FOUR LESSONS FROM THE MARKET
MESSAGE TO INVESTORS FROM MR. MOHAMMAD SHOAIB, CFA, CHIEF EXECUTIVE OF AL MEEZAN INVESTMENTS
MOHAMMAD SHOAIB, CFA, Chief Executive, Al Meezan Investments
Feb 09 - 15, 2009
Since opening up of the Pakistan stock markets to foreign investors in 1991, investors have weathered a variety of conditions - from volatility to stability, then recovery and volatility again leading to market crashes, followed by volatility, stability and recovery again. These changes have left many people wondering what the best way is to approach their investments. Here is my advice to the investors:
Many people may be tempted to move their money out of the share market during times of volatility or weakness. But it's important to remember that markets move in cycles. Peaks and troughs are an intrinsic part of investing. While the timing of the cycle is unpredictable, history has shown us that recoveries always follow downturns, and vice versa. If you move out of the market, then you won't be there for the recovery, which can sometimes arrive unexpectedly and take off quickly. We have experienced this many times during last 18 years. After the emerging market boom of 1994, we saw high volatility and market crash in 1998. The market however recovered over next 18 months. The decline in 2001 was followed by another recovery period and we saw market providing healthy returns for next four years. The crash of 2005 was also followed by a sharp recovery which took the market to its all time high in early 2008. And now we are again in midst of a sharp downfall which is likely to again lead to another bull run over a medium term horizon. Throughout any market cycle, those people who hold their nerve, who remain focused on their long term goals and resist making snap decisions, are likely to be the winners.
LESSON 1: MARKETS MOVE IN CYCLES
Investment markets move in cycles, and it is impossible to predict when a market will rise or fall. However, by looking at the past we can observe how markets usually perform, and that can help us in the future to put market movements in perspective.
MARKETS ALWAYS RECOVER
One thing we know from looking at the long-term performance of the share market is that, despite short-term volatility, the market always recovers.
After the crash of 1994, 1998, 2001 and 2005, the share market eventually recovered, although at times it did take a few years to recover. The good news is that in the recent past, the recovery period has been shorter, typically less than 12 to 18 months.
Speculative investment bubbles have been around for as long as markets themselves, pushing the prices up, normally in the short term. A bubble occurs when Message to Investors from Mr. Mohammad Shoaib, CFA, Chief Executive of Al Meezan Investments investors come to believe that the investment environment has changed in some unique way, and that prices will NEVER go down. Remember markets are unpredictable - those investing for a 'quick win' at the height of the euphoria paid a premium for their assets and would not have foreseen the crashes that followed.
LESSON 2: DIVERSIFICATION REDUCES RISK
It is impossible to predict market movements accurately. Attempting to do so is little more than speculation. However, you can reduce the impact of market movements by diversifying your portfolio.
A diversified portfolio is spread across a number of different asset types. Diversifying prevents the value of your portfolio from being dependent on the performance of a single asset type. A fall in the value of one investment may be offset by gains in the value of another.
Mutual funds provide an easy route to diversification. Through a single mutual fund it's possible to diversify across companies, industries and sectors. For diversifying across asset classes, one should invest in equity, debt, real estate and commodity mutual funds.
Keep in mind that the asset classes with the greatest positive returns are also the ones with the larger negative returns. Hence funds focusing on equity investments will record the greatest positive returns. However, the same funds will also record most negative returns over some time periods. Empirical evidence however, confirms that over long time horizons of 10 or more years, equity investments provide the highest returns.
LESSON 3: 'TIME-IN' NOT 'TIMING'
Patience is its own reward. But patience also rewards investors. Most of the long-term gains on equity markets are made or lost in just a few trading days each year. Take away those 'big' days and returns are more like what you would expect from a defensive investment. Investors who lose patience and get out of the market run the risk of being absent when significant gains are made.
Markets are unpredictable, so picking those 'big' days is impossible. Staying invested means you capture the full benefits of the share market. Your returns might be down one month or even one year, but by withdrawing from the market you run the risk of missing out on the recovery.
WHO SHOULD TAKE ADVANTAGE OF SHARES?
Generally investors with a long time horizon, who do not need to access their money for 5 years or more, can afford to take on more risk because they have more time to ride out the fluctuations on the market. However, if you intend to be in the market for less than 5 years, you might consider focusing on the less volatile asset classes such as income and money market funds.
LESSON 4: START EARLY, SAVE REGULARLY
You don't need a lot of money to begin investing. By making small regular contributions over time, you might be surprised by how quickly your investments accumulate.
And investing the same rupee amount at regular intervals can help smooth out the ups and downs of markets. Investing this way means you purchase more shares or units when prices are low and fewer when prices are high. It's important to start saving as soon as you can. The longer your money is invested the more you can take advantage of compounding of returns.
LET US RECAP:
Lesson 1: Markets move in cycles. They go down, but history has shown us that they always recover. (Similarly, markets that rise excessively will eventually come crashing down, so beware of buying into investment bubbles.) The best approach is to accept market volatility, stick to your strategy and don't panic. By withdrawing from the market you could be robbing yourself of the most valuable gains.
Lesson 2: Diversification reduces risk. Because it's impossible to predict market movements, one way to manage market risk is to maintain a diversified portfolio. Spreading your investments across a range of carefully diversified assets, will minimize the risk and smooth yo ur returns. Your financial planner can help you learn about funds that will help to diversify your portfolio.
Lesson 3: 'Time-in' not 'timing'. Be patient, especially if you are investing for the long term. When things look bleak it's important to keep your goals in focus. Getting out of the market could mean you miss the rebound and the returns that go with them.
Lesson 4: Start early, save regularly. The sooner you start investing and the more often you do it, the better. Setting up a regular savings plan takes the guess work out of trying to find the right time to make an investment. Starting now will give your money time to grow through the power of compounding. Of course, every investor has a different set of circumstances and objectives. If you are wondering how to best apply these lessons to your situation, please feel free to contact us at 0800-HALAL (42525) and we will be more than happy to advise you on how to structure your portfolio to achieve your specific investment objectives.