Monthly Archives: May 2017

Turn Down the Noise

The Investment and Financial Services industry is noisy and is especially so in the middle of an election. Every day, thousands of articles, blogs, broadcasts, podcasts and webcasts are published, shouting for your attention and trying to make investment sexy.

It’s easy to fall into the trap of thinking that if you do not listen to the noise carefully and sift out the best ideas, i.e. the one’s that could help you find the highest returns—then you will not achieve your financial goals. Actually, we find the opposite to be true; trying to keep up with the latest investment fads can be detrimental to your long-term performance rather than beneficial to it. The noise can drown out the signal.

So what is the alternative?

We believe that it starts with having a strong evidence based investment philosophy that, over a long period of time, will prove to be rewarding for our clients. Our philosophy is based around some of the most enduring ideas in finance, these are ideas that help us achieve your financial goals by harnessing the power of capital markets in a systematic way. At the core, these fundamental concepts have remained the same for decades, but as research evolves into how markets work, our understanding improves and we develop our approach accordingly.

Added to this, we use investment managers that really take care over the details of implementation of the ideas. They understand that investment returns are precious and easy to lose in day-to-day management. They know it does not make sense to pay 5% in fees and costs to go after a 4% return.

This combination of a robust, enduring philosophy and a steady, disciplined application has helped us provide our clients with a way to turn down the noise.

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These foolish things

I thought that this week I would share with you part of a document which was issued by Tim Hale of Albion Strategic Consulting who have recently helped us develop and refine our investment portfolios. It is a longer blog than usual but I think it is well worth the read.

We are all prone to making mistakes when investing, not because we are foolish, but because we are human. It does appear that a switch inside even the most sensible person seems to flick and rationality disappears in a cloud of emotion, when we begin to think about the markets.  This note highlights some of the dangers and provides some tips on how we can attempt to behave better.  In short, the answer lies in adopting a disciplined process.

Trap 1: I know that I am smarter than the other fools out there

The human being is, by and large, overconfident in his or her abilities. For example, out of 600 professional fund managers asked in a study (Montier, 2010), almost three quarters said they were better than average (in the same way that 80% of us believe that we are better than average drivers). A number of studies have shown that overconfidence leads investors to overestimate their knowledge, underestimate the risks involved and increase their perception of their ability to control events.

Mitigation strategy: Have some humility – plenty of very clever people get beaten up by the markets.

Trap 2: There is a distinct pattern emerging here

An easy-to-understand example of this behaviour can be seen on the roulette tables of Las Vegas. A rational gambler knows that the chance of any number coming up has the same odds as any other number of coming up.  Yet, a sequence of three or four ‘red 9s’ in a row, or other similar pattern, can create quite a stir at the table.  In investing, we often mistake random noise for what appears to be a non-random sequence.

Mitigation strategy: If you detect a pattern in shorter-term data it is probably meaningless and that includes active fund performance data.

Trap 3: Problems with probability (and maths in general)

As humans, we seem to really struggle with probability calculations and outcomes. For example, many people are willing to pay more for something that improves the probability of a specific outcome from, say, 95% to 99% than from 45% to 49%, yet the two outcomes are financially equivalent.  We shy away from even the simplest

You’re only as strong as your weakest link!

Unless you’ve spent the weekend on the moon or simply ‘switched off from the world’, you will be aware of the unprecedented cyber-attack ‘WannaCry’, which began as a ransomware attack on Friday morning, infecting over 230,000 computers in 150 countries and causing grave disruption to many organisations including the NHS.  Whilst the stories that hit the headlines related to large organisations, there will no doubt be many small businesses and individual users who have also been victims.

 It seems that everywhere you look we are being warned about the risks of cyber-crime; yet despite this, it is still the fastest growing area of crime, as criminals continue to take advantage of advancing technology and the vulnerability of systems and individuals.

According to statistics recently published by the Office of National Statistics, cyber-crime was one of the most common offences committed in 2016, with an estimated 2 million cyber-crime incidents compared to 686,000 domestic burglary offences!

It’s not surprising that individuals unwittingly fall foul of these increasingly sophisticated attacks, particularly when these often come from what appear to be genuine and respectable authorities.   A warning email I received on Friday morning from HMRC illustrated this perfectly.  It read “Customers are strongly advised to lookout for a new phishing scam. If you get an email with the subject, “Your 2016 Tax Report”, with an attachment, do not open!”

Now I know that HMRC would never email important documents to me and if I was in any doubt, I would telephone HMRC to check (after looking up the number from a genuine source and before opening any attachments), but, how many individuals would have been panicked by seeing ‘HMRC’ and immediately opened the attachment, resulting in who knows what malicious activity, financial loss, data loss, identity fraud or even psychological issues resulting from the stress of the attack.

