The Art of Delusion

Jim Parker provides a great piece exploring the delusions that investors can suffer. Importantly he notes we aren’t wired for discipline… which is one of the benefits of using an adviser with proper processes.

The Art of Delusion

The philosopher Ludwig Wittgenstein once said that nothing is as difficult for people as not deceiving themselves. But while most self-delusions are relatively costless, those relating to investment can come with a hefty price tag. We delude ourselves for a number of reasons, but one of the principal causes is a need to protect our own egos. So we look for external evidence that supports the myths we hold about ourselves and we dismiss those facts that are incompatible. thegreatgatsby

Psychologists call this tendency to select facts which suit our own internal beliefs as “confirmation bias”. A related ingrained tendency, known as “hindsight bias”, involves seeing everything as obvious and predictable after the fact. These biases, or ways of protecting our egos from reality, are evident among many investors everyday and are often encouraged by the media. Here are seven common manifestations of how investors fool themselves:

7 Investor Delusions

1. “Everyone could see that market crash coming“. Have you noticed how people become experts after the fact? But if “everyone” could see a correction coming, why wasn’t “everyone” profiting from it? You don’t need forecasts.

2. “I only invest in ‘blue-chip’ companies.” People often gravitate to the familiar and to shares they see as ‘solid’. But a company’s profile and whether or not it is a good investment are not necessarily correlated. Better to diversify.

3. “I’m waiting for more certainty.” The emotions triggered by volatility are understandable. But acting on those emotions can be counter-productive. Uncertainty goes with investing. In the long term, discipline is rewarded.

4. “I know about this industry, so I’m going to buy the stock.” People often assume that success in investment requires specialist knowledge of a sector. But that information is usually already in the price. Trust the market instead.

5. “It was still a good call, but no-one saw this coming.” Isn’t that the point? You can rationalise a stock-specific bet as much as you like, but events or external influences can conspire against you. Spread your risk instead.

6. “I’m going to restrict my portfolio to the strongest economies.” If an economy performs strongly, that will no doubt be reflected in stock prices. What moves prices is news. And news relates to the unexpected. So work with the market.

7. “OK, it was a bad idea, but I don’t want to sell at a loss.” We can put too much faith in individual stocks. And holding onto a losing bet can mean missing opportunities elsewhere. Portfolio structure is what determines performance.

This is by no means an exhaustive list. In fact, the capacity for us as human beings to delude ourselves in the world of investment is never ending.

But overcoming self-deception is not impossible. It just starts with the idea of recognising that as humans we are not wired for disciplined investing. We will always find one way or another of rationalising an emotional reaction to market events. But that’s why even experienced investors engage advisors who know them, and who understand their circumstances, risk appetites and long-term goals. The role of that advisor is to listen to and acknowledge our very human fears, while keeping us in the plans we committed to at our most lucid and logical.

We will always try to fool ourselves. But to quote another great philosopher, the essence of self-discipline is to do the important thing rather than the urgent thing.

Jim Parker: Vice President Dimensional

The Art of DelusionDominic2023-12-01T12:39:14+00:00

Website Distractions?

Graham Jones is back, examining our productivity and accuracy in our technology infused lives. Graham…

Website Distractions

Here’s a test. Look closely at what you are reading right now, these very words. Do not move your eyes away from these words. Focus. Focus. Focus.

Oh, go on then, take a look at the sidebar, take a peek at what else is on the page.

And….back to the text…… youvegotmail

Now, let’s start again. Because that is what your brain is having to do. All of a sudden your reading flow has been interrupted and you need to get back into the swing of things. And here is another interruption to disturb your brain some more – a picture to look at. We all know about online distractions from our daily work – such as email alerts or the desire to see what our friends are saying on Facebook. And we all know that these distractions take us away from being productive.

People who only deal with email once or twice a day are significantly more productive than those people who constantly check their emails. Several studies confirm this. Similarly, people who only log on to Facebook once a day and who have a routine are both more productive and feel better about themselves.

