All posts by Graham Bodel

If an investment sounds too good to be true, check these four things

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We recommend that investors follow an “evidence-based approach” with their investments.  What does the evidence tell us?  Investors should maintain globally diversified portfolios, keep costs low and select a mix of risky and safe investments that is suitable for their risk tolerance and financial goals.

Once a sensible portfolio is in place, holding on through the roller coaster ride of the market’s ups and downs is key to having a positive long-term investment experience.  One of the biggest reasons investors underperform market benchmarks or even the funds in which they invest is their inability to control the emotional urges which can easily lead to bad investment decisions which knock them off course.

Too good to be true

One temptation to which we often see investors succumbing is the “too good to be true” investment product pitch.  For example, many investments are sold as “equity-like returns with bond-like safety.” Upon closer examination a better explanation for such products is often “equity-like or higher risk with very uncertain returns.”

There are four key criteria that you can use to assess every investment opportunity that comes across your path:

  1. Expected Return
  2. Costs and Fees 
  3. Risks
  4. Liquidity (how quickly you can get your money back when you want it)

The only reason we invest is to earn a rate of return.  The rate of return compensates us for letting someone else have use of our capital rather than just leaving it in a high-interest savings account in the bank.  What type of return is reasonable?  Well, you shouldn’t be surprised to hear that the answer is “it depends!” And what it depends on is the other three criteria: the more risk, the higher the costs and fees and the more locked-up your money is, the higher rate of return you should expect. Continue Reading…

“So what do you make of bitcoin?” – question from a curious investor

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Bitcoin, blockchain, initial token offerings  … yikes!  As financial headlines dedicate an increasing amount of coverage to this relatively new area, it’s left many investors scratching their heads.  What is bitcoin?  Do I need to know about this?  Am I missing out on an opportunity?   Below we present a question and answer that we hope investors might find helpful.

From a curious investor: 

So what do you make of bitcoin?  I am interested in your views on it as both an ‘investment’ and as a game changer.  Much to my annoyance, although I believe the world banks are inflating the money supply and the price of hard assets, this has not shown up in the price of gold.

I do not understand it at all. A friend of a friend has become a millionaire and yes he sold enough to make it real money …

Our response

While we’re by no means experts, we’ve thought about this and where we’re at with bitcoin is that while it may be a game changer, we wouldn’t invest in it as an asset in its own right.

Let me back up a bit.

The underlying technology that allows for the creation of bitcoin and other crypto-currencies , blockchain, is complex but the concept is not complex.  Essentially, rather than having a centralized system such as an accounting system or bank where the data is all held and processed centrally, blockchain allows for the data and processing to be decentralized.

They refer to it as distributed ledger technology.   It’s out there on the web, accessible to anyone but encrypted and secure.  Digital or crypto-currencies are just a really interesting application of this blockchain distributed ledger technology.  Up until now, it’s really only been national central banks that have been able to issue currencies and lots of middlemen (banks, brokers, other lenders) have developed to help manage the system and they all take a little off the top to help keep the system running.  Digital currencies can be huge disrupters of this status quo, cutting out middlemen and removing the central banks from the process entirely (maybe).

Bitcoin just happens to be the leading crypto-currency at this point.  There are lots of other ones as well as what’s referred to as crypto-tokens which not only serve as a medium of exchange but also have some other utility attached to them like they allow you to buy something or to receive a service (loyalty programs are a bit like this).  It’s still very early days in terms of any of these being a reliable medium of exchange.  For example for bitcoin the average transaction settlement time is around 45 minutes and often can be days.  Imagine being at the grocery store and wanting to pay with bitcoin from your digital wallet and you have to stand there for 6 hours before the grocer gets confirmation that you have sufficient bitcoin and can transfer it to the grocer’s digital wallet.  Your ice cream would have melted by then.  People also want a medium of exchange to be stable.  Bitcoin and other crypto currencies are wildly volatile.

Blockchain is a game changer

That said, I do believe the people that say blockchain and the application of it to crypto-currencies is a game changer.   I don’t know where it ends up or even if bitcoin will remain as the main crypto-currency but this could be a massive change.  Continue Reading…

Response to an investor who frets “the markets are going to crash”

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With recent market volatility, many investors have been voicing legitimate concerns about the future direction of markets and what they might do about it.  What direction are we headed for the remainder of the year?  How can we avoid the crash?  Below we present a question and answer that we hope investors might find helpful.

From a concerned investor with impressively good timing (question received January 8 of this year):

Looking at the investment and political scene now – Trump, NAFTA, Dow at record highs, bull market into it’s 8th year, Iran protests — we think the chance of a significant pull-back on the stock market is imminent.

We are beginning to feel, with what’s going on today, that a major pull back could be on the books: like 2008.

What do you think?