The National Cyber Security Centre makes the following suggestions for keeping safe: –

  • Use proper anti-virus software and always download the latest software and app updates; they contain vital security upgrades which help protect your devices from viruses and hackers. The most common reason respondents across the UK gave for not downloading software updates was that it takes too long. In reality, it only takes a few minutes compared to the time it can take to recover from a cyber hack.
  • Use three random words to create a strong password. Weak passwords can allow hackers to use victims’ email to gain access to many of their personal accounts, leaving them vulnerable to identity theft and fraud.
  • Back up the data that is important to you – you can’t be held to ransom for data that you hold elsewhere.

 Of course, these activities alone can’t keep you completely safe. In September 2016, the ringleader of a gang responsible for the biggest cyber-fraud the Metropolitan police had seen was jailed for 11 years.  Their crime; defrauding innocent bank customers over the phone by pretending to be from the fraud department of the bank and persuading them to provide their internet banking details on the basis that their accounts had been hacked.   Within a matter of seconds and whilst the call was still taking place, the callers associate would gain access to the victims account and empty them!

Now you might think that you wouldn’t have fallen prey to this crime, but the criminals were so convincing that amongst the victims was a firm of solicitors who were fleeced out of £2,260,625! In fact, between January 2013 and October 2015, the gang took approx. £113 million from victims!

 Through its Cyber Aware campaign, the government are urging everybody to treat cyber-crime as seriously as home security.   For more information on keeping yourself safe, please visit https://www.cyberaware.gov.uk/

Carpenter Rees takes cyber-crime and the security of client data very seriously.  In October 2016 we successfully completed the Cyber Essentials badge demonstrating that we have the correct security controls in place which meet government endorsed standards.

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The kids are alright?

Further to my blog at the end of March “You can’t Take it with you”, I wanted to share with you some experiences and observations around gifting to children.

In many cases people delay making decisions about gifting to their children and other family members which is often due to fears such as: –

  • They may squander the gift – This may indeed be the case, but if they are set to inherit the money eventually, gifting it to them whilst you are still around allows you to guide them.  However, if this is a concern then the money can be gifted into a Trust. This would entail additional cost, added complexity and possibly a feeling of distrust and therefore if you are considering this option, you should be open with the family; at least about why. Another option is to gift an asset such as a property or a house deposit, which is difficult to squander and from our experience, property ownership makes children more responsible.   Another somewhat extreme but effective measure is to make it known that if the gift is used unwisely, they may be disinherited.
  • Too much too young– I love getting song titles from the Specials into my blogs! Some people are concerned that giving money too soon could remove that individuals work ethic and desire to create their own wealth. This can be tricky and the choice will be determined by the child’s personality and the values they have had instilled upon them. Again, a trust may be a possible solution.

 

  • Future Outlaws – As we all know; divorce courts start from a 50/50 split of assets. If you are concerned

The Solution to Uncertainty (Part 2)

Carrying on from last week’s blog, I did promise to let you have our solution to dealing with uncertainty. We believe the very best tool for dealing with this issue is diversification. We allocate part of your investment to conservative fixed income investments to provide stability when equity prices fall and to rebalance into when equity prices rise. In addition, we also diversify the equity portion of your portfolio across international markets and types of companies.

In some instances, the entire stock market can move in unison. However, that is not always the case and different asset classes often behave differently at different times, but all have strong long-term performance characteristics.

As a recent example of diversification in action, consider the following difference in returns that even a single quarter can make;

4th Quarter 2016                              UK                          Overseas

Large Company Stocks                   3.89%                    7.08%

Value Stocks                                    4.19%                    11.17%

Small Company Stocks                   1.48%                    8.01%

 

1st Quarter 2017

Large Company Stocks                   4.02%                    5.1%

Value Stocks                                    1.0%                      3.0%

Small Company Stocks                   5.1%                      4.0%

 

During the 4th Quarter of 2016 overseas stocks significantly outperformed UK Stocks and this was mainly because of strength of both US Companies and the Dollar. The very next quarter the returns are generally aligned with each other.

You might think that if we were clever, we would be able to predict which is likely to outperform from quarter to quarter, but nobody can do that despite what they may think.

Over the long-term the expected returns of UK and Overseas stocks are similar, but as demonstrated here there is a diversification benefit to holding both. The benefit of a diversified portfolio is a smoother ride and a reduction in the uncertainty that can and will happen.

In short, we will never own enough of one thing to make an absolute killing, but in so doing we won’t own enough of one thing to get killed! If you have a reliable financial plan in place, you don’t have to make a killing to accomplish your goals. We believe the market return, which is there for the taking, is often sufficient to achieve a positive outcome to a solid financial plan.

 

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