How Losing Gets You Ahead
Predicting Crisis
The year is 1997, markets have been booming since 1993 and the internet boom is in full swing.
You go to a wealth manager and tell him that you need at least $6M to retire by 2024. He checks his crystal ball and tells you, “No problem if you invest $1 million now, but fair warning, you will go through some of the worst market declines in history within the next 10 years.”
Would you go ahead? Or would you wait out the crisis and invest later?
It would not be unreasonable for investors to delay their investments until the market crisis have passed before investing.
Over the ensuing decade, investors in global stocks experienced the Dotcom crisis and the Global Financial Crisis. Both episodes saw large declines of -46.75% (1/4/2000 -30/9/2002) and -54.92% (1/11/2007 - 28/2/2009) respectively.
If you had invested at the bottom of the market on the 1st of March 2009, you would have an impressive return of 11.83% per annum, almost 3% higher than the historical long-run return of global stocks by end April 2024.
Conversely, if you had taken the wealth manager’s advice and invested right away in 1997 and sat through both the Dotcom and GFC, you would have had a return of 6.99% per annum by end April 2024.
What surprises many people is that even though the annual returns were 41% less than investing later, the terminal wealth at the end of April 2024 was significantly more by investing earlier because you had more time to compound your wealth. You would have $890,000 more wealth at the end if you invested straight away in 1997.
Why returns are not the most important thing to an investor
You can’t eat relative returns.
An 18% per year return for two years still creates less wealth than 9% per year over four years. A sustainable source of 9% per year returns will create more wealth over the long term than a shorter term 18% per year return.Returns and terminal wealth are correlated but they are not causal.
The investment industry measures itself by relative returns as an occupational yardstick but investors often make the mistake of using the same yardstick in measuring their investments. That can lead to sub-optimal outcomes because the investor’s yardstick should focus on terminal wealth, the dollars and cents that they can spend at the end of their accumulation journey. Investors should be focused on maximising terminal wealth and not focused solely on returns. High returns often lead to high terminal wealth but high terminal wealth might not be a function of high returns as can be seen from our example.Institutions have infinite lives, investors do not.
Professional managers are often evaluated by relative returns against a benchmark or peers. They might make decisions to maximise returns but pay no attention to terminal wealth of investors because institutions have no end date.In comparison, investors have an investment accumulation lifespan of about 30 years, some longer, some shorter. Thereafter transit into a divestment or preservation type of portfolio. By timing markets and sitting in cash in an attempt to maximise annual returns, you lose valuable time that can never reversed.
Do not be afraid of market highs.
Most investors understand the concept of “buy low, sell high”. Empirical data surprises many people when they learn that market highs often lead to higher highs the majority of the time. Many investors are afraid because they do not have visibility of the risks in the markets.The best time to invest is when you have the resources to invest. Leave the risk management to us. Read more about our Risk Matrix and how it adds to investor’s wealth here.
Improving returns by staying invested
There are many ways to improve returns above what the market gives. Such as investing in higher expected return parts of the market, improving implementation, reducing unnecessary cost, eliminating return drag from wrong forecasts and constructing better portfolios with uncorrelated assets that give you diversification benefits. All these improvements do not require you to sit out any days of the market to ensure that you do not miss out on returns.
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Most of us would trust an accomplished physician to manage our health. After all, physicians have specialised training, real-world experience, and access to tools outside the reach of the general public. Most importantly, they took an oath to prioritise the patient’s health over their own interests.
In the same fashion, GYC espouses the same expertise in markets as good physicians do with health care. Additionally, we adapt insights from financial science to develop a financial plan that is built upon a rigorously tested investment philosophy.
Experience the difference today with an interest aligned wealth manager.