Historical returns: how to handle them without bias
Whenever the investment markets experience a major change, whether negative or positive, it is tempting to restructure your investment portfolio and strategy. However, a well-planned investment strategy should never be affected by volatility in the markets. Investing requires a rational, objective, long-term approach.
Consider the example of a busy highway during rush hour. Often, it seems as if your lane is more congested than any of the others. Many of us would lose patience and try to squeeze into the next lane as soon as we see a gap, only to find that it also seems to start slowing down, and the first lane we were in has miraculously started speeding up. Trying to time the stock market by switching your investments is just as unpredictable and has the potential to be financially disastrous.
Investment markets are constantly rising and falling. Hence, it is important to consider several investment fundamentals, such as your appetite for risk and your investment time horizon, and then to stick to a plan in line with these factors, with the assistance of your financial planner.
If you truly want to rely on your investment’s past performance figures, you need to measure them over a long period of time. Historic investment returns should be measured over at least ten or even twenty years, if not more. Remember that past performance, no matter how consistently good, is never a complete guarantee of future performance. Unprecedented and unanticipated events (for example the stock market crash of 2008 and the ongoing pandemic) are always a possibility.
It is also vital to understand the consequences of switching your investments. If you sell at a loss, you will be moving less money than you originally had. And when the price of that particular stock goes back up, you will pay a higher price to re-invest. Added to this, if you sell your investment during a down market, you will not be there to benefit when the market rebounds.
Simply put, trying to time the market is a no-win situation. You not only have to make one correct call, but two, and you have to make those calls over and over again: exit at the right time and get back in at the right time, every single time. Not even the most experienced investors can get it right consistently, and as the famous investor Warren Buffet said, risk comes from not knowing what you’re doing.
The rational approach is to structure a portfolio that matches your risk profile and your time horizon. This means that you can consider taking on more risk by investing in a portfolio with a higher exposure to shares when you are younger and your appetite for risk is greater, which you should slowly transfer to less volatile options as that planned horizon approaches.
The following table provides a rough guideline to investing according to your time horizon:
|Time horizon||Things to keep in mind||Investments that may work|
(Less than 5 years)
|You want your money to grow but will not have the time to make back losses if there is a market drop. To reduce the risk of loss, lower-risk investments that can be easily turned into cash may be the better strategy.||· Tax-free savings accounts
· Money market funds
· Unit trusts
· Government bonds
|Medium term (Between 5 and 10 years)||You want your money to grow and you have a few years left to invest before you will use it.
You can consider investments with more growth potential and a moderate risk level.
· Balanced mutual funds (mix of stocks and bonds)
(More than 10 years)
|You have many years to invest your money before you need the cash. While there is greater investment risk, there is also more time available to recover from loss. Consider investments with medium to high growth potential and moderate to higher risk.||· Equity funds
· ETFs (Exchange-traded funds)
No matter what, consulting a reliable financial planner to help you plan your strategy is by far the best idea for the long-term success of your investments.
“No matter how great the talent or efforts, some things just take time. You can’t produce a baby in one month by getting nine women pregnant.”
– Warren Buffett
The information in this communication is for information purposes and is not intended to be detailed advice described in the Financial Advisory and Intermediary Services Act. The fund, administrator and trustees cannot be held liable for damage or loss suffered as a result of any action that you take based on the contents of this communication.