Here are three more easy ways to lose money.
No 1 way to lose – holding cash
Nearly 25% of investors managed to lose money in 2014, according to Openportfolio in the USA. They analysed 3,000 investor portfolios and found a lot of people holding around 20% of their portfolio in cash. Similarly, State Street researchers surveyed 2,800 investors in 2014 and found that Americans had an average of 36% of their portfolio allocated to cash.
Over the past five years, global shares did well over 50% and global bonds over 35%, so those sitting in cash really did miss out.
Interest on cash is so little, then take off tax and less inflation, and the result is actually a loss.
Put another way, you keep $20,000 in cash to upgrade your car, or roof, or teeth. After three years you might have $21,000, but the cost of the car, or roof, or teeth is now $25,000.
Do that a few times over 25 years and the losses can really mount up.
No 2 way to lose – stock picking and forecasting
Dalbar research in the USA often comes up with some fascinating data.
An investor who bought and held the S & P 500 shares in the USA (a passive index fund) from 1986 to 2006 would have averaged 11.8% pa return. This is without any special knowledge at all - just simply buy and hold the S & P 500 index fund.
Individual investors from 1986 to 2006 actively trying to buy and sell the right shares over the same period averaged only 4.4% pa!
More recent research from Dalbar came up with much the same figures - people who stock pick and forecast often get 50% less than simply holding the S & P 500 index (or the ASX 300 or the NZX50).
Why? Because it is incredibly difficult to forecast and stock pick successfully, year in and year out.
Fear and greed – the DIY investor’s biggest enemy
Fear and greed play a big part in investment success or failure. When things are profitable, DIY investors often get bold and greedy, and eventually lose. Or they get fearful on a market dip and sell out, when holding long term would have worked out.
It’s been fairly easy to make money DIY in NZ shares over the past few years, but nothing goes up forever, and then reality bites.
The antidote to fear and greed is discipline, rebalancing, and diversification.
George Soros made fame and fortune in 1992 when he made $1 billion betting against the British pound sterling. But then in 2011, he lost $1.5 billion when his biggest picks didn’t work out and he sold at the wrong time. His forecasts and timing were both off.
No 3 way to lose – trading currencies
There seems to be a never-ending supply of organisations selling FX (Foreign exchange) trading systems.
Whilst FX trading is regularly promoted as a ‘get rich quick’ scheme with numerous testimonials from individuals who have been able to leave their jobs and ’trade successfully’, the reality is, surprise surprise, quite different.
The French regulator AMF looked at 15,000 active traders over four years and found:
• That 89% of clients lost money
• The average loss was almost NZ$28,000
• Total losses were more than NZ $300 million
In the USA, research showed that 72% - 79% of the customers at two of the largest FX platforms executed losing trades.
Looks like the old 80/20 rule - 20% of the traders made 80% of the money.
Another report reckoned that the average life of a retail FX trader was four months.
It’s actually worse than it sounds as most FX trades are heavily geared - and whilst gearing maximises gains, it also maximises losses. Sometimes the losses are so great that they not only wipe out the retail clients, in some cases they wiped out the firms providing the FX platform as well.
The people who make real money in FX are the top brokers, and to a lesser extent, the people who sell trading systems to the public.
One former executive from the US Regulatory Authority summed things up well when he said "the best way to regulate the FX industry for non-professionals would be to ban it".
Supplied by Alan Clarke, financial & retirement adviser, & author. He also writes regular articles for the media and online.
His second book “The Great NZ Work, Money & Retirement Puzzle” is now available.
You can buy it on line at www.acfs.co.nz
Alan is an independent authorised financial adviser (AFA) FSP26532
His disclosure statement is available on request and free of charge