- the average return since 1990 is + 9.2% pa.
- balanced portfolio adjusted for higher NZ bond rates
- the year on year returns clearly indicate the volatility
- number of positive years +19
- number of negative years - 5
- all figures are gross
average 9.2% pa
*Since 1926 there has only been 3 severe downturns, 1929, 1972 and 2008
The NZ dollar, over, under, sideways, down
Another factor that causes a lot of volatility is the NZ$ dollar, and it has been all over the place this year.
Anywhere from 86 to 66 US cents, from 50 to 41 British pence, 98 to 88 Australian cents, and anywhere in between. That’s up to a 20% variation, which is huge !
We can only partly mitigate this by being 50% NZ$ hedged to offshore shares, and 100% NZ$ hedged to global bonds - but only partly.
Most pilots will tell you that “flying is often 98% boredom and 2% terror”, but the “2% terror” is usually over within a few minutes (if you are still alive).
With investments, the bad patches (the “terror”) are well and truly outnumbered by the good years but they do last as long as 12 to 18 months. They don’t pass quickly like they do when flying aeroplanes, so investors need to be patient.
The market is no place for short term investors, no one should buy shares unless it is for 4 to 5 years minimum.
What about future returns?
Lots of well researched data and lots of theories abound.
“In the short run, the market is a voting machine, where voters only require money, but not intelligence or emotional stability. In the long run, the market is a weighing machine.” - Ben Graham, lecturer, researcher, author, and widely regarded as the father of value investing,
The “weighing machine” is one reason why investors need to be patient and give shares time to work.
The “demand of reward for taking risk” has a lot to do with market pricing, and is one reason why;
- bonds have outperformed cash by 1% to 2% over 90 years
- shares have outperformed bonds by 3% to 5% over 90 years
Ben Graham and Eugene Fama have made huge contributions to the understanding of markets and how they work. I would love to put it all together in a succinct summary, but I think I had better leave that to the academics and Nobel prize winners.
Risk, volatility, & loss
When you put a lot of money in any single investment, there is always the risk of making a real loss e.g.
- if you put $20,000 in Pumpkin Patch shares 2 years ago, you would now have $2,340
- if you invested $20,000 in Babcock & Brown (junk) bonds, you would now have zero
Volatility is likely, real loss is not if …...
If you buy quality and diversify widely, you will get volatility, but are unlikely to suffer a real loss.
Our portfolios contain about 5,000 shares and 500 bonds on and offshore. The bond funds we use only buy investment grade from BBB to AAA rated bonds, The share funds are “filtered” extensively, leaving out poorly governed / politically unstable countries, companies in distress, or too new, or do not trade often (illiquid) or profits regulated by governments, or real estate trusts, and so on.
Any portfolio containing shares will be volatile, but if they are high quality funds overall and extensively diversified, the risk of permanent loss is minimal. Sure the portfolio will go down and up – more ups than downs historically – but unless the whole world financial system collapses, your money is unlikely to go away.
So high quality investments coupled with extensive diversification means real loss is unlikely.
Supplied by Alan Clarke, financial & retirement adviser, & author.
His 2nd book “The Great NZ Work, Money & Retirement Puzzle” is now available.
Alan is an independent authorised financial adviser (AFA) FSP26532.
His disclosure statement is available on request and free of charge.