping for much of a breather. Here’s a quick wrap up of the dizzy climbs in asset prices:

  1. Leonardo da Vinci painting sells for US$450 million at auction after the owners originally purchased it for less than US$10,000 in 2005
  2. Bitcoin is up 677% from $952 to $7,980
  3. 702: The number of global interest rate cuts since Lehman Brothers collapsed.
  4. Argentina issued a 100 year bond (they’ve defaulted 8 times in the last 200 years)
  5. Sydney house prices have doubled in the last 8 years
  6. The US stock market volatility fell to it’s lowest on record, while prices continued to make record highs

To put 2017 into perspective, here’s how US assets have performed compared to periods 1926-2008, and 2009-2016:

Prior to these “bubble” prices, we saw these bubbles:

  1. The highest known sale price for any piece of art was US$300 million
  2. Between July 2010 and February 2011, Bitcoin went from 5 cents to $1.10, that’s a 2,100% increase
  3. By the end of 2016, global central banks had cut interest rates 690 times since the collapse of Lehman Brothers
  4. Walt Disney and Coca Cola have previously issued 100 year bonds. Venezuela, Uruguay, Peru, Mexico, Ecuador, Costa Rica, Chile, Brazil, and Spain have all defaulted at least 8 times
  5. From 1996 to 2006, Melbourne property prices climbed 148%
  6. The S&P500 made 12 all time highs during 1997

Bubbles have been growing and popping for centuries, as far back as 1637. Since then, mainstream media has had a terrible track record of identifying bubbles accurately, and in real time. In fact, it’s probably quite the opposite.

Investors spend way too much time talking about, and worrying about things that happen 1 in every 4 years. There is no formula or model that accurately identifies bubbles in real time. If there is, it certainly is not public.

Will the market crash? Yes. When? I do not have the fainest idea. If anybody tells you they know when and by how much, they’re taking you for a fool. Or perhaps they’re the fool.

Markets are not cheap, relative to historical averages. The alternatives however, are forcing investors to move up the risk spectrum. Yet, the scars from the GFC have not healed, and this is probably why we haven’t witnessed complete euphoria.

The market is going to crash. We’ll see a decline of up to 60% in stocks. Investors will flee risky assets and pile into the safety of gold and cash (maybe Bitcoin – more on that another time). Unemployment will spike, and we’ll witness a domino of defaults on loans. The property market will shutdown, and sellers will be caught out with their pants down.

There was a study done a little while back now. A study that included bananas and chocolates. Let’s say your attending a conference next week. One week prior to the conference, you’re asked whether you prefer bananas or chocolates as a snack. 74% of you respond by choosing bananas. Fast forward to the day of the conference. The same people that imagined themselves eating bananas, ended up eating chocolates. Self-control is not a problem in the future. It’s only a problem now when the chocolate is in front us.

Design and construct your portfolio as if the market is going to collapse tomorrow. Because whatever you’re feeling and telling yourself now, is not how you’re going to act when the time comes. You’ll tell yourself you’ll have the bananas, but we all know you’re going to each the chocolates, and it’s not going to be good for you.

Don’t say I didn’t warn you.

Ignore the Headlines and Advice From the “Experts”. Here’s Why.

When a major global bank advises clients they should “sell everything” investors had better take notice. Or should they?

It’s January 2016, RBS advised it’s clients to brace for a “cataclysmic year” and that they should

“sell everything except high quality bonds. This is about return of capital, not return on capital. In a crowded hall, exit doors are small”

The bank expected stocks to fall by 20%, with a deeper decline for the London stock market. The bank’s research chief for European economics and rates was convinced, “This is your number one theme for 2016, without any question in my mind”.

UBS quickly jumped on the bandwagon, and issued a “significant change” to it’s house view, saying policy chaos in China had unsettled markets. They went so far as to cut their stock market exposure from overweight to neutral on a, wait for it…”six-month tactical horizon”. They went underweight emerging markets.

Pessimists were warning that unless there was a batch of unquestionable good data over the coming months (remember, this is back in January 2016), the sell off could become self-fulfilling and quickly metamorphose into the next global crisis.

So let’s take a look at how your investments performed since.

Source: Thomson Reuters

  • Blue line – London stock market: +1.24%
  • Red line – International fixed interest: +2.22%
  • Orange line – US stock market: +13.34%
  • Green line – European stock market: +17.83%
  • Purple line – Emerging markets (the asset class you were specifically advised to underweight): +25.70%

As tempting and enticing these splashy headlines can be, the reality is that it’s simply guessing. Making large bets like this on outcomes that are difficult to even place probabilities on, is simply speculation, it’s not investing.

Investors should focus on the things they can control. Having a game plan, maintaining diversification across stocks and bond, currencies and geographies, keeping costs low, and avoiding short-termism.

Wealth is created over long-periods of time. It requires discipline and patience – probably the two most common attributes of successful investors.

Don’t believe me, here’s more from an ex-finance journalist.

Maserati, Miu Miu, and Managed Funds

They say you get what you pay for. You’d be forgiven for thinking this philosophy applies to investing. It’s a schoolboy error – however nothing could be further from the truth.

Over the years, multiple studies have proven that costs depress investment performance over long periods of time.

There are two types of costs, 1) portfolio turnover costs, and 2) ongoing investment management costs

Portfolio Turnover costs

Portfolio turnover is basically how often a portfolio manager buys and sells stocks. When it happens too often, they rack up extra costs for investors. The costs are hidden, rarely disclosed to investors, and they’re crippling to a portfolio’s return.

The table below shows just how much portfolio turnover could be costing you. A global equities fund with a turnover of 100% is costing you 1.70% pa. You now need to make this back, plus more, in order to stay ahead. Not an easy assignment.

Here’s what portfolio turnover looks like (a little old I know), and how it’s increased over time through trading via actively managed funds.

Stock picking organisations “renting” rather than “owning” businesses in the stock market are at a massive disadvantage. The more you trade, the higher your costs. The higher your costs, the lower your return. Capiche?

Let’s move on.

Ongoing Investment Management costs

To set the scene, here’s the average cost of actively managed funds and corresponding index funds and ETFs.


Source: Vanguard

Not only are you behind the eight ball with higher transaction costs, you must contend with higher investment fees (also known as expense ratios).

Vanguard have a great calculator on their website (click here), which shows you how much money has been kept and how much money has been lost over time based on different expense ratios. I’ve run two scenarios:

1) A portfolio with an expense ration of 1.25%, which results in 68.7% of returns captured over 25 years.


2) A portfolio with an expense ratio of 0.50%, which results in 86.3% of returns being captured.

This is hard dollars. Lost.

Wrapping up

  • Higher costs can significantly depress a portfolio’s growth over long periods.
  • Costs create an inevitable gap between what the markets return and what investors actually earn—but keeping expenses down can help to narrow that gap.
  • Lower-cost mutual funds have tended to perform better than higher-cost funds over time.
  • Indexed investments can be a useful tool for cost control.

Unlike Maserati and Miu Miu, expensive managed investments are not cool, stylish, sexy, or impressive.