"Rates Can Only Go Higher"

Weston J. Wellington, Vice President, Dimensional Fund Advisors

It seemed so obvious. With the economy slowly recovering last year from the worst recession in decades and the federal government seeking to tap the credit markets for over $2 trillion to fund an ambitious spending program, both laymen and experts alike seemed to agree that interest rates had nowhere to go but up. The yield on the ten-year U.S. Treasury note as of June 30, 2009 was 3.52%, down from 5.25% in June 2007 but well above the 2.09% level registered amidst the depths of the credit crisis the previous December. With retail sales and housing activity showing signs of gradual improvement, the only question appeared to be how much higher interest rates would go.


Among fifty economic forecasters surveyed by the Wall Street Journal in June 2009, forty-three expected the ten-year U.S. Treasury note yield to move higher over the year ahead, with an average estimate of 4.13%. Seven expected a rate of 5.00% or higher while only two predicted rates to fall below 3.00%. The result? The ten-year Treasury yield slumped to 2.95% on June 30, 2010 and rates on 30-year mortgages fell to their lowest level since Fannie Mae began tracking them in 1971. How many of us would have expected this during a period when gold prices soared over 33% to a record high?


Some observers may be tempted to poke fun at these hapless “experts”, implying they are incompetent or poorly informed. This interpretation is flawed since it suggests that a better team of experts would achieve a more accurate result. A more useful explanation is that even the most talented analysts are unlikely to make reliable predictions and the poor showing by this particular group is simply what we would expect to see, just as often as not, if markets are working freely and fairly. Today’s bond prices already reflect expectations for tomorrow’s business conditions and inflation and these expectations can change quickly in response to new information. However tempting it may be to believe that we can predict the future better than other market participants through careful study, the results of the Wall Street Journal survey as well as numerous other efforts suggest this confidence is misplaced.


What is the message for investors? Predicting interest rates and bond prices is no easier than predicting stock prices, and making decisions based on what appear to be certain outcomes at the time can often prove costly. Many investors reconfigured their portfolios in anticipation of higher interest rates and have penalized their results while they are waiting.

Instead of seeking to predict the unpredictable, investors are much more likely to enhance their results by focusing on the elements they can control – risk exposure, diversification and minimizing costs and taxes.


Yahoo! Finance www.yahoo.com accessed July 7, 2010. Wall Street Journal Forecasting Survey www.wsj.com accessed July 7, 2010. Prabha Natarajan and Matt Phillips. “Stocks Drop; So Do Mortgage Rates” Wall Street Journal, June 25, 2010.
Mark Gongloff. “Two Treasury Forecasts: a Grand Canyon-Sized Gap” Wall Street Journal, April 10, 2010.
Tom Petruno. “Gold Hits Record as Investors Seek Haven” Los Angeles Times, June 9, 2010.

Sugar: The Bitter Truth

Robert H. Lustig, MD, UCSF Professor of Pediatrics in the Division of Endocrinology, explores the damage caused by sugary foods. He argues that fructose (too much) and fiber (not enough) appear to be cornerstones of the obesity epidemic through their effects on insulin. Series: UCSF Mini Medical School for the Public [7/2009] [Health and Medicine] [Show ID: 16717]

Jim Parker's New Book

Jim Parker, VP at Dimensional, has just published his new book, Outside the Flags 3: Discovering the Value of Good Advice.

In this book, the third collection of articles from his web column Outside the Flags, Jim Parker uses these topical issues to highlight the value of good advice:

• Crises come and crises go, but lunches are still not free, return rarely comes without risk and patience remains an under-rated virtue.
• If you are worried about bad news, chances are it is already in the price. Investing is about what comes next. We don’t know that so we diversify.
• You don’t need luck to be a good investor. More useful are patience, discipline, a focus on costs, a willingness to diversify and a decision to take only those risks that come with a long-term reward.
• The media builds neat narratives from messy reality. While often interesting, these are not something to base an investment strategy on.
• Investors grappling with market turmoil often question the value of financial advice. Better to ponder the cost of bad advice.

 Please contact me directly if you would like a copy of Jim's new book.

