Investing It’s a Risky Business

With the lock-down still in force, we’re having to do home schooling for the children, so I decided to incorporate what I do with what I think they need to know.

I introduced them to the “Rule of 72”.

For those of you unfamiliar with this Rule, it is a cheat sheet to work out how many X’s (years, months or days) it would take to double your money.

So in the unlikely event your Bank is going to give you an interest rate of 8% p.a on your savings it would take 9 years before your money doubled.

If 5% p.a then it would take 14.4 years or 10% a straight 7.2 years.

During our tutorial the post man delivered our mail. There were two identical letters for the Twins. As they opened them excitedly they saw it came from their bank.

D’Arcy is always on my case for putting his money in a savings account. This time he was well and truly justified.

The letters from the Bank were a special announcement of a change in the interest earned on their “Savings” Bank. It was being reduced from 0.75% down to 0.10 %.

The Twins putting what they learnt into practice worked out how long it would take to double their money.

All things being equal what is the answer dear reader?

If you came up with the answer of 7,200 years that’s right for a rough guide but way wrong in the real world we’re living in now.

Why? Because inflation in the UK at present is 1.5% p.a so your money is depreciating at a rate of 1.4% which generally means your money will evaporate within 51 years.

Living in a Pandemic shocked global environment we have seen Governments issuing additional quantitative easing, pumping up the economy with steroids. And the hangover is likely to be more inflation and that’s if we’re lucky!

Hyperinflation is not on the cards. Why well it’s worth taking a look at this video clip for a better understanding of how our system works:

Banks are lowering their rates on saving and larger loans. The unofficial policy is to punish savers and reward borrowers.

In the past Investors piled into the stock market, only to get burned back in 2000 and 2008. From there they swarmed into Bonds. Peer to peer, renewable energy, asset backed bonds also known as high yielding bonds or Junk Bonds by any other name (certainly by the rating agencies although they were so dirty they were not even on the Rating Agencies radar).

What next? Well obvious Gold has its place likewise the almost as rare nowadays CASH. Yes CASH is king but Gold is an Emperor.

And as for Fund Managers:

“Hey, money you’ve got lots of friends crowding round your door, but when the returns are spent, you have not got those friends no more.”

Well that’s what I heard Neil Woodford sing along with his disciple Mark Barnett.

Why is it that when the market goes down the majority of Funds, those investment experts, see significant losses? The herd mentality is what generates these mediocre results no one is willing to stick their heads up too far above the parapet. It the fund and market goes up, then “Hey I am a genius fund manager.” If it crashes well “Nobody saw it coming – ‘We’re all in this together.’ “ .

Investors are forced to embrace risk while “Independent Financial Advisors” and other Brokers down play this element or opposite and even encourage what has been termed:

“Reckless conservatism .”

It’s the avoidance of risk at any cost, forgetting that inflation will erode one’s capital over time if the interest rate on your savings is less than the Retail Price Index over the long, medium and even short term. This is done to avoid any complaints, to the FCA, that investors were sold risky assets, it sounds better to say that the investment under-performed than to say it lost money.

Reckless conservatism is feeling comfortable with a bank rate of 1.5% and being unaware of the rule of 72 to find out how long it will take to double your money!

Professional commentators like to say that in the long run the stock market always seems to recover and even go higher.

Yet as Sir John Maynard Keynes famously said:

“In the long run, we are dead.”

Time is not on everybody’s side.

If you were old enough to know who “Cat Weasel” was, or watched “Time Tunnel”, that futuristic series “Space 1999.” Or even “Blake 7” you are likely to be from the tail end of the Baby Boomer generation. If one’s pension or savings have been depleted by 25 – 30% due to the coronavirus 19, even with a lovely bull run on the stock market giving an average of 7 %, it’s going to take around 10 years to be where one was back in December 2019.

