It is a curious phenomenon of the human condition that we so often focus on effects rather than causes and we sometimes struggle with the idea that correlation does not imply causation. As I sit typing these words can I be confident in the fact that my computer is the world’s best tiger repellent, simply because I’ve not seen any tigers in the office today? Of course not and this is going to be the focus of this article– things aren’t always as they seem, some of the reasons given are nothing short of crazy and you should look beyond the headlines.
The nature of listed businesses and the motivations and influence of the major players are often not just poorly understood, but often viewed through a bizarre conspiratorial lens. There are a wide variety of examples here ranging from the plausible to the ridiculous, but they are all baseless and indeed act only to obscure the truth. Just like my tiger repelling laptop computer, I hear that an alliance of bankers colluded to engineer the credit crisis in an effort to destabilize the balance of power and bring about a new world order! Of course they did, that’s why their share prices rose so dramatically during the crises!
In an environment of misinformation and rampant rumour and speculation, what hope does your average investor have of ever achieving reasonable and consistent returns? With such a wide array of competing and often contradictory investment philosophies and methodologies is it any wonder that novice investors often find the share market a bewildering place?
If you understand one thing about investing on the share market, understand this: investing is essentially making a bet on the future and it is impossible to predict the future with absolute certainty. Of course there are expectations that are extremely likely to be validated, such as that the Government will honour its bond obligations, and there are those that are far less likely, such as a speculative biotech company finding the cure to cancer. But the point to note is that there are never any guarantees.
This leads to another fundamental rule of investing: there is a distinct and unyielding relationship between risk and return. Every investor should understand that a compromise must be made – either take low risk investments that won’t return much but will be very reliable, or invest in high risk assets that could provide excellent returns, but could also lead to significant loss. Of course there is any number of intermediaries between these end points.
So if you think that you have a low risk method of making very high returns on the share market in a very short space of time you are kidding yourself. Not that it is impossible, even pure random movements will see some investors do better than others because of luck alone. The point is that achieving very high returns in a short period of time on a consistent basis is an extremely low probability event. That isn’t an argument against speculative short term trading, it is just a warning not to expect consistently massive returns without accepting any risk. In other words, be realistic.
At the risk of sounding trite, the share market is in essence the same as any other market. Merely a meeting place where those who want to buy can trade with those who are looking to sell. Buyers and sellers place their bids and offers in a transparent environment and trades occur only when both parties agree on price.
Every day tens of thousands of different investors place orders based on their own unique set of circumstances and their own particular outlook based on what is known at that point in time. But we are fickle animals and opinion can change quickly and dramatically in response to unforeseen events. Consider the recent financial turmoil in Dubai or the credit rating downgrade of Greece. The news of these events acted to alter the mass psychology of the market in an instant, and no amount of rigorous analysis would have provided any practical foresight for investors.
You may well have identified the best company on the market, but an unforeseeable political disaster on the other side of the planet could see global markets plunge, and even though the company in question may have no direct exposure, its share price could well suffer significantly in the short term. There is any number of scenarios that could act to change the investment landscape for better or for worse, and no chart or balance sheet will ever provide any clue as to what may happen, or more importantly, when it will happen.
I say all of this not to discourage people from investing in the share market; after all it does deliver the best long term returns. Rather, my aim is to discourage people from acting on half baked investment strategies and focusing only on ticker symbols and price fluctuations. Just because XYZ Company’s share price rose 5% yesterday does not mean it’s a screaming buy today. Would I strap on my laptop, cover myself in steak and head out to the Bengali forest on the basis of my previous tiger encounters? Investors with this mind set tend to treat the market as nothing more than a casino, and unfortunately when it comes to gambling the house always wins.
The good news is that if you can manage to ignore all the mumbo jumbo and instead remind yourself that behind all the charts and numbers there is ultimately a business enterprise, which you can acquire a part ownership in, everything becomes much simpler. Understand that while prices may fluctuate all over the place in the short term, over time those business that exhibit an attractive financial performance will ultimately see their value and dividends appreciate.
If you want to build real wealth it takes discipline and time, and without a huge amount of luck, there really aren’t any short cuts. If you would like to learn more about how to invest sensibly and safely on the share market, check out the DividendKey course (www.dividendkey.com). There are no grand promises or gimmicks, just a conservative and time proven method for building wealth over time. It will be one of the best investments you ever make.
Happy Christmas and a prosperous new year.