A common mantra at the start of investment presentations is "There is a lot of uncertainty in the coming year" or "We expect volatility in the near future". Stating the obvious shouldn't earn you brownie points, says Hannes Viljoen.
A common mantra at the start of investment presentations is "There is a lot of uncertainty in the coming year" or "We expect volatility in the near future" - an insight, unfortunately, many investors will nod their head to in agreement.
While I do not believe the tidbit of knowledge is false, I do believe that stating the obvious shouldn’t earn you any brownie points or provide the prospective or current investor with comfort around the firm’s investment process.
Mister Charles T Munger popularised a tool we can use to evaluate the pearls of wisdom stated above. "Invert, always invert", a maxim from the mathematician Carl Jacobi, is a way to look at problems or, in this case, statements by turning the aphorism on its head and approaching it from the opposite angle.
Let’s suppose the first words from a presentation that you enter are as follows: "There is a great deal of certainty in the markets this current year. As a matter of fact, we do not believe that there will be much volatility at all."
Will you be skeptical?
The answer is, surprisingly: it depends.
There is a correlation, although not perfect, between the certainty of returns and the extent of returns you can expect. The volatility of returns from the cash or money market is relatively low, but, what you gain in certainty, you give up in returns. Cash returns, especially after fees and taxes, will rarely be more than inflation.
Returns in the bond market are a little less certain, especially if you are referring to the year 2022 and international bond markets, but the probability of earning a return in excess of cash and inflation increases as you give up more certainty.
And then there are equities, uncertainty aplenty. An Alexander Forbes Investments study showed that over a recent 60-year period, the JSE All Share Index had a minimum return over any one-year period of -52% and a maximum return over any one-year period of 112%. This funnel narrows to a minimum return over any 20-year period of 5% (annually compounded return), positive, to 13% (also annually compounded).
The interesting thing is that over any 10-year, 15-year or 20-year period, the average return is 9%. Did I mention that these returns are real, i.e., after inflation.
Referencing the S&P500 (JP Morgan Guide to the markets), the highest one-year return from 1950 to 2022 is 47% and the lowest -39%. This funnel also narrows dramatically to a 20-year period where the minimum, again annually compounded return, 6% and the maximum 17% (please note these returns are nominal, not real).
Author Morgan Housel noted:
The future is inherently uncertain; it is a given, just like death and taxes, and should not be seen as a revelation or insight into an investment process. We are all making decisions, on a daily basis, about the future where there is per definition, uncertainty.
What is inherently interesting in the investment industry is that the amount of uncertainty might actually dissipate, with the one thing we can be certain of - the passage of time.
Hannes Viljoen, CFA, CFP®, is the CEO and head of investments at Kudala Wealth. News24 encourages freedom of speech and the expression of diverse views. The views of columnists published on News24 are therefore their own and do not necessarily represent the views of News24.