Out of Control?
Key Takeaways
In investing, having absolute control means giving up a large chunk of potential returns (e.g. keeping your capital in a savings account or a fixed deposit account)
To earn a return above inflation, you would have to accept some loss of control — some volatility and potential for losses along the way.
Having a longer time frame is one way you can regain some control — When you invest for 1 year, your return will range from very negative or very positive. However, when you hit a 15 year timeframe, you are looking at 100% positive returns.
Investing is not about beating others at their game. It’s about controlling yourself at your own game.
— Benjamin Graham
Channel News Asia recently reported about the rise in supermarket thefts in Singapore, highlighting that it made up the highest proportion of all reported physical crimes in the country, with 3,939 cases reported in 2023 — an increase of 21.4% from 2022.
This could come as a surprise to many, given Singapore’s very low tolerance for crime. What could be the reason for this phenomenon? Are there many more people who are currently out of jobs which resulted in them stealing groceries as they could not afford them? Or is the general population generally getting out of control such that petty crimes like these are on the rise?
One thing that is easy to overlook in life is that there is always a little inefficiency in everything we do — essentially everything comes with a trade-off. We could easily eradicate supermarket theft. Grocery stores could electronically tag every item on their shelves, scan everyone’s bags (like what airports do), or even conduct a strip search every time a customer leaves. But would you shop at such an establishment? The cost in terms of both manpower and time needed to implement this is likely to be exorbitant, and would drive customers away.
This same idea — of accepting a little inefficiency while trying to control what you can, also applies to investing. There is no shortcut or hack when it comes to investing. Those YouTube videos or “investment gurus” touting easy ways to make money? Please take it with a bucket of salt. Risk and volatility is all part of the ride. The emotional roller coaster that investing brings you through whenever markets are turbulent is totally normal.
Even the great Warren Buffett admitted that investing was hard in his recent 2022 shareholder letter, writing:
“most of my capital-allocation decisions have been no better than so-so. In some cases, also, bad moves by me have been rescued by very large doses of luck. Our satisfactory results have been the product of about a dozen truly good decisions - that would be about one every five years…”
Market Downturns
So how do we live with these “inefficiencies” in investing? For one, we have to accept that we face the possibility of a market downturn everyday. Research from Morningstar (diagram below) compares bull markets vs bear markets. While a downturn on the stock market is never pleasant, it is short, in comparison to uptrends. Stock market shocks tend to be sharp and painful but usually short-lived.
We can see that out of all the sell-offs over the past 100 years, only one lasted more than two years. This was the Great Depression in 1929 — although the market sell-off’s duration was around 34 months, the subsequent recovery period lasted a spectacular 151 months in total.
So when we put our money to work, we want to generate a return that helps us grow our capital to meet certain goals in mind. We also have to accept that not every year will be a positive one. To ride out the market downturn (which will inevitably come), asset allocation and diversification plays a large part in helping to minimise risk.
Investment Duration Ensures Positive Returns
A shorter investment timeframe gives you wider and more variable returns. As you continue to stay invested in the same globally diversified strategy (different from staying invested in a bunch of stocks which you trade in and out), the dispersion of returns reduces. For example, the chart below compares investment returns when invested for 1-year, 5-year periods or 15-year periods. When you invest for 1 year, your probability of a positive return is around 73%. Your return could be -40% or +50%. However, as your time period lengthens, the probability of positive returns gets better. When you hit a 15 year timeframe, you are looking at 100% positive returns — this is as close to a guaranteed positive return as you can get.
In the same vein, a sample core portfolio that we run for clients — the VaR16 portfolio (nett of fees) — also has a similar result. There is a wide variance in returns when you invest for 5 years or less. The compound annualised growth rate of the portfolio could still be negative even at the 10 year mark. But when you reach 15 years or more, the dispersion of returns narrows.
The possibility of a market downturn and the wide variation in investment returns are some inefficiencies that we have to accept if we want to put our money to work. If you want to be very certain while maintaining high levels of control in investing (like the zero theft supermarket example) it is still possible. You can put your money into a savings account or a fixed deposit account. You can be certain that there will be no losses (hopefully, if the bank does not go under) and there will be minimal variation in the interest you get. However, the cost you pay for this certainty is reflected in the difference in return you receive compared to investing in riskier assets.
Now, that’s certainly not to say we ignore risk — some aspects of investment risk can be managed and controlled through proper portfolio construction and the implementation of evidence-based investing principles. While risk (or theft) can never be fully eliminated in exchange for some form of efficiency, it can be reduced to manageable levels.
For more information on portfolio construction, risk and how returns can be generated over the long term, come and speak to our team or your advisor.
