Kuta Beach

Kuta Beach

Saturday, 10 July 2010

Be Skeptical of Long-Term Investing

Many fund managers tell their clients not to worry about short-term volatility in the stock market and tell them that investing is a long-term activity. The cynic in me says that fund managers reduce their accountability and fatten their profits by saying this. This increase their profits because having clients investing in their funds increases the fund manager's opportunity to charge management fees. Furthermore, long-term investing reduces accountability because clients are not going to realize that their investments are poor-quality products until a long time into the future when it may be too late.

Suppose you purchased a load of bread from the bakery and