However, new research shows that it is not just major distractions, such as checking your email or logging onto Facebook that are a problem. It turns out that distractions that take as little as 2.8 seconds can have a significant impact on us. The study found that an average of 4.4 seconds of distraction is enough to significantly reduce your accuracy on subsequent tasks.

What this means is that the plethora of web distractions, such as “web page furniture” is not only wasting our time and making us all less productive, it also suggests that what we do at work is becoming less accurate as a result. That also hits our productivity as we have to go over and repeat our work in order to correct the mistakes.
One way out of this conundrum is to use something like Evernote Clearly which allows you to view web pages, distraction-free. Perhaps we need to re-think the way websites are designed. Perhaps web pages that look rather like a page of a book, free of distractions, are actually better for us than pages full of potential distractions.

It also means we could increase productivity with better designs for offices, phones that do not ring for more than 2.8 seconds and so on. It is time to look at the whole way we work – we are not being anywhere near as productive as we could be, because our modern way of working provides us with a constant array of distractions for more than a few seconds.

Graham Jones

Website Distractions?Dominic2023-12-01T12:39:13+00:00

One Green Bottle

Jim Parker is back, discussing why diversification is vital in any sensible portfolio, with lessons from the Chinese and wine industry. Jim…

One Green Bottle

In investment, risk and return are related. In other words, the price of earning a return is accepting some level of risk. But not every risk is worth taking. And one of those is the risk associated with individual stocks or sectors. Economists call this idiosyncratic risk. It relates to the peculiar, individual influences on a particular stock or industry. And the general rule is the less diversified your portfolio, the more you are exposed to these granular risks.

Lessons from China

Treasury Wine Estates (TWE) is the second-largest publicly traded wine maker in the world. This Melbourne-based company, created in 2011, is home to such brands as Penfolds in Australia and Beringer in the US Napa Valley. One of TWE’s fastest growing markets has been China, which is now the biggest market for red wine in the world. In fact, China’s drinkers last year consumed 1.86 billion bottles of red wine, an increase of 136% on five years before.1 However, that pattern started to change recently as China’s president Xi Jinping announced an austerity drive and a crackdown on corruption. (Wine is frequently used to grease the wheels of business deals in China.) In January this year, TWE downgraded its earnings guidance, saying the crackdown on official gift giving in China was hurting sales volumes. The market response was dramatic, with the company’s shares dropping 20% in a single session. This wasn’t just felt in Australia. In Europe, French drinks giant Rémy Cointreau announced in April, 2014 that sales of its cognac had slumped by more than 30% due to the crackdown on corruption in China.2

Think sideways – diversify

So how do investors protect themselves against these idiosyncratic risks like these? The most obvious way is to diversify. That means holding a large number of stocks and being exposed to a broad number of sectors. In a portfolio of just one stock or even five, TWE’s sudden fall from favour has an outsized impact. But in a portfolio of several hundred or even several thousand stocks, the idiosyncratic fortunes of a single company mean less. Think of it in terms of the apocryphal single green bottle sitting on the wall. When it falls, the game is over. But with 10 or 100 green bottles, it’s going to hurt less.

Know the limits – recommended daily allowance

But what if an individual investor has strong convictions about potential returns to the wine industry from increasing China consumption? The best answer to that question is to pose another question: You don’t think the market already knows that? In publicly traded and competitive markets, prices move on news. Any professional journalist will tell you that news is defined as the unexpected or unusual. ‘Dog Bites Man’ does not clear the hurdle of compelling news. ‘Man Bites Dog’ does.