Marco Pantani - 'Il Pirata' (the pirate)

Marco Pantani Jan 13, 1970–Feb 14, 2004 (died at age 34)
Italian road racing cyclist, one of the best climbers in professional road bicycle racing. He won the Tour de France and the Giro d'Italia in 1998... His career was beset by drug abuse allegations after a failed blood test in the 1999 Giro d'Italia. He died after a cocaine overdose in 2004...
Miguel Indurain, five-times Tour de France winner, paid tribute by saying:
"He got people hooked on the sport. There may be riders who have achieved more than him, but they never succeeded in drawing in the fans like he did."^[13]

http://en.wikipedia.org/wiki/Marco_Pantani

Fausto Coppi - "Campionissimo"

Angelo Fausto Coppi, 15 September 1919 - 2 January 1960 (died at age 40)
Comparing riders from different eras is a risky business subject to the prejudices of the judge. But if Coppi isn't the greatest rider of all time, then he is second only to Eddy Merckx. One can't judge his accomplishments by his list of wins because world war two interrupted his career just as world war one interrupted that of Philippe Thys. Coppi won it all: the world hour record, the world championships, the grands tours, classics as well as time trials. The great French cycling journalist, Pierre Chany says that between 1946 and 1954, once Coppi had broken away from the peloton, the peloton never saw him again. Can this be said of any other racer? Informed observers who saw both ride agree that Coppi was the more elegant rider who won by dint of his physical gifts as opposed to Merckx who drove himself and hammered his competition relentlessly by being the very embodiment of pure will.^[14]
Coppi broke the world hour record on the track in Milan on 7 November 1942. He rode a 93.6 inch (2.43 metre) gear and pedaled with an average cadence of   103.3rpm.^[15] 
The record stood until it was beaten by Jacques Anquetil in 1956.^[9]
http://en.wikipedia.org/wiki/Fausto_Coppi

Working in a Coal Mine

Jim Parker, Vice President, DFA Australia Limited

A recent media article hyped resource stocks, just a day before the Australian government slapped a big new tax on mining. Chalk it up as another reason not to stake your investment strategy on a single sector.

The illustration in The Australian Financial Review¹ showed a miner's pickaxe breaking the dirt, showering sparks and diamonds. The accompanying text proclaimed that investors couldn't afford to ignore mining stocks.

Citing the extraordinary demand from China for raw materials, the newspaper said its own analysis showed the 100 best performing materials shares over the past five years had posted a median annual gain of 33 per cent.

The upshot, said the paper, was that investors needed to improve their knowledge of mining stocks to sort the speculative commodity plays in the equity market from the tried and trusted resource houses.

This all sounded very sensible…at least until the federal government the very next day unveiled a major tax reform package that had as its centrepiece a 40 per cent tax on the profits of mining companies.

Shares in global miners BHP Billiton and Rio Tinto lost 5.5 per cent and 7.5 per cent of their market value respectively over a couple of days. One broker estimated the tax, which takes effect in 2012, could reduce the companies' earnings by 17 and 21 per cent respectively in the first year.²

Of course, such companies as BHP and Rio are influenced by more than a single government's tax regime. Their market performance also came at a time of mounting concerns over Europe's debt crisis and its impact on global growth, a major determinant of commodity prices.

But this episode is yet another demonstration of why people should not seek to build their investment
strategies around a single idea or industry sector. There may well be a "commodity super cycle" underway, as some economists say, but investing this way introduces sector-specific and stock-specific risks that can be diversified away.

Dimensional breaks down equity portfolios not into mining stocks and banking stocks and healthcare stocks, but into broad asset class categories where the risk is related to an expected return.

This means a properly diversified portfolio will include large stocks and small stocks, growth and value stocks, domestic and international stocks and emerging market stocks. The exact mix will be determined by the needs and risk appetites of the individual investor.

It should be said that some of these portfolios may well include BHP and RIO, particularly if the investor chooses a dollop of large cap stocks. But the important point is that the portfolio is not built around a view about the mining industry or its prospects.

