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Market volatility

Looking through the mist of market fear

John Hewison
Founder and Director
18 Dec 2011

The market volatility over the past 12 months or so has been a nightmare for investors – and not to flash for advisers either! We have seen maintains of cash accumulate in bank accounts and violent fluctuations in share prices in almost total defiance of fundamental performance values.

As usual, at times of market turmoil, we have the ‘new world’ predictions that the historically proven fundamentals of investment valuation and performance have all changed and we have entered a new paradigm. Well no they haven’t and no we haven’t!

We are hearing “Long term buys and hold doesn’t work anymore!” Well buy and hold without portfolio rebalancing had never worked, but by the same token quality assets will always recover their value – so long term investing is alive and well.

We have had notions that the European Economic Union is going to collapse, the European banks are going to collapse and contagion will spread around the globe. Well no its not and no its not! The EEU and its members (apart from the UK) has made it abundantly clear via several initiatives that they committed to the EEU, they are committed to the Euro and they are committed to doing whatever it takes to fix the systemic fiscal problems in the region – but it is going to take a long time and knee jerk market reactions to rumours and innuendo on a daily basis is just absurd.

How the short sellers and hedge fund managers must be loving all this scrumptious volatility; or perhaps one could ask how much influence they are having on the markets themselves?

In any event, what does this mean for investors and how should the react? Should they sell out and invest in cash? Well I a falling interest rate environment with yields only barely beyond inflation why not just dig a hole in the back yard and bury it?

So let’s get back to basics of investment valuation101. Real estate is valued on a combination of capitalisation of rent and growth prospects based on location, improvement etc. So if the real estate market has short term slump in value do you run out and sell your residence? I don’t think so. Shares are primarily valued on the ratio of profit to the share value – price to earnings ratio or PE. All companies are valued this way, both private and publicly listed. Of course there can be other influences but let’s stick to the basics. So with many top quality Australian “blue chip” companies trading at historically low PE ratios and generating extraordinary dividend yields, why would investors not jump at the chance to bolster their income and wait for the gains to be made from market recovery – Oh yes the markets will recover, it’s just a matter of when.

The answer to these mysteries is simply fear! Fear of the unknown. Fear of the sensationist press! Fear of the losing their money…? Is BHP, RIO, CBA etc. etc. going to go broke? I don’t think so! Is your prime real estate going to become worthless overnight? I don’t think so! 

Investors need to stick to the fundamental basics of investment evaluation, stick to the principles and disciplines of portfolio rebalancing, ignore the illogical preachers of doom and reap the rewards – income in the short term and capital gain in the long term.

Hewison Private Wealth is a Melbourne based independent financial planning firm. Our financial advisers are highly qualified wealth managers and specialise in self managed super funds (SMSF), financial planning, retirement planning advice and investment portfolio management. If you would like to speak to a financial adviser on how you can secure your financial future please contact us 03 8548 4800, email info@hewison.com.au or visit www.hewison.com.auPlease note: The advice provided above is general information only and individuals should seek specialised advice from a qualified financial advisor. The views in this blog are those of the individual and may not represent the general opinion of the firm. Please contact Hewison Private Wealth for more information.