To use our wine example, the statistics on China’s changing drinking habits were well known. Western wine makers like TWE and Rémy Cointreau moved to exploit them. And markets discounted the higher expected cash flows from those efforts. The ‘news’ in this case was the Chinese government’s move to reduce the level of corruption by outlawing gifts of expensive wine or spirits. Markets responded to the news because this changed their expectations for future cash flows. Unless you have found a way of predicting news, it is unlikely you will work out what will happen to stock prices. But you can protect yourself against these idiosyncratic risks by diversifying across stocks, sectors countries and asset classes.

Drinking in moderation is fine. But when it comes to investing, one green bottle is never enough.

Jim Parker. Vice President Dimensional

________________________________________
1. ‘China Becomes Biggest Market for Red Wine’, The Guardian, Jan 30, 2014
2. ‘Rémy Cointreau Sees China Crackdown Hurt Profits’, WSJ, April 17, 2014

One Green BottleDominic2023-12-01T12:39:13+00:00

Having problems doing our risk questionnaire?

On occasion, we hear that clients have problems accessing the worldwide market leading psychometric risk profiling questionnaire that we use with our clients. If you are having problems, please call or email us. You may also be interested to learn that as this is an online tool, you can access it from your ipad or mobile device.

FinaMetrica report that more people are using mobile devices to access the site to undertake the risk tolerance test, which can be easily accessed through iPads or Windows tablets.

“Users of iPads or Windows tablets can complete a risk tolerance questionnaire, viewing reports and performing all other functions that they could do on a desktop computer,” said FinaMetrica co-founder Paul Resnik.

Apple devices represented over 85 per cent of all mobile devices used over the year to April 24, 2014. The most commonly used mobile device were iPads, which accounted for 67.5 per cent of mobile visits to the FinaMetrica website, followed by the iPhone, which accounted for 18.3 per cent.

Of course don’t forget we have an app for your ipad, iphone or Android device. This seems to be gaining in popularity, so please share it. All of this rather reminds me of the new film Transcendence, which could have done with some proper risk profiling of the personality in the story of evolution of artificial intelligence.

Dominic Thomas: Solomons IFA

Having problems doing our risk questionnaire?Dominic2023-12-01T12:39:12+00:00

How is your fake detector?

Sadly there are many investment “opportunities” that are most definitely not in your best interests. Unfortunately these are not always easy to spot and it is important to have a good “fake detector” which is a polite way of putting things. Often, though not exclusively there will be a variety of investments that dress themselves up as one thing, when they are quite another. I don’t know the detail of the Icebreaker tax scandal involving members of Take That, but I suspect that they didn’t know what they were getting into… but someone did.

Too good to be true?

Invariably the sort of financial products that are prone to the excesses of the worst sort of marketing, are those that are fairly “exotic”. These often include Enterprise Investment Schemes, Venture Capital Trusts, Film Partnerships and Unregulated Collective Investment Schemes. That is not to suggest for a moment that all of these products are “duff” but clearly they need to be researched very carefully indeed.

Lessons from Bakersfield Mist

Malcolm Gladwell in his book “Blink” which has received widespread coverage suggests that experts instinctively know when something is off. So it was with interest that I was at the very cosy Duchess Theatre last night to see Kathleen Turner and Ian McDiarmid in Bakersfield Mist, which is currently still in previews. This is a Stephen Sachs story about authenticity and centres around determining whether a painting is a real Jackson Pollock or a fake, a mere $100m at stake. It is marvellously performed by two great actors and directed by Polly Teale. The set design by Tom Piper itself breathes authenticity. Many will have seen both actors in various films, I was lucky enough to see Ian McDiarmid many years ago in Bath, at my first Shakespeare live performance. Kathleen Turner returns to London following her highly acclaimed performance in “Who’s Afraid of Virginia Woolf?” You will be hard pressed to find two more authentic performances which are scheduled to run until 30th August and I would rate this highly.

As in the play, one of the questions posed is being clear about motives. When assessing investments, the main motivation for an investor is whether or not the investment being proposed is likely to assist you in achieving your goals. The investment itself may have different objectives, perhaps creating a gain for the investment management team and not the investor, this is where impartial advice is crucial, but of course you need to ensure that your adviser’s motives are aligned with yours, by having one that you trust, not to mention the relevant expertise. So how is your fake detector?