Ultimately, successful investing is not only about successfully capturing risks that offer an expected return, but reducing risks that do not. That means limiting one's exposure to random forces and not falling into the temptation of basing an investment strategy on an economic forecast.

Otherwise, it is like working in a coal mine—dark, dirty and dangerous.

---

¹'Your Guide to Mining Stocks', The Australian Financial Review, May 1-2, 2010

²'Rudd Tells Australian Miners He'll Pursue Tax Plan', Bloomberg News, May 5, 2010

Esther Duflo’s TED talk

Esther Duflo - Short Bio

http://www.povertyactionlab.org/

Facebook and Twitter

from @SocialMedia411 ...

Facebook is for people you went to school with. Twitter is for people you wished you went to school with.

Follow me on Twitter: @matthews24

Talking About a Revolution

Jim Parker, Vice President, DFA Australia Limited

Australia's financial advice and retirement savings industries are about to undergo a revolution aimed at protecting investors, curbing conflicts of interest, lowering costs and improving transparency.

At the centre of reforms, unveiled by the federal government recently, is a ban on commissions paid by fund managers to financial advisors and on any other conflicted remuneration structures. The ban applies from July 1, 2012.

The reforms came out of an inquiry called by the government after a series of scandals in which investors were shoehorned into inappropriate investments by advisors compromised by sales incentives.

Alongside the ban on commissions, the government plans to introduce a statutory fiduciary duty requiring advisors to act in the best interests of their clients and to put their clients' interests ahead of their own.

The reforms have received almost universal approval from industry bodies, including the Investment and Financial Services Association, the Association of Superannuation Funds of Australia and, in a more qualified way, by the Financial Planning Association.

A separate inquiry, meanwhile, is seeking to simplify and make more efficient Australia's system of compulsory superannuation, or retirement savings. A preliminary proposal is for the creation of a single, low-cost, simplified and diversified investment strategy for the vast bulk of Australians who do not want to exercise choice in superannuation.
Taken together, the reforms are seen likely to strengthen advisory businesses that already employ fee-for-service models and which are not compromised by compensation provided by fund managers.

This is close to the new model of advice long promoted by Dimensional — one in which the interests of the client are paramount. In the old model, a product manufacturer paid commissions to an advisor (in reality, a facilitator), who in turn sold proprietary products to a customer. In the new model, the pyramid is reversed so the advisor's interests are aligned with those of the client.

In this view of the world, clients are much more inclined to stay the course and meet their financial goals. They get what they really want — help in making wise financial decisions. Advisors become true fee-based professionals, focusing on the needs of their clients and freed from having to "sell product".

The other aspect of the reforms — creating a more efficient retirement savings system — also ties in with Dimensional's long-established message. That message says that investors should focus more on things within their control, like keeping costs down and reducing taxes, and less about factors outside their control, like market volatility and media noise.

It truly is a revolution. And it has been a long time coming.

Hard Sells, Harder Lessons

Jim Parker, Vice President, DFA Australia Limited

Sometimes you need to see the worst practices of the financial services industry to understand why it is worth paying for good advice. Take, for instance, what's been happening in New Zealand.

Huljich Wealth Management is an accredited distributor of KiwiSaver, a voluntary work-based savings initiative set up by the New Zealand government to encourage Kiwis to grow wealth for their retirement.

The Securities Commission launched an investigation into Huljich after the company's founder, principal shareholder and managing director Peter Huljich admitted he propped up the fund with his own money in 2008.

Huljich later admitted his wrongdoing and resigned as managing director and chief investment officer. While the firm insists no member lost money as a result of his actions, the controversy has hurt the company's reputation.

At the same time, the Securities Commission has expressed concern over aggressive marketing techniques by distributors of KiwiSaver, including high pressure door-to-door selling and inducements to sign up right away. Huljich is alleged to have been one such aggressive marketer.

"The commission has become aware of a number of circumstances where KiwiSaver membership has been solicited in an unusual or confusing manner. This type of behaviour is completely unacceptable and damaging to investor confidence," commission chairwoman Jane Diplock said.¹

According to one newspaper, Huljich sold the superannuation scheme to two intellectually disabled students who had little idea what they were signing. One was under the legal age and the other had a reading age of 8.


