Fruits of temptation

Published in the Herald Sun, February 2015 by Karina Barrymore

When it comes to investing, principles have a price.

Investors are increasingly turning to long-term strategies to help steady their nerves in a period of ongoing market volatility.

However, a new report finds some of our assumed safe havens and strategies may not be the best bet.

Research by investment bank Credit Suisse raises doubts about the fast pace of “new” industries compared with steadier returns of old technology.

It also found so-called “sin” stocks have outperformed the more ethical alternatives.

"Principles have a price," Credit Suisse says.

The bank’s 2015 Global Investment Returns Year Book gives a round-up of investment performances over the very long term, with Australia’s sharemarket the second best in the world during the past century.

Australian shares produced annual returns of 7.3 per cent over the 115 years from 1900 and 2014 — just behind South Africa’s 7.4 per cent.

New vs old

The report, which is cowritten with the London Business School, focused this year on industry weightings within investment portfolios, specifically old industries versus new industries such as electronics and technology.

And it found the lure of the latest and greatest may just be a case of overexcitement.

According to London Business School finance professor Paul Marsh, new industries are typically born in waves of initial public offerings, “which, as a group, have underperformed”.

“Stock returns tend to be higher for seasoned stocks, with older companies outperforming new ones," Professor Marsh says.

This is usually because of a surge of overvaluation for new growth industries and corresponding periods of undervaluation for older existing industries, he says.

However, adopting a “rotation” strategy can make the most of this trend.

“Buying last year’s bestperforming industries, while shorting the worst-performing industries would, since 1900, have given an annualised (winner minus loser) premium of 6.1 per cent in the US and 5.3 per cent in the UK,” Prof
Marsh says.


Credit Suisse also found many countries have a heavy concentration of just a few industries — Australia, for example, is dominated by mining and finance stocks.

To get the best long-term returns, investors need exposure to a wide range of industries, the report found, usually by investing outside their home country.

However, Dale Gillham, chief analyst at Australian fund manager Wealth Within, says too much diversification can be unhelpful.

“Australia is a concentrated market, as are many other markets around the world, however, we need to be careful not to take this out of perspective,’’ Mr Gillham says.

“Investors simply want good returns and for their money to be safe. The Year Book shows the Australian market is the second best performing in the world.

“Why would anyone move money to a market where returns are decreased — especially when concentration risk can be easily managed with a little know-how."

Ethics and profit

Ethical and responsible investing has surged around the world, often on the basis that filtering out so-called “sin” stocks provides stronger returns because of the reduced risk associated with more ethical investments.

“Investors are increasingly concerned about social, environmental and ethical issues and asset managers are under pressure to be responsible investors," the Credit Suisse report says.

“However, principles can have a price.”

The two best performing industries since 1900 have been tobacco in the US and alcohol in the UK, the authors said. The researchers also reviewed the long-term performance of “sin stocks” by country and found “better returns from the most corrupt countries”.

“Ironically, responsible investors may be partly responsible for the higher returns from sin,’’ co-author Elroy Dimson says.

“If a large enough proportion of investors avoid sin businesses, their share prices will be depressed, thereby offering the prospect of elevated returns for those less troubled by ethical considerations.”

In Australia, however, responsible investing has a good track record, according to the local sector.

“We completely disagree with the Credit Suisse conclusions,” says David Macri, chief investment officer at fund manager Australian Ethical.

“Our own performance during the GFC was astounding; outperforming the broader Australian equity market by a whopping 20 per cent.

“Our flagship Australian share fund, which has been established for 20 years, has consistently outperformed both the [Australian share] market and mainstream fund managers, ranking first in many time periods but also ranking in the top quartile over all periods.”

According to the Responsible Investment Association of Australasia, Australians had more than $153 billion invested in broad ethical and responsible funds last year — a rise of 13 per cent on the previous year.

The association also says its 2014 benchmark report found responsible investing funds had outperformed the ASX 300 index during the past one, three, five and 10-year periods.

However, sin stocks still seem to pay, according to Wealth Within’s Dale Gillham. “Quite simply, they provide products and services to cater for peoples’ addictions such as gambling, alcohol, smoking and drugs,’’ he says.

“Because people are addicted to the products, the economic welfare of a country is irrelevant to the [performance] of these stocks. Good times and bad, people will still smoke, drink and gamble.

“In fact, often these addictions increase during recessions as people attempt to handle the increased stresses. As a result these sin stocks perform even better.”

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