Dominic Thomas: Solomons IFA

How is your fake detector?Dominic2023-12-01T12:39:12+00:00

All at Sea

All At Sea – PIMS 2014

I spent the bulk of last week and part of the weekend all at sea on the P&O cruise ship “Aurora” – all for the sake of our clients naturally. You might be pleased to learn that there wasn’t much R&R involved and a very full schedule meant that barring the time to don a dinner suit for “dinner” (well it is a cruise) I had all of two thirty minute breaks in between meetings. Known as PIMS and most definitely not to be confused with Pimms and rather a tiring schedule, perhaps I overdid things with my zealous selection for 2014 of 21 meetings and 8 seminars.

Anyway, anchored just a mile or so from Guernsey, the captive audience was pummelled with information. Some great ideas and some rather dubious ones… all meant to advantage our clients. The packed schedule meant that for both advisers and product providers, this was a condensed series of meetings, which might normally take several months. I was there to search out ideas for improving our services to clients (a constant theme I presume for every business) as well as getting some sensible but clever investment ideas within the tax saving and tax reducing wrapper of an Enterprise Investment Scheme (EIS) or Venture Capital Trust (VCT) and I’m pleased to say that I’ve found some that I believe to be worth consideration.

Thankfully I had the advantage of Steve Williams being aboard too – he assists with impartial, independent guidance, research and serious mathematics to help us construct portfolios for our clients (see the investment committee section). So it was good to be going through the same process together and we shall be discovering each others insights about our respective experiences in due course. I’m bringing this to your attention because often clients don’t realise how much we can do for them. We are able to access all sorts of solutions, provided by small niche companies to the giants of global private banking, its not really a question of can we do something…. but more “what is the problem that needs solving?” The main point being that our job is to help you on your journey, safely and not leave you all at sea.

Dominic Thomas: Solomons IFA

All at SeaDominic2023-12-01T12:39:11+00:00

Godzilla Investing… did you see it coming?

Godzilla Investing…did you see it coming?

I wonder if you have seen the new trailer for the new (yes another version) Godzilla film? One of the lines used in the trailer to promote the film says something to the effect “this will send us back to the stone age”. Whilst this is of course used for dramatic effect, it does seem that there is a growing concern that if our world changed dramatically life would revert to something altogether basic. This anxiety of an end to life as we know it, is the subject of many films at present, perhaps a meltdown of the financial markets or an end to our technological revolution or alien invasion (examined in two recent films “Her” and “Transcendence” but a very well worn topic).

So I wondered as walked this morning, could we revert to the Stone Age? Well, I don’t believe so. It’s plausible that without technology we would find life rather different, certainly challenging, but isn’t this really winding the clock back 40 or 50 years? Even the Romans and Greeks, considerably after the Stone Age, were thriving economies with central heating and running water, ok not quite the same, but you see the point. In fact life back then was remarkably similar – at least that was my impression having been to the Pompeii exhibition at the British Museum last year.

Portfolio Worth Zero?

So when a client asked me the other day “could my portfolio be worth nothing?” I paused and reflected on something that I have voiced many times over. Companies can fail, individual funds can fail, but we build diversified portfolios. These are a mix of different shares, funds and asset classes. Yes they could all revert to a zero value, but to do so would mean that the companies, the properties that they work from, all assets, gold and so on would be worth nothing. The only thing I can realistically think of that could cause this would be “the end of the world” – world war. In which case, you won’t be worrying about your portfolio. That is not to suggest that a major problem like the credit crunch could devalue holdings considerably, which is precisely why we diversify investments and assess risk (see yesterday’s post). We cannot prevent or predict major disasters, but we can make allowance for the unknown and the bad times. However fear is not something that should be ignored, but it is overcome or at the least faced with knowledge.

