© iStockphoto.com/Lee Torrens

When hot tips go cold

THE local newsagent is an often valuable resource when it comes to getting a reading on the mood of investors.

At the moment – with due regard to it being the height of summer– it is all about the hot tip. Hot tips in everything from undiscovered and unknown shares to the $1 million you can easily make on property.

It is easy to dismiss the magazine and newspaper headlines as investment titillation in a competitive and commercial publishing world but they are both a barometer – the journalists and editors are responding to latest trends - and an influence on investor psychology.

In January the Australian sharemarket followed the lead from other major markets and fell back more than 6%. Concerns about the euro-zone countries now being linked under the unflattering acronym Piigs (standing for Portgual, Italy, Ireland, Greece and Spain) and their ability to meet debt obligations sent tremors through the markets and the topic of the day turned from hot stock tips to the risk of double dip recession in a few short days.

What the first six weeks of 2010 has reminded us of so far is that just because the Australian sharemarket rose 37% in 2009 there is no guarantee that will continue this year. It is also timely to remember that the Global Financial Crisis was a dramatic and significant shock to the global economy. It will take time – years potentially – before the global economy can be said to have fully recovered.

So aftershocks and progress that stalls and stutters along the way are all to be expected. The problem – perhaps eternal challenge – for investors is that these types of shocks are virtually impossible to predict with any real level of confidence.

As investors we crave certainty and confidence. Investors, fund managers, financial advisers and even politicians were mightily relieved and pleased at the market recovery through last year. But a worrying byproduct of that strong rebound may be a return to the overconfidence in our ability to pick winners.

As investors we are wired to take what is happening today and project it forward – it is the reason past performance is such a powerful influence despite all the disclaimers to the contrary.

But if you looked back over the past 20 years and gave each asset class a different color what would it look like? The answer is a crazy patchwork quilt of color that would rival the most abstract of art (see it here).

Ranking asset classes in this way shows just how random a walk investing can be over time. The performance of Australian bonds perhaps best illustrates the point. If you look back to 1990 Australian bonds was the number one performer out of eight different asset classes with a return for the year of 19.1%. Australian shares were in last place.

In 2006 as the economic boom was in full flight bonds were last out of an expanded list of 11 different investment sectors. By the end of 2008 Australian bonds were back in top spot before sliding back down the performance scale to end 2009 in second last spot.

In 2009 emerging markets were the best performer for investors but cast your mind back to the epicentre of the global financial crisis in 2008 and ask yourself was that what you would have predicted?

For investors it is a matter of knowing what is within your control and what is uncontrollable. Unlike one-year performance numbers, diversifying your investments across a sensible range of asset classes is firmly within every investor's control.

For more information visit Vanguard Investments.



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