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The Sunday Times 02 April 2017


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“They deserve it - going long Leicester after they won the Premier League doesn't deserve your sympathy...”

In an email exchange between a few friends last week I offered some sympathy to the investors in a very popular absolute return fund that has endured a prolonged period of poor performance. My compassion was clearly not shared by all!  

It was a little harsh in my view for a few reasons, but given that simply picking last year’s winner is such a well-documented losing strategy surely falling foul of it has little claim on our pity?

iCubed conducted its own analysis of funds in the Irish market; if an investor had perfect foresight, and placed money with the best performing fund each year from 2005-2016 , €10,000 would have grown to a hardly comprehensible €640,000. In reality, cash flows tend to be attracted by, rather than precede, a period of strong returns. The same €10,000 invested in the same funds, but only after the year in which they topped the performance table, shows your €10,000 declining to a barley credible €6,000.

Investors’ attempting to shorten the long term by jumping in and out of funds is symptomatic of an industry that places far too much store in short term results. Investors are supposed to optimise their returns over a 15-20 year time horizon. Yet fund managers hold stocks for 1-3 years. And worse still analysts provide price targets for 12 months. And this is against a backdrop in which up to 80% of the present value of a long-term investor’s portfolio is based on cash flows expected after 5 years. Is it any wonder that the results for the average investor are so poor?

Whilst investors may not have a major claim on my sympathy I think it deserves acknowledging that there is culpability for their results within the wider investment industry. They deserve more from fund managers.  And they deserve more from their advisers.

As asset gatherers, fund managers have employed market volatility to produce profits for itself far more reliably than it has produced returns for its investors. The poor run of performance for absolute return funds is testament to this.

Investment advisers have a case to answer and I would include myself amongst them (even though I work with advisers and not clients directly). If looking to help investors, we should tell them the truth, but very often advisers are looking to help themselves, in which case it’s usually safer to tell people what they want to hear. The temptation to pander to investor desires can be irresistible, but good advice rarely changes. 

And to investors, your deserts are just; at least to an extent. Your praise only extends to how far short or ahead of your own expectations you land; disasters averted don’t register. Thus the possibility for a pat on the back (for your adviser) for a few winners will never balance the risks of being fired after a string of losses. It should be no surprise that the advice you receive is neutered.

My intentions with this article were to be more constructive than simply apportioning blame. I think advisers should spend more time educating investors. We traditionally conceive of ignorance as being the result of a knowledge deficit and education being the natural antidote to this.

Financial markets are extremely complex however. Advice is absolutely critical as the evidence for the returns earned by those that plough their own furrow is simply appalling. I’m all for education but we need to be careful that it doesn’t imbue a sense of illusory confidence. Education should serve you well in being able to interrogate advice appropriately and weeding out the investment equivalent of what Charlie Munger might term ‘exotic coloured fishing tackle’.

Munger (Warren Buffett’s partner at Berkshire Hathaway) tells the story about the shopkeeper that sells exotic coloured fishing tackle. When asked by anglers as to whether these fancy coloured lures actually worked and attracted more fish, the shopkeeper’s response was, “Mister, I don’t sell to fish”.

The fishing tackle salesman is only concerned with whether his product works to the extent that it affects repeat business. The fishing tackle are exotic colours to attract fisherman, not fish. Munger was taking aim at investment banks; I’m taking aim at investment products, many of which are designed to attract investors, not necessarily investment returns.

There is no dead cert, hot tip or next best thing in the investment world; or at least not one’s which will keep you on the starboard side of the law.

The temptation to back last year’s winner will always loom large. The appeal of exciting, sophisticated, and complex products will pull on your inner greed. Education and advice are the antidote. 
 

Warning: Past performance is not a reliable guide to future performance. The value of investments may go up and down.


Gary Connolly is Managing Director of iCubed, promoting better investment outcomes through a collaborative approach to investing. He can be contacted at gary@icubed.ie or on twitter @gconno1.

iCubed Training, Research and Consulting, trading as iCubed, is regulated by the Central Bank of Ireland.

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