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Cape Town - Britain’s recent Brexit announcement caused investors around the globe to panic, resulting in severe volatility for many currencies and stock markets. South Africa did not escape the aftermath with the JSE All Share Index (ALSI) shedding 6.5% in two days, leaving many local investors unsure of whether to weather the storm or move to cash.
With hindsight being the best foresight, investment actuary Hildegard Wilson did some number crunching to prove to worried investors that attempting to time the markets rather than riding out volatility will likely cost them dearly.
Wilson, a member of the Actuarial Society of South Africa’s Investment Committee, analysed a number of scenarios over the past eight years to show that the most successful investment strategy is to commit to a portfolio for the long term rather than trying to time the markets.
Her numbers show how just one wrong call over an eight-year period could shed thousands of rands from your investment, while two could nearly halve your returns.
“When markets crash, as we’ve seen after the Brexit announcement, our first instinct is to panic and withdraw, just like we are tempted to chase returns when markets are running,” said Wilson.
“However, this often means that you will end up buying high and selling low. The best thing you can do for your money is therefore to spend time in the market rather than trying to predict what will happen.”
Wilson did some calculations around one of the biggest market crashes in recent years - the 2008 global financial crisis – to show how your investment choices could have affected your outcome.
She analysed four different scenarios where different investment behaviour on decisions to stay invested or chase market trends would significantly have impacted your final returns.
Scenario A: Stayed invested for the long term
In the first scenario, you invested R10 000 in a Multi-Asset High Equity Portfolio on 1 January 2008. Multi Asset Portfolios may invest in both local and international assets such as equities, property, bonds and cash according to the fund manager’s discretion.
Soon after, the United States mortgage debt crisis caused panic among international investors, sparking a mass sell-off in emerging markets such as South Africa. The ALSI subsequently shed a huge amount of value from the end of 2008, reaching a low in early March 2009, before rallying with growth of 53.1% by the end of that year.
In the eight years between the beginning of January 2008 and the end of December 2015, the JSE ALSI eventually gained 121.97% in value overall, or an average of 10.48% per year.
In this scenario you stayed the course through all market ups and downs until 31 December 2015. Based on the average return of the MA High Equity sector (net of fees), your investment would therefore have more than doubled to R20 542 over the eight-year period.
Scenario B: One wrong call
In the second example, you also placed R10 000 in an MA High Equity portfolio on 1 January 2008.
However, after watching the market value of your investment drop from R10 000 to R8 267 following the global financial crisis, you made the decision to move your money on 1 March 2009 into a money market fund as cash is considered a less volatile investment. Wilson points out that when you switched, you effectively locked in your losses.
In the months since March 2009 you would have witnessed the stock market recover substantially, so effective from 1 January 2010 you then decided to reinvest your money in a MA High Equity Portfolio, seeking more aggressive returns.
Based on the average net of fees return of the Short Term Fixed Interest (STeFI) index (which measures money market instruments), your investment on 1 January 2010 would have totalled R8 854.
You remained invested, and after nearly another five years, your funds totalled R17 549, representing an average annual return of 7.28%. Compared to the previous scenario, your attempt to time the market would have cost you nearly R3 000.
Scenario C: Two wrong calls
In this scenario, you followed exactly the same actions as before until the beginning of 2013, which saw the so-called ‘taper tantrum’ where international investors panicked in response to the US Federal Reserve’s intent to start reducing measures used to boost the American economy following the financial crisis.
At the time you were invested in the MA High Equity Portfolio, but after this announcement you decided to disinvest in an attempt to time the market and protect your investment. You disinvested on 1 July 2013 when your funds totalled R13 144, and put this money into a money market fund.
During the year that followed it became clear that the Fed’s plan would work, and following market trends again you reinvested in the MA High Equity portfolio on 1 August 2014, with total funds of R13 909.