This is the time to get out of one’s comfort zone and use the “Big Bazooka” central banks go on about. The phrase being to: “Do whatever it takes” to revive the economy or in one’s case ones portfolio and face risk head on. Otherwise, one will be susceptible to words like “guaranteed, asset backed and the glossy brochure” along with reassuring Brokers.

It’s difficult to understand as our relationship with money is that unless we are at the casino for a fun night out instinct tells up to avoid risk of money at every turn. At the same time the Financial sector dreams up some many financial instruments that have inbuilt risk which are sold as low risk.

PPI

Endowment mortgages

Peer to Peer Bonds

Life insurance

Cash ISA’s

To name but a few.

Let’s look at your standard CASH Isa. These are popular because many people like the idea that they would not be paying any Tax on the profits. Yet the return on these are never going to put a basic rate UK Tax payer beyond one’s annual capital gains allowance of around £12,300 p.a.

So let’s do the maths. If the average return on one’s shares over the medium term is 7.5% your portfolio would need to be a minimum of £164,000 before you need to be concerned about paying any tax.

So where the average Cash ISA is around 1.15% your portfolio will need to be around £1,000,000 before you would even pay 1p of capital gains tax.

ISA’s benefit the wealthy.

If your portfolio is around £500,000 with a mix of bonds and shares giving a return of around 5% simply sell just below the limit of £12,300 and ring fence it into an ISA, wash and repeat each year so your profits never need to be taxed.

So we have the majority of people obediently putting their money in ISA’s in the belief they are being prudent when it’s of little benefit them. It benefits the financial sector that has a whole industry blooming for ISA’s, that’s lots of management fees and commission charges being paid unnecessarily. The vast majority would be better off investing elsewhere. A Pension plan perhaps?

"Fortis Fortuna Adiuvat "

Fortune favours the Brave

More accurately it favours the rich. The system is geared to reward those who already have wealth. And yet the Latin saying bears a lot of truth. Those who dare to venture into the unknown the road less travelled by the masses are more likely to experience pleasant journeys.

This is where the old stock broker used to come in to be replaced by the wealth manager. I have seen wealth managers whose sole purpose is to bring assets under management and to hell with the returns. Stock Brokers whose experience of trading the markets woeful. Those who are decent will not get out of bed unless your portfolio is £500,000 plus and even then the returns have been negligible.

Have you ever been bombarded with advertisements from a certain Fishy Investment Firm ? A great firm for marketing and public talks and has massive funds under management. Apart from some institutional investors pulling their funds out over some sexist and racist comments by their founder it is difficult to find out what actual returns they have generated for their clients over the past few decades.

There are successful fund managers that is for certain. Fundsmith springs to mind.

Yet in proprietary trading a consistent trader blows these funds returns out of the water. The major different is that proprietary traders or "Locals" as they used to be called, are trading with far smaller sizes compared to funds. Sure there are some exceptions the Charlie D's or Paul Rotters of this world.

When I was at a prop firm in the City there were to regular Jewish guys who were trading 100 lots a tick ( 100 Euros) they made 10 ticks each day each some times more. Another colleague managed to flip his £5,000 up to £950,000 over a three year period. But making 5 - 10 % a day is very much achievable. The key here with these guys and gal's is that their trading account size was at such a level that 5 - 10% a day represented a significant nominal amount.

Therefore trading with a £1,000 and making £100.00 while 10% is a fantastic return in a day or week even it's just enough to but a decent meal out for two.

Trading with a small account:

At £10,000 still not too great. When trading with small size the temptation is to continue trading until you get a decent nominative amount on the day. This exposes one to more risk and increased risk exposes a trader to losses.

Therefore trading with a £100,000 size account and getting 2% which is very,very easy to do and gets a trader a decent return both as a percentage and nominative amount.

Now, if you apply the rule of 72 but instead of years one is talking weeks things start to get very interesting. Getting a 2% return each day means it takes about two months to double your money. When you scale up your size this return doubles on the nominal amount but the percentage amount remains the same.

So to sum up: A LESSON IN RISK

From the Chicago Percentile Exchange