“The median Australian share fund returned an annualised 25.8 per cent during the past three years, before fees, compared with the 25.4 per cent gains recorded by the S&P/ASX 300 index,” reports Jonathan Barrett in today’s AFR.
You mean you could have generated annual gains of around 25% by buying your ho-hum Aussie share fund and going along for the ride? Or better yet, buying a passive, index-tracking fund and then taking the rest of the day off to go fishing, watch cricket, or enjoy the surf?
This is what investing ought to be like, spiritually speaking. You buy something. You forget about it. While you’re away, it goes up. You look at your quarterly performance statement. Smile. Go fishing.
Who needs alpha-above market returns, when the beta-market returns, are so good? The question occurred to us when we read in a few places that Australian investors might want to consider diversifying their share portfolios to take advantage of faster-growing asset markets. Faster than 25%?
It’s a fair point, though. A great deal of your risk in the local share market is concentrated in resource and financial stocks. Could you reduce that risk by re-allocating some of your assets in foreign equities? Well in theory, yes.
In theory, there exist mythical other markets whose returns are not correlated to Australian returns. Take, hypothetically, Bangladesh. If you could be sure that every time Australian stocks went down, Bangladeshi bonds went up (for some mysterious inter-market reason), well then you’d always want to own Bangladeshi bonds, just in case. It would be a way to hedge the risk in the rest of your portfolio from owning so many true-blue Aussie shares.
The trouble is, that theory has lately been worth a big fat pile of nothing. Jonathan Kay makes the point in today’s Australian in an article titled, “Expect the unexpected with risk models that can’t anticipate the future.” “Models are only as good as the correspondence between the model and the world,” Kay writes.
In today’s world, flush with money, all assets have gone up. There aren’t any obvious negative correlations. So who’s to say you’re better off owning more foreign stocks than Aussie stocks? Don’t you own a bit of China when you own a bit of BHP? After all, China is one of BHP’s customers. Why bother going to buy stocks in Shanghai when you can “buy” China with BHP?
Going to Shanghai to seek alpha, you import a higher probability for volatility, disaster, and heart attack on your balance sheet. None of those seem like they’re worth a return that’s marginally greater than 25% per year. Of course, if you could make 125%, 225%, or 525% for the extra risk, it might be worth it. Especially if you really needed the money.
The Daily Reckoning Australia