As any doctor or lawyer will no doubt know, family, friends and even ‘just-met’ acquaintances love to tap into a source of easily available professional advice at dinner parties, school rugby and around a braai. The question we are very often asked is, what is the best way to invest in the market. While the question appears to be simple, a meaningful response should not be offered flippantly (or after a second glass of merlot).
While the response currently is to voice concerns regarding markets at the moment, the customary reply is that patience is usually the best approach rather than diving headlong into any investment decision. Timing markets can be hard and is not for the faint hearted or the uninitiated. Equities go through cycles which include phases of gut-wrenching underperformance followed all too often by giddy outperformance. This mania very often inspires a series of investor mind games which rarely end well; emotion is one of the foremost destroyers of investment value. And herein lies the dilemma: is there a simple answer to this question (before, during and after merlot)? An answer that will allow both the investor and the merlot drinker to sleep well at night.
While Gryphon may have an alternative approach to asset allocation, we do recognise the benefits offered by investment in equity over the longer term and, in accordance with our philosophy, the most effective method to harness that is to invest in an index fund.
Selecting individual stocks that outperform the market is hard – and it’s harder still to do it consistently. History shows that investors are better off investing in a broad market, low-cost index fund. Some of the shares in the index will go up, some will go down and some will just bob merrily along, but over the longer term you will see satisfactory returns as the market automatically adjusts to deliver the most efficient portfolio at any point in time. Warren Buffet is unashamedly a great fan of indexation and in fact warns against investing in individual stocks as “I do not think the average person can pick stocks,” he says. He makes the point using the top 20 companies by market cap in 1989; these included Japanese firms, Exxon, GE, Merck and IBM. None of those remain in the top 20 today. His words:
“Over the years, I’ve often been asked for investment advice, and in the process of answering I’ve learned a good deal about human behaviour. My regular recommendation has been a low-cost S&P 500 index fund.”
The last few years have seen very turbulent times for investors – China’s slow down, inflation too low for too long, COVID-19 imploding financial markets, negative real interest rates, massive amounts of quantitative easing, Russia invading Ukraine, Bitcoin and related (not so) stable coins (Terra), and so on…is it even possible to ignore the interminable barrage of news and remain immune to its effect? The JSE All Share Index (Total Return) reached a high of 12 760 in March 2022 from its COVID low of 5 802 in March 2020…and this did not happen in a straight line.
And then, on top of market chaos, along come new, bright, shiny things that grab our attention…
A prime example to illustrate the short-term distraction: crypto currencies became the irresistible ‘must-have’ and it appears that many investors bought into a trap that they now cannot escape. It’s not that equity markets will never present similar trends from time to time, but equity markets are built on sound financial principles that make them “investable” by definition. We don’t know whether crypto currencies are truly investable or not, or even if they are here to stay, but one of the most important aspects of an investment is that it should pay an investor a return over a certain period from which a reasonable present value estimate can be made. Equities, Bonds, Property and Cash are asset classes that meet this requirement and are thus defined as true financial assets. Prudence prescribes investing only in tested investable assets, ideally those that have stood the test of time. Be aware that some speculative “assets” can reach values of zero and never recover. Ever. Our preference for prudent long term investing is thus to make use of financial products that are linked to the broadest equity markets possible; in our case, the local All Share Index and offshore MSCI World index.
Obviously, the earlier one embarks on this journey the better, but, as importantly, one needs to stay the course and not abandon your investment boat based on emotional decisions. It’s a journey that requires careful consideration and once embarked on, demands courage and fortitude if the rewards are to be reaped.
This chart is a simple illustration of how a 10%p.a. return works for you if left untouched and ignore the volatility that comes and goes! By investing a single amount of R1 000 for 10 years at a return of 10%p.a. your investment matures at R2 594.
It also illustrates the marked impact of adding to your base investment over the years. By adding a nominal R100 to your account every year, your investment reaches R4 187.
In real life, over the last ten years local and international equities have returned 11.2% and 18.8% p.a. respectively (J203T & MSCI World Developed market). Had you invested R1 000 in these markets on the 30th April 2012, ten years later your investments would’ve grown to R2 895 or R5 601 respectively.
In the words of Steven Covey, ‘the main thing is to keep the main thing the main thing.’ If your main thing is to invest in a simple, transparent equity investment, you can’t really do much better than an index tracker – do as Warren Buffet suggests:
‘Keep buying it through thick and thin, and especially through thin’.