In some cases, investors did not know they were committing to KiwiSaver. Some thought they were purchasing household products. In other cases, inducements were offered for long-term membership. Some people were even offered the chance to win a $100 shopping voucher if they signed up.

The controversy over KiwiSaver is not what the New Zealand financial services industry needs, as it struggles to restore its collective reputation after a series of scandals in recent years involving finance companies.
A total of $1.5 billion of investors' hard-earned savings were lost in those collapses in 2007-08, a blight on the New Zealand securities industry that the commission's chairwoman blames on a patchwork regulatory framework.²

A common theme in the scandals is a lack of understanding among the general public about the difference between an independent financial planner and a sales person for a product distributor. The latter receives incentives to sell product, while the former is paid by their clients to build a customised financial plan — including a diversified investment portfolio - designed around their individual needs, aspirations and risk appetites.

The government is now attempting to address this by putting up for discussion a draft code of conduct for authorised financial advisors, which sets minimum standards of competence, knowledge and skills, ethical behaviour and client care which advisors would have to meet.

At the core of the code of conduct is a requirement that when providing advisory services, authorised advisors must place the interests of their clients first and must act with integrity.

Advisors would not be able to characterise their advice as "independent" when they are being paid by a person other than the client or are under a contractual obligation to recommend a particular product.

Dimensional has long argued that financial advice is best left to independent and professional advisors who are directly familiar with their clients' financial experience, risk tolerances and individual goals.

The relationship between Dimensional and advisors is not tainted by commissions or other incentives. Rather, it is founded on shared ideas about how markets work, a joint commitment to education and a common goal in ensuring clients have a good investment experience.

The investment philosophy is also a sound one. No market timing or forecasting or speculation is involved. It is not about fickle fashion or ego-driven claims by individuals about being able to "beat" the market.

Instead, it is about working with the market to build diversified portfolios around risks that rigorous research shows are related to return. It is about keeping costs as low as possible and about being mindful of taxes. And it is about staying disciplined.

There are no hard sells in this view of the world - just an unchanging commitment to the welfare of the individual investor.

---

¹'NZ Commission Warns KiwiSaver Funds', NZPA, March 24, 2010

²'The System is Broken: We Need to Fix It', Jane Diplock, NZ Herald, March 26, 2010

Mission Impossible

 Jim Parker, Vice President, DFA Australia Limited

It's a Hollywood staple. A group of ragtag desperados is assembled to embark on a suicidal mission — think 'The Dirty Dozen' and 'The Magnificent Seven'. It makes for exciting viewing, but applying this approach to investment isn't recommended.

At the height of the bear market in early 2009, Australia's BRW magazine, a popular weekly business title, asked 50 market experts to draw up a roadmap for the anticipated recovery, including the best sectors and stocks to buy.¹

The panel of 50 participants comprised fund managers, equity strategists, economists, analysts and other tipsters. From their recommendations, the magazine put together 18 "expert ideas" for the recovery.

The dozen and a half individual stock tips were split broadly between big, well-known, blue-chip companies such as QBE Insurance, BHP Billiton, Woolworths, Westfield, CSL and Boral — alongside some mid-caps, smaller stocks and outright speculative plays.

While couching its stock tips with a host of qualifications — nothing was certain, markets rarely followed a neat script and blindly relying on history was dangerous — the magazine said these were the pick of the bunch.

For the reader wanting to position themselves for the recovery, it might have seemed a reasonable assumption that assembling a concentrated portfolio comprising these 18 super stocks would be a good strategy.

But while parts of the magazine panel's ideal portfolio did do well — mostly the very small, speculative companies — only seven of the 18 stocks overall outperformed the wider market's near 40 per cent gain in 2009.

Indeed, many of the tried and true blue chips in the list underperformed the market. QBE Insurance gained just 5.3 per cent over the year, Woolworths rose 9.1 per cent and CSL actually went backwards, down 1.5 per cent.

If investors had assembled the BRW's 'rebound' portfolio at the start of 2009 and held each stock at its market cap weight, they would have seen a return of 26.8 per cent over the ensuing 12 months.