Unfortunately, your caution meant that you lost out on 13 months of market growth. On 31 December 2015 your investment totalled R15 329, representing an annual average return of 5.48% per year. Your two mistimed decisions mean that you would have lost over R5 000 compared to the first scenario and achieved a return below inflation.
Scenario D: Two wrong calls investing directly in the market
In this example, you decided to invest in a passive portfolio rather than in an actively managed portfolio, investing R10 000 on 1 January 2008 in the JSE ALSI through an Exchange Traded Fund (ETF).
You panicked following the financial crisis and disinvested on 1 March 2009 when your funds totalled R6 545, putting this money into a money market fund. On 1 January 2010, your funds totalled R7 010, which you reinvested in the ALSI-linked ETF.
After the taper tantrum you again withdrew your funds on 1 July 2013, totalling R10 705, and put this money into a money market fund. You then reinvested in the ALSI-linked ETF on 1 August 2014, with funds totalling R11 340.
On 31 December 2015 your investment totalled R11 554, and by timing the market you would only have achieved an annual average return of 1.82%.
Wilson states that in all three scenarios where the investor attempted to time the market the value of the investment was reduced. While some of these decisions were timed particularly poorly, she emphasises that it is extremely difficult if not impossible to predict what may happen in the future, even for investment experts.
“You may for instance think you could have predicted the outcomes in these examples and timed the market correctly. But that’s the power of hindsight – only looking back do you have perfect vision,” she said.
Time in the market vs timing the market
Investing for the long-term
Wilson said that as a consumer, it is natural to be emotionally involved when it comes to your money and investments. As a result, it is important to consult a trusted financial adviser who can help you avoid making emotion-driven investment decisions and instead commit to a long-term financial plan.
She offers the following key investment tips that will guide you in managing your investments more wisely for the future:
1. Choose the right asset manager
Wilson notes that professional asset managers will not only be more objective about market trends, but can analyse and interpret important financial information every day before pricing in what they think investments should be worth.
“However, you must take care that you understand the portfolios you are investing in and what the risks are before committing to an investment for the long-term, so if you are unsure, ask your adviser if and why a certain investment is suited to you," she said.
Wilson explains that your financial adviser will be able to help you evaluate different asset managers based on their track record and investment philosophy before making your decision.
“Your success as an investor will depend on finding the right balance of risk and returns for your goals, and not allowing emotion to cloud your judgment. Your financial adviser will also help you compile a portfolio with reasonable fees.”
2. Diversify
Wilson states that in the long-term, you should ideally diversify between asset managers and different investment views. “That way, if markets do crash, your eggs are not all in one basket,” she says.
She says that it is also important to be invested in different types of assets in order to minimise your investment risk.
“If you are concerned about making the right investment decisions at the right time, you could also consider choosing a Multi Asset Portfolio, where the asset manager has full discretion over the balance of assets. They would then do the timing on your behalf,” she notes.
“For example, good asset managers will start reducing equities on a market high and invest instead in the other asset classes, so that when the market corrects you will not be exposed to the downturn. This takes the responsibility of timing the market away from you, making it easy to invest at any time.”
3. Leave your money to grow
Wilson states that investments in unit trusts are usually ideally for periods of five to ten years or longer, so you need to take a long-term view with your money.
“Short-term information influences stock prices only in the short-term – over the long-term, this volatility fizzles out. It is therefore vital that you give your money a chance to grow,” she said.
She suggests that you check your investment statements once a year, but only begin considering changing your investment after three years when you can better evaluate your manager’s overall performance.
“However, keep in mind that your manager may be doing exactly as they promised. They may, for instance, be underperforming markets when they are running in order to protect your capital when markets are falling,” she said.
“The Brexit announcement came as a surprise to most and ultimately it is extremely difficult to know what will happen. The only thing you do have is time in the market. Once you have partnered with an adviser and asset managers you trust, whose philosophy reverberates with you, the best thing you can do to create the wealth you need is to simply stay the course and not let short term headlines influence your decisions.”