Our response:

Dear concerned investor,

To begin with, you are not the only ones expressing those concerns to us. It does seem the market has been on a strong trajectory for quite some time although we usually recommend investors not worry about the market hitting an “all time high” despite how often it’s cited as a signal of sorts by the financial media/analyst community.

The market is always hitting all time highs (Graham wrote this piece on the topic recently that we’d recommend reading: “I’m nearing retirement and the stock market is at an all-time high….what should I do? It is relevant for this discussion generally). We have also noticed an uptick in the volume of negative market commentary.

Doom and gloom reporting became an industry in itself after the last market downturn! This commentary did seem to become more fervent beginning about a year ago (with the US election maybe?) although with hindsight of course it would have been unfortunate to divest at that point or at several other points during the year when news flow seemed particularly grim.

As you know, stock markets are volatile: sometimes that volatility is coincident with changes to the surrounding political and economic environment, sometimes the market anticipates those changes and sometimes it lags. Without the risk of volatility and downturn and uncertainty generally, markets would not deliver the strong long-term returns we seek as investors.

Success comes from riding out volatility, not timing it

In fact, evidence would suggest that investment success is driven more by riding out volatility than by trying to time it. The data on mutual fund returns and money flows shows very clearly that investors actually earn returns significantly lower than the funds they invest in due to poor timing decisions. When markets turn down, investors tend to pull money out. Investors also tend to pile in during times of market euphoria. I think we’re just not hard-wired psychologically to deal with market volatility. The “fight or flight” instinct doesn’t serve us well in this case. The evidence does not support market timing as a successful investment strategy. Continue Reading…

What if I sold in May and went away?

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At the end of April we wrote a piece looking at some new research on the calendar effect and popular heuristic known as Sell in May and go away.

While there is some evidence that this particular anomaly does exist and has persisted over certain periods of time, there is not really a good theoretical foundation for why it happens.  Mining historical data often yields patterns but assuming that those patterns will repeat can lead to unfortunate investor strategies and behaviours.

It’s in our nature to love short-cuts

Investors just love short-cuts. In fact not just investors love them but people in general always use heuristics to help increase the efficiency of their decision-making.  If you step outside, feel a sudden cool breeze and look up and see a dark cloud in the vicinity you respond fairly quickly and sensibly by seeking shelter or at least grabbing an umbrella as you head out the door.  This ability to create short-cuts makes our lives so much easier and sometimes even keeps us safe.   We recognize patterns that we’ve seen before, assume they’re going to happen again and act almost automatically in response: it simply makes decision-making faster and less difficult. No need to analyze things in detail, just act.

The challenge is that the same heuristics that make decision-making easier and faster or keep us safe in many aspects of our lives can also produce behavioural biases that don’t help us as investors.  We love things like the “January effect” or “Sell in May and go away” because they’re easy and have sometimes worked in the past.  But putting them into practice doesn’t always work out the way we might imagine.

But short-cuts don’t always work with investing

This year is a good case study.  What if we had sold in May and stayed out of the market through until now?  To cut to the chase, you wouldn’t be happy!  A Canadian investor would have missed out on the following returns from May 1 until now (all in Canadian dollar terms – return data from S&P Indices Canada and exchange rates from Bank of Canada as at December 7, 2017):

S&P/TSX Composite Total Return Index: +4.6%

S&P 500 Net Total Return Index (in CAD): +4.7%

S&P Global ex-US Broad Market Net Total Return Index (in CAD): +4.8%

Continue Reading…

“I’m nearing Retirement and the stock market is at an all-time high. What should I do?”

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On October 19 Fortune published an article with the headline:

“30 Years after Black Monday, the Dow Hits an All-Time High”. 

The article goes on to speculate:

“only time will tell if we have another crash ahead of us. But in the meantime, investors seem to think that skepticism and caution may be just what we need to avoid one.”

Connecting the all-time high to the Black Monday crash from over 30 years ago smacks of the kind of fear-driven nonsense that characterizes much of financial markets journalism these days.  The article raises the temperature further by pointing out that:

“this marks the fourth thousand-point milestone for the Dow this year, painting a very different picture than what was seen in 1987.  According to the Wall Street Journal, the Dow had never before hit more than two of these milestones in a year.”

Transforming meaningless data points into blood-pressure-raising insights is a coveted skill for both market journalists and stock market analysts alike.  After all it’s their jobs to get people to act: stock analysts to compel trades, journalists to direct readers/viewers to the skilled money managers that advertise in their pages or on their programs.

I’d be a poor headline writer.  The first one I came up with, “Dow Hits an All-Time High more than 500 Times Since 1987 Crash” wouldn’t inspire much fear or anything else.  The fact is that markets go up most of the time as is clearly displayed in the index data series shown at the top of this blog,  courtesy of Dimensional Fund Advisors. Continue Reading…