While that may sound great, it's worth pointing out that just by owning the broad market, as defined by the S&P/ASX 300 accumulation index, investors would have enjoyed a return of 37.6 per cent, a 40 per cent improvement on the magazine's ideal portfolio.

Holding a highly diverse portfolio of value stocks would have delivered an event better result. For instance, Dimensional's Australian Value Trust, with 187 stocks, posted a return in 2009, net of fees, of 43.6 per cent.

Holding such a broad range of companies in a portfolio is called diversification. It allows the investor to capture broad market and economic forces, while reducing the uncompensated risk arising from individual stocks.

This isn't to say you can't beat the market by assembling a focused portfolio. But these successes are usually more down to good luck than good judgement and they are very hard to repeat. It's like taking a punt on a horse.

In any case, as we've seen in the above example, even a portfolio assembled by the best and brightest can come up short of the mark. What chance, then, has the ordinary investor of generating consistent market-beating returns by relying on a handful of securities?

At the end of the day, gambling on a band of hand-picked individuals might work for Yul Brynner and Lee Marvin in the movies, but trying to build long-term wealth with a handful of stocks looks like mission impossible.

---

¹'Waiting for the Rebound', Tony Featherstone, BRW magazine, Jan 8, 2009

Birthday of Thomas Jefferson (b. 13 April 1743)

 From The Writer's Almanac with Garrison Keillor

It's the birthday of the man who said: "Determine never to be idle. No person will have occasion to complain of the want of time who never loses any. It is wonderful how much can be done if we are always doing." That's Thomas Jefferson, (books by this author) born in Albemarle County, Virginia (1743). And he certainly lived by those words. He wrote the Declaration of Independence for the fledging United States and then served as its minister of France, secretary of state, vice president, and president. But he was also — among other things — an inventor, philosopher, farmer, naturalist, astronomer, food and wine connoisseur, and musician...

He loved to read ... he said, "I cannot live without books." He wrote to John Adams, "I have given up newspapers in exchange for Tacitus and Thucydides, for Newton and Euclid; and I find myself much the happier."...

He said: "In matters of style, swim with the current; in matters of principle, stand like a rock."


READ THE FULL POST HERE AT THE WRITER'S ALMANAC

http://writersalmanac.publicradio.org/index.php?date=2010/04/13

It Won't Last

Jim Parker, Vice President, DFA Australia Limited

Long-time watchers of financial markets know that investors are always worrying about one thing or another. What's not often apparent is how quickly those worries are built into prices and how rapidly the narrative changes.

The recent fretting points for investors have included, among other things, default risk in southern Europe, the threat of China's economy over-heating, the dependency of risk assets on government stimulus and the implications of proposed regulatory reforms in the international banking industry.

A rule of thumb with a lot of these hot-button financial and economic issues is that by the time you read about them in newspapers and magazines, the markets have moved onto worrying about something else.

Take Greece for example. A search on Bloomberg of the words "Greece and default" yielded nearly 300 news stories in the month of March. The subject of these articles extended from fears of outright default to, by the end of the month, news of a strengthening in the euro as Greek fears receded.

A search of the word "stimulus" on Bloomberg yielded more than 600 news articles in March, extending from Brazil's attempt to lure investors with infrastructure spending to news that Japan's retail sales were growing at their fastest pace in 13 years, thanks partly to government stimulus.

In this age of rapid global information flows, aided by web-based distribution, news is incorporated into prices almost instantly. A geopolitical development like a bomb blast in a Moscow subway, or economic news such as an agreement on a bailout for Greece or company-specific news like a Chinese firm buying Volvo from Ford….all of this tends to find its way into prices before the average person has heard that it has even occurred.

So it shouldn't be a surprise that many investors err by tinkering with their own portfolios based on information that is already reflected into securities pricing. This is like chasing a moving target or trying to catch a falling sword.
No sooner have you pondered, for instance, the implications of Y2K or the SARS virus for your portfolio than the market has decided that this issue is a flash in the pan and has gone onto worrying about something new.

