MyMoney Online, The Personal Finance series with Warren Ingram

Huge study clearly shows how chopping and changing investments destroys wealth

Over the last three years, inflation has eroded the value of your money by nearly 17% while the stock market is up by 21%, before costs.

In other words; most pensions, investments and policies are treading water.

Unfortunately, says Galileo Capital Personal Financial Advisor Warren Ingram, we see more and more investors expecting their advisors and portfolio managers to work more actively and creatively in pursuit of better returns.

This is probably the worst thing investors or their advisors can do now.

Of all the options an investor can consider; more active management is surely the very poorest one, leading to some painful results.

Consider offshore vs local investments over the last 10 years

If you had invested all your money overseas 10 years ago (September 2007) and someone else had invested all their money in the Johannesburg Stock Exchange (JSE) - the difference is only 0.7% after 10 years.

Add to this the fact that the US market is breaking all-time highs and the JSE is drifting and one could make an argument for a combined portfolio of assets (i.e. local and international).

However, if you decide to chop and change all the time, you could be going backwards at a rapid rate – the rand was at R15.50 in January last year.

If you sent out your money then, hoping for a quick profit, you would have been disappointed.

Particularly because the JSE then bounced and has delivered a return of 12.6% for the last 12 months.

Trading is bad for your wealth

Professors Brad Barber and Terrance Odean of the University of California's Berkeley Campus did a study in the late 1990s where they analysed more than 60 000 private investment accounts in the US over a period of seven years.

Their finding was simple: Trading is bad for your wealth.

In this study, they divided investors into five groups based on how actively they were trading.

Their prediction was that the more active traders, who are also likely to be the more overconfident traders, would trade too much and end up with lower performance after paying their trading costs.

And that’s exactly what they found.

They found that the buy-and-hold investors, after trading costs, were outperforming the most active investors by about 6% or 7% a year.

They regularly update the study and have extended it to several countries in Europe and in the East.

The answer remains the same: the more actively you manage your portfolio, the worse you do.

What should you do?

The best thing to do in a sideways market is not to be more active and jump between alternate options.

It’s also not sensible to encourage your advisor to be "creative" with investments and fund choices.

You should rather focus on a simple, somewhat boring portfolio and your investments.

Make sure you are comfortable with the asset classes of your investment portfolio (including the balance between growth and income assets, between your domestic and foreign exposure, between long-term and short-term assets, etc.).

Also spend time understanding your cost structure and knowing exactly what you pay for as fees in a sideways market can really negatively impact your returns.

The Money Show’s Bruce Whitfield interviewed Galileo Capital Personal Financial Advisor Warren Ingram for his personal finance feature.

For more detail than this article provides; listen to the interview in the audio below.

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This article first appeared on 702 : Huge study clearly shows how chopping and changing investments destroys wealth


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