When Ignorance Is Heroic

By Mary Holm

Monday 30th April 2001

There are two types of financial experts: Those who say they know what's going to happen, and those who say they don't. I like the latter.

If you take a look at the other articles in this website, chances are that you'll find someone being quoted on the outlook for the share market, the kiwi dollar or some other money-related number.

They might turn out to be right. But before you go acting on what they say - perhaps switching investments, or buying foreign currency for a future trip - realise that there's a pretty big chance they will be wrong.

In the last few months, two experts have come straight out and said as much.

One is BNZ economist Tony Alexander. "Is it realistic to base one's investment strategy upon currency forecasts made by economists, who have a very poor record of picking exchange rate moves over at least the past two years - if not the long term?", he asks in a recent newsletter.

He tells of "massive uncertainties" that affect exchange rates. "This is not to say that one cannot make what is at the time a perfectly realistic forecast. It's just that fresh factors appear all the time and can change the logic overnight."

Alexander then gives examples of bad forecasts his bank has made. For instance, "In February 2000 our pick was that at the end of 2000 (the New Zealand dollar) would be around US 59c. It actually finished at US 44c."

He adds that other economists have also made similar mistakes. But, to my knowledge, he's the only one coming right out and saying so. Good on him.

The other expert is Richard Flinn of ASB Bank Investments. "Everyone knows the biggest frequently asked question of all in investing is, 'What do you think the market is going to do in the next month? Or year?' Answer: We have not got the foggiest idea." he says in an article in Financial Alert.

Again, I salute him.

It's important to note, though, that Flinn says he is confident that, ten years from today, the share market will be "up from where it is today."

This, he says, is because "in the share market, inefficient businesses which misuse capital and do not generate adequate returns wither away, get sold off, de-list or are taken over etc.. Capital ends up being reallocated to good businesses."

In the short term, says Flinn, "the share market is a random walk. Speculators dominate. But in the long run, the market is remarkably accurate at calculating the true value of businesses. Investors dominate.

"As businesses grow over time, the market 'weighs' them accurately, and share prices rise."

He adds that if markets don't rise over the long term, "it will be the end of capitalism as we know it! Long-term share market investors, therefore, can reasonably expect an excellent return."

Flinn also says that "while there is arguably never a bad time to invest, the better time to invest is when markets are falling in value."

That's a message that apparently hasn't got through to many New Zealanders. In the first quarter of this year, our investments into managed funds dropped considerably.

Research company IPAC Securities blamed this on "negative international sharemarket performances during the December and March quarters." Share prices fell and many of us shied away.

Taking on board Flinn's first message - that nobody knows where the share markets will go over the next year - short-term investors are better to stay away.

But noting his second message, long-termers who are avoiding the markets now might well live to regret it.

Mary Holm, a freelance journalist and author of "Investing Made Simple", is commissioned by the New Zealand Stock Exchange to write an independent personal investment column. She can be reached by E-mail at maryh@journalist.com.

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