A better approach is to accept that markets are extremely efficient at incorporating fresh information into prices and that trying to second guess how they might react to a particular event is a hazardous game.

By the way, one senior Australian advisor has developed a successful technique for dealing with queries from his clients about the implications for their portfolios of whatever issue happens to be dominating the financial media headlines at that time and whatever the state of markets.

"To be completely honest, I don't know what the implications are," he says. "But I can tell you this: It won't last. Now let's talk about your news."

This seems to be a healthy approach to responding to news that's dominating the markets. It's interesting, it's topical, it's forever changing and, for the most part, there is very little you can do about it.

Wryside economics: investing in shares

Worth a listen, Andrew Leigh on ABC Radio National, Life Matters (Tues 23 March, 2010):

http://www.abc.net.au/rn/lifematters/stories/2010/2852102.htm

Tolstoy on Financial Markets (?) ...

The most difficult subjects can be explained to the most slow-witted man if he has not formed any idea of them already; but the simplest thing cannot be made clear to the most intelligent man if he is firmly persuaded that he knows already, without a shadow of doubt, what is laid before him.

-Leo Tolstoy, 1897

Cited by Micheal Lewis in The Big Short (2010)

Inefficient Markets Are Still Hard to Beat

by  Jason Zweig, THE INTELLIGENT INVESTOR - The Wall Street Journal, 09/01/10

Can't anyone here play this game?

With the market so erratic at pricing stocks, it is tempting to think you can do better.

Between the Dow Jones Industrial Average's record in October 2007 and the bear-market low in March 2009, Bank of America's stock fell 94%. Then, by year-end 2009, it went up 380%. It wasn't just financial stocks that acted like yo-yos: Over the same period, Alcoa's stock fell 87%, then more than tripled.

How can such crazy swings in price be "efficient"? As millions of smart buyers and sellers compete to maximize their wealth, they update stock prices with all the relevant information that's available. That's what an "efficient market" means. It presumes that the market price is the best estimate of a stock's intrinsic value, or what all its current and future cash flows are worth.

But the fact that the market price is the best available estimate doesn't mean that the market price is right...

READ FULL ARTICLE HERE

A Question of Balance

 Jim Parker, Vice President, DFA Australia Limited

We humans tend to prefer avoiding losses than securing gains. That's why volatile financial markets make us feel so anxious. Helping us to find a balance amid these natural emotions is the mark of a good advisor.

To understand the value of good advice, it helps to reflect on the cost of bad advice. And that has been clearly evident in recent years as millions of people were pushed into strategies incompatible with their needs and risk appetites.

Bad advice means pandering to human emotions by exploiting greed and fear. It means pursuing high returns in the good times with little attention to risk and fleeing from risk in the bad times with no regard for return.

Good advice means taking the emotions out of the equation and showing us what we can and can't control. We can't control the ups and downs of financial markets. We can control the risk in our portfolios through broad diversification, astute asset allocation and regular rebalancing.

Just having a detailed plan designed for our own risk appetites, lifestyle needs and long-term goals goes a long way to removing the anxiety from the investment process. During volatile markets, knowing that we have a diversified portfolio helps manage our personal tolerance for risk.

Bad advice panders to the view that the best way to invest is to attempt to time our entry and exit points. We are either in or out of the market. Getting that decision right, however, is notoriously difficult — even more so these past two years when risk assets undertook a complete u-turn.

By contrast, good advice stresses the virtues of discipline and patience. And that doesn't mean blindly sticking to a buy-and-hold strategy.

Regular portfolio rebalancing actually gives investors control over the risk in their portfolios. After a run-up in riskier assets, they can legitimately sell down the stronger performing asset classes and rotate into the poorer performers to bring their own intended asset allocation back on track.

Another way of looking at this rebalancing process is that the investor is selling high and buying low. This isn't a timing strategy, by the way, but a means of managing portfolio risk so the investor sticks to the original plan.

The absence of regular rebalancing was evident during the financial crisis when many investors found their portfolios had drifted out to the frontiers of risk without their knowledge or consent. The consequences for their long-term wealth in many cases were disastrous.

