Friday, November 26, 2010

Investor Behavior More Important Than Investment Performance

Nick Murray / November 25, 2010 / Originally published on
... There is no statistical evidence for the persistence of performance. And, at huge market turning points, relative performance – in addition to being unpredictable and uncontrollable – simply doesn’t matter.

What, then, can an investment advisor offer that is manifestly worth multiples of what he charges, again and again over a client’s investing lifetime? Why, of course: it’s behavior modification.
The dominant determinant of long-term, real-life financial outcomes isn’t investment performance. It’s investor behavior. And the most high-value service we can offer is preventing the client from behaviorally blowing himself up...
...the behavioral value proposition. It doesn’t always work that quickly or that dramatically. But, human nature being what it is, it always works.

Friday, November 19, 2010

Outside the Flags: Weather vs Climate

Jim Parker, Vice President, DFA Australia Limited

Notice how TV stations put finance next to the weather report on the evening news? In each, talking heads point at charts and intone about stuff that in most cases will be quickly forgotten. In the meantime, the long-term story gets lost.

It's an old tradition, but a certain segment of the investing population tends to feel that they aren't sufficiently informed about the financial world unless they have checked daily or hourly on how the Dow, FTSE, Nikkei or All Ordinaries have moved in the intervening period.

It's a pretty harmless activity in most cases. It at least provides a bland conversation starter in fleeting social encounters, just as keeping up to date with tomorrow's weather forecasts can fill an awkward silence.

But our very human focus on the day-to-day and the short term can often encourage us to make bad decisions that affect our long-term interests.

Here's an example: On October 30, 2009, The Australian Financial Review led its markets section with the headline 'Shares Slide on Fears for US Housing'. The Australian equity market had suffered its largest one-day fall in more than four months after unexpected news of a slowdown in the US housing market.

Now, an investor who closely scrutinizes the daily market reports may have taken fright at this story and informed their financial advisor that they were not convinced the global economic recovery had traction and they wanted out.

But the very next day, the story had changed completely. The same newspaper led with the headline 'US Growth Spurt Puts Market Back on Track'. In this case, the US Commerce Department had reported stronger-than-expected economic growth figures which had helped ignite a marked reversal in sentiment.

Our plugged-in investor might have changed his mind at this news and told his advisor to ignore what he had said the day before.

But wait! There's more. Another day passed and this time The Australian Financial Review splashed with 'More Bad News on the Way'. A renewed fall on Wall Street on the back of news of a decline in consumer spending had local markets primed for another bad day.

And on it goes. From day to day to day, market sentiment shifts in reaction to news—news about the economy, news about companies, news about governments and politics and the wider world. Prices rise and prices fall in response to this news, which by definition is unpredictable.

Think of it like the weather. One day it's sunny. The next day it rains. It's unseasonably warm one day and uncharacteristically cool the next.
*ASX-500 Accumulation Index, Jan 1980-Oct 2010; Source: Returns Program
What can you do about it? Well, in the case of unpredictable weather, you can ensure you're equipped for all conditions—an umbrella, a raincoat and some sunscreen in your bag just in case.

Likewise, in the case of investment, you can stay diversified. That means you don't have all your money in one type of asset—like just property for instance or just shares or everything in cash. You need a mix in your portfolio so it can withstand a range of outcomes and keep you in line to meet your goals.

The nightly news is interesting, undoubtedly. But it's like the difference between the weather and the climate. One changes constantly; the other more gradually and imperceptibly. With investment, it's the climate you need to think about.

*ASX-500 Accumulation Index, Jan 1980-Oct 2010; Source: Returns Program*ASX-500 Accumulation Index, Jan 1980-Oct 2010; Source: Returns Program

Friday, November 12, 2010

Cycles of Life - A Cycling Documentary

Sweet short film by 16-year-old Johannes Bay from Christchurch, New Zealand.

2010 Nobel Prize in Economics

..or its correct title: The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel

Press Release

11 October 2010
The Royal Swedish Academy of Sciences has decided to award The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel for 2010 to
Peter A. Diamond
Massachusetts Institute of Technology, Cambridge, MA, USA,

Dale T. Mortensen
Northwestern University, Evanston, IL, USA
Christopher A. Pissarides
London School of Economics and Political Science, UK
"for their analysis of markets with search frictions"

Markets with search costs

Why are so many people unemployed at the same time that there are a large number of job openings? How can economic policy affect unemployment? This year's Laureates have developed a theory which can be used to answer these questions. This theory is also applicable to markets other than the labor market.
On many markets, buyers and sellers do not always make contact with one another immediately. This concerns, for example, employers who are looking for employees and workers who are trying to find jobs. Since the search process requires time and resources, it creates frictions in the market. On such search markets, the demands of some buyers will not be met, while some sellers cannot sell as much as they would wish. Simultaneously, there are both job vacancies and unemployment on the labor market.
This year's three Laureates have formulated a theoretical framework for search markets. Peter Diamond has analyzed the foundations of search markets. Dale Mortensen and Christopher Pissarides have expanded the theory and have applied it to the labor market. The Laureates' models help us understand the ways in which unemployment, job vacancies, and wages are affected by regulation and economic policy. This may refer to benefit levels in unemployment insurance or rules in regard to hiring and firing. One conclusion is that more generous unemployment benefits give rise to higher unemployment and longer search times.
Search theory has been applied to many other areas in addition to the labor market. This includes, in particular, the housing market. The number of homes for sale varies over time, as does the time it takes for a house to find a buyer and the parties to agree on the price. Search theory has also been used to study questions related to monetary theory, public economics, financial economics, regional economics, and family economics.

Peter A. Diamond, US citizen. Born 1940 in New York City, NY, USA. Ph.D. 1963, Institute Professor and Professor of Economics, all at Massachusetts Institute of Technology (MIT), Cambridge, MA, USA.
Dale T. Mortensen, US citizen. Born 1939 in Enterprise, OR, USA. Ph.D. 1967 from Carnegie Mellon University, Pittsburgh, PA, USA. Ida C. Cook Professor of Economics at Northwestern University, Evanston, IL, USA.
Christopher A. Pissarides, British and Cypriot citizen. Born 1948 in Nicosia, Cyprus. Ph.D. 1973, Professor of Economics and Norman Sosnow Chair in Economics, all at London School of Economics and Political Science, UK.

Saturday, November 06, 2010

The Economics of Fiscal Deficits

I attended this presentation, by Marlena Lee, at Dimensional's office in Sydney in October. She uses historical data to make some really good points that are often missed by mainstream financial media, with there short-term focus and constant search for a narrative to explain recent events and market movements:
Many investors are concerned that rising government debt will stunt economic growth and hamper market returns. Marlena Lee examines historical data to test the relationships between fiscal deficits, interest rates, business activity, investment returns, and exchange rates. Her conclusions may surprise investors who are pessimistic about future market performance.

Friday, November 05, 2010

The Money Merry-Go-Round

by Carl Richards at

Think about the most recent discussion you had about money. How closely did it match the next most recent money conversation? Without realizing it, we engage in conversation after conversation about money that ends up talking around it....
Like religion and politics, money sits in a place that makes us squirm when discussed...
Access to information and the ability to share it easily has made discussing money in our families, in our communities, and in society at large more acceptable. There is also a growing recognition among real financial professionals that great discussions about money are really great discussions about life. In order to make good financial decisions we have to make them in the context of our lives...