The Curse of Return

by | Jun 1, 2020

Investing is about time in the market; not timing the market.  I understand that I am bustling an old tune here, but it is often overlooked.  Investment strategies need time to play out through the market cycles, and hence, a longer term view is recommended.  Whilst returns are what we want, risk is what we need to achieve those desired returns, albeit calculated.  In this same vein, risk should also be looked at through this long-term lens.  Like light is to plants, so is risk to return.  A necessary evil.

Investopedia defines risk in financial terms as the chance that an outcome or investment’s actual gains will differ from an expected outcome or return.  A few things to highlight here.  First, it relates to the future; not the now.  Second, there is an expected outcome, and risk is represented in terms of deviations around this expected outcome, many of which could be better than expected! 

During these unprecedented times, I have seen investors wanting to turn to cash – until it is safe to come out.  What makes us believe that cash is safe?  Cash’s predator is inflation, the “concealed coronavirus” that creeps into the cash cracks, eroding its value in real terms.  It is like looking at the tip of an ice-berg, not seeing just how wide and how deep it really is beneath what the eyes can see. 

Warren Buffest says that “Fear is the most contagious disease you can imagine.  It makes the Coronavirus look like a piker”.  And he would be right.  Fear makes us turn to short-termism, which may lead to our long-term objectives being compromised. This has been seen recently, as equity markets across the globe fell around 30% in the month of March.  This ignited investors’ worst fears, who considered – or worse – followed through by liquidating parts or all their portfolios.  Now imagine your home was priced according to this daily pricing model, which – might I add – does not necessarily have any bearing on the fundamental value of the asset itself.  Would you sell your home if the property market suddenly crashed?  Did not think so.  In fact, I imagine it would present a brilliant buying opportunity if your dream home were priced at such a discount.

I have also been privy to investors looking to avoid risk by sitting on cash from the sidelines.  This inaction is an action in itself and carries inherent risks of its own.  Remember…  It is time in the markets.  Not timing the markets.  Important for us to note is that the bigger the losses the higher the expected returns and, unfortunately, the biggest “up” days are normally very close to the largest “down” days.

In the coming weeks and months, we will see a lot of damaging news coming out of economies around the globe.  It would be prudent to remember that economic data and financial markets are not necessarily correlated.  Economic data reflects what has already happened.  Financial markets typically look 6 to 9 months into the future.  Whilst markets react to economic data, they are not defined by it.  Sentiment plays a major role.  Fear and greed are not our friends, but our foes.

At this stage, the wisest thing we as investors can do is to remain patient. Investing in the equity market is a long-term pursuit and is best used to reach long-term goals such as retirement. Allow the risks to play themselves out.  As the saying goes, “a river cuts through a rock, not because if its power, but its persistence”.

While noise and speculation will entice our emotional rollercoasters, our goals are unlikely to have materially changed and, therefore, our plans should not change either. This is where we need to be balanced. A big part of wealth creation is avoiding the biggest mistakes and disinvesting into cash now is one of the most well-known actions to avoid.  Resist the urge.  This is why we partner with a specialist discretionary investment manager – Morningstar – to research asset allocation, fund manager selection, portfolio construction and risk controls, all of which intend to  diversify unnecessary risks and create efficiencies in fees, investment opportunities and ultimately our financial freedom.  Risk, when calculated, is really a blessing.