But just as a lack of rebalancing can throw a portfolio out of whack and undermine the targets of the original financial plan, too frequent rebalancing can be costly. These costs include fixed costs such as administrative charges and potential platform costs, alongside proportional costs such as buy/sell spreads, broker commissions and capital gains taxes.

So the decision for advisors about when to rebalance often comes down to a question of balancing the benefits of keeping the portfolio within the investor's risk profile against the costs of changing the asset allocation. This decision is as much an art as a science. As such, there is no one 'right' answer and the issue often can be dealt with by creating a 'hold' range within the portfolio.

The example in this graphic uses a balanced portfolio with a target ratio of 60% equities. In this case, the advisor has decided to allow a 5% buffer either side of this target to achieve a practical equilibrium between the need to maintain the broad asset allocation while minimising costs.

Aside from setting a non-trading region, another consideration in rebalancing is to use natural cash flows from regular contributions by the investor and cash distributions. That way the advisor reduces the need to sell securities, thus avoiding some of the costs of rebalancing.

Unlike the actual movement of markets, all these decisions are within the control of advisors and their clients. The result is the maintenance of a financial plan that the investor can live with in the best of times, the worst of times and all the bits in between.

Markets are unpredictable. We can't change that. But we can build an asset allocation that successfully builds a bridge between our own tolerance for volatility and our long-term investment goals.

With occasionally rebalancing to ensure the asset allocation continues to match our risk profiles, we can sleep better at night.

That is the value of good advice.

The Value of the Right Advisor

New video from ifa.com

Second Hand News

 Jim Parker, Vice President, DFA Australia Limited

Trying to understand financial markets by tracking the daily media headlines is like trying to tell the time by tracking the second hand of a watch. By focusing on the minutiae, you risk missing the big picture.

Much of the investment-related news that fills the vast gaps between the advertisements in the day-by-day world of the media is undoubtedly fascinating, particularly to those who live their lives that way.

But a lot of it really is a distraction for those who want to build long-term wealth through investment. That's because while the news story keeps changing according to the events of the hour or the day, the story of sound investment doesn't change much at all.

This story says the best approach is to work with markets, not against them; structure portfolios around risks that are related to return, diversify across and within asset classes, pay heed to costs and taxes, remain disciplined and rebalance as your own needs and circumstances change.

Discipline amid the media and market noise is important because while there is a long-term return from risking your capital, the return is not there every year. Returns over shorter time periods are random and unpredictable.

Take a look at this chart, showing the annual returns for the past 40 years of global share markets, as measured by the MSCI World Index. You can see that some of the best years (1975, 2003 and 2009) came straight after some of the worst (1973-74, 2000-02 and 2008).

Of course, getting the timing right around these turning points is the holy grail of investing. Trouble is no-one has been able to show yet that they can perform this feat with any consistency. Getting out before the peak is one thing, getting back in without missing the rebound is another.

The better approach is to stay invested, although this doesn't preclude rebalancing occasionally away from risky assets if your retirement goals are on track. The difference is that this decision is made according to your own situation, not what is happening in the markets at a particular time.

The difficulty of market timing was highlighted by a recent Morningstar study¹ which looked back on the past decade (2000-2009) to assess the average return of the US mutual funds it rates and compared them with the return actually received in that time by the average investor.

The results make for sobering reading. While the annualized return for the average fund in this period was 3.18%, the average investor received just 1.68% or around half of the fund total. In US equities, the average investor earned a mere 0.22% annualized compared with 1.59% for the average fund.

The reasons for this disparity are depressingly familiar. People succumbed to the old twin devils of greed and fear, loading up on risk out of proportion to their needs during the good times and dumping risk altogether in the bad.

And they did this usually because they were focused too much on short-term returns, the daily noise, the froth and bubble — the second-hand news.

---

¹'Bad Timing Eats Away at Investor Returns', Russel Kinnel, Morningstar, Feb 15, 2010

Bicycle Dreams

Bicycle Dreams is the true story of the Race Across America, a 3000-mile bike race that challenges riders to pedal across the country in just ten days. See bicycledreamsmovie.com for more.