Why we use past per­for­mance and time the mar­ket

Just do it in­tel­li­gently

Finweek English Edition - - Property Compass -

TWO OLD PIECES of in­vest­ment ad­vice are re­ferred to so of­ten they have vir­tu­ally be­come mar­ket lore. Roughly, they are: “Past per­for­mance is no in­di­ca­tion of fu­ture per­for­mance” and “You can’t, and shouldn’t, try to time mar­kets”.

At a ba­sic level both are ex­tremely good ad­vice, par­tic­u­larly when aimed at in­vestors fired up by greed or mak­ing ir­ra­tional de­ci­sions through fear. But as any ex­pe­ri­enced in­vestor will know, both past per­for­mance and mar­ket tim­ing are part of just about any in­vest­ment de­ci­sion – even if the in­vestor isn’t fully aware of it.

Past per­for­mance is of­ten all we have to go on. Analysing a com­pany’s fi­nan­cial state­ments is fine, but when you want to form a view on how it will per­form in the fu­ture un­der cer­tain con­di­tions, what do you do? Look at how it per­formed un­der sim­i­lar con­di­tions in the past. It’s not fool­proof but is of­ten the most re­li­able in­di­ca­tor we have.

The same with a unit trust fund. In­vestors know not to chase the top per­former over a short pe­riod. But if you look at longer-term per­for­mance ta­bles, the funds that con­sis­tently come through in the top quar­tile are likely to be the ones that will con­tinue to do so. Also not fool­proof but of­ten the most use­ful in­for­ma­tion we have.

Then there’s mar­ket tim­ing. We all do it – not silly at­tempts at try­ing to call the ab­so­lute bot­tom or the top of the mar­ket but mak­ing ed­u­cated guesses about where a share is in its par­tic­u­lar cy­cle.

Take re­sources shares. In­vestors have to make a de­ci­sion on where the mar­ket is – mar­ket tim­ing, in other words. You aren’t go­ing to buy gold mines when the gold price has re­cently hit record highs and is now fall­ing sharply. But when the gold price has been low for a long time and there are in­di­ca­tions it’s go­ing to im­prove, you’ll prob­a­bly then buy the mines. Mar­ket tim­ing.

The ad­vice on past per­for­mance and mar­ket tim­ing re­mains good. But at times in­vestors will bend it. It’s best to be aware that will hap­pen and try to keep in­vest­ment de­ci­sions as in­formed and un­emo­tional as pos­si­ble.

With that in mind I was in­ter­ested to read the views of Peter Eerd­mans on emerg­ing mar­kets and his con­clu­sion they could be close to the “bot­tom”. Eerd­mans is head of emerg­ing mar­ket debt at In­vestec As­set Man­age­ment. How did he reach that con­clu­sion? By draw­ing par­al­lels with his­tory – past per­for­mance.

Eerd­mans makes some im­por­tant points. Mar­kets bot­tom by, say, six to 12 months be­fore the real econ­omy does. And they will start to price in re­cov­ery long be­fore the econ­omy starts pick­ing up. Though not al­ways su­per ef­fi­cient, mar­kets are there­fore good fore­cast­ers of the econ­omy. And that in­vites in­tel­li­gent mar­ket tim­ing.

But it’s past per­for­mance that Eerd­mans is us­ing. He looks at the Asian cri­sis in 1997 and the Rus­sian de­fault cri­sis in 1998. Dur­ing the Asian cri­sis the key JPMor­gan emerg­ing mar­ket cur­rency in­dex lost 18% over the sec­ond half of 1997. In the cri­sis we’re cur­rently in it has lost 19% over the past three and a half months.

In the Rus­sian cri­sis, JPMor­gan’s emerg­ing mar­ket dol­lar bond in­dex lost 32% over a six-month pe­riod. Eerd­mans notes the bulk of the sell-off was in the last month of that pe­riod. Cur­rently, the in­dex has lost 30% – with the bulk of the move in Oc­to­ber.

“The above num­bers sug­gest we could be very close to the bot­tom. The moves are of sim­i­lar mag­ni­tude and sim­i­lar size,” he says. But Eerd­mans cau­tions “things are never ex­actly the same”. Two im­por­tant dif­fer­ences are that the G7 de­vel­oped coun­tries are head­ing for, or are in, re­ces­sion, whereas they were in bet­ter shape dur­ing the 1997 and 1998 crises.

But then again, he notes emerg­ing mar­kets are much stronger now than 10 years ago, with for­eign ex­change re­serves, cur­rent ac­counts and re­liance on ex­ter­nal flows scor­ing bet­ter on av­er­age.

His ad­vice is not to be too bear­ish now, re­mem­ber­ing that mar­kets don’t wait for the bot­tom in eco­nomic ac­tiv­ity but start pric­ing in the up­turn be­fore it ac­tu­ally hap­pens.

SHAUN HAR­RIS shaunh@fin­week.co.za Mar­kets bot­tom be­fore econ­omy does. Peter Eerd­mans

Newspapers in English

Newspapers from South Africa

© PressReader. All rights reserved.