As for Godzilla, I guess you will see it coming…

Dominic Thomas: Solomons IFA

Godzilla Investing… did you see it coming?Dominic2023-12-01T12:39:11+00:00

Risk: What would you advise?

Probably one of the worst questions you could ask a financial adviser when discussing your attitude to risk and therefore the make up of a portfolio. This is because those that work within financial services tend to have an above average attitude to risk, so in many cases the adviser would select a higher risk portfolio, often far higher. Now in fairness, this may be for good reason – for many people financial planning maths is about three components, how much you can put in, and the time before you need the money and the return required to “make it happen”. Invariably the wider population have considerable constraints on probably two of the three, time and contributions being the obvious weaker partners.

Risk Perception

Risk is subjective on many levels – there are risks involved with anything, familiarity may well breed contempt in this instance. For example, most accidents happen at home or close to home, yet we tend to become more anxious when we travel abroad. Driving at speed increases the risk of a fatal accident. I recently heard that following September 11th, due to aeroplanes being grounded and the subsequent fear, many Americans chose to drive rather than fly within the US. This resulted in more traffic and more road deaths than were caused by the atrocity. I’m not certain that this is true, but is seems plausible and helps make the point about perceived risk.

Testing your attitude to risk

Risk may be subjective, but it is still possible to scientifically test attitude to risk using psychometric testing. Clients will know that we use FinaMetrica, the market leading psychometric profiling tool. This generates a very good report and useful discussion document, so that we can build a suitable portfolio for clients, where hopefully there are no surprises, good or bad. As if to labour the point, I recently did some work with Paul Resnik on our clients. Our results fairly accurately reflected the global population, but with a slight tilt towards lower risk in nature. On a global basis, most people (86%) score between 35-64 (around medium risk). In our case, this is 89% with fewer people in the higher risk categories. In very simple terms, most financial advisers would tend to use portfolio 6 (of 7) which is fairly aggressive, yet most investors are two rungs below in portfolio 4 (of 7) bang in the middle. So be careful what you ask for, unless your adviser properly assesses and discusses your attitude to risk, you may be taking more than you thought.

Dominic Thomas: Solomons IFA

Risk: What would you advise?Dominic2023-12-01T12:39:10+00:00

Is your ISA safe from the taxman?

The short answer to this question is no. ISAs are a way of investing, where most of the money will be tax free. However, this largely applies to capital gains tax and income tax, though there is a 10% tax paid on dividend income within an ISA. An ISA is not something that avoids inheritance tax, although new rules would permit the fund to avoid IHT if the holdings are within AIM-listed shares and held for a minimum of 2 years. This can be an option for some people, however for those with a nervous disposition or anything below at least a “medium risk” approach to life, great caution and specific advice should be taken.

Tax avoiders watch out for muscular HMRC

However, today’s news suggests that HMRC are seeking to flex their muscles and raid ISA pots for unpaid tax. The Chancellor already proposed that HMRC could raid your bank account in the last Budget, but it seems this is likely to be extended to raiding your ISA too. This is to collect payment of taxes due to HMRC.

At the last HMRC count, (September 2014) something like £443 billion was held in ISA accounts. ISAs which officially began in the 1999-2000 tax year are due to have a major revamp in July, with the annual allowance increased to £15,000 and the ability to alter your cash holdings within an ISA. This may come as good news to most ISA holders, as still a staggering 80% of the £57 billion subscriptions in 2012-13 were to Cash ISAs, despite interest rates being… well… “poor”. So clearly the majority of people are still not using their ISAs for long-term wealth creation, if they are then they are getting some pretty dreadful advice (based on these numbers).

It may surprise you to learn that over half of people living in the South West have an ISA (53.6%) compared with London (45.4%).

Dominic Thomas: Solomons IFA

Is your ISA safe from the taxman?Dominic2023-12-01T12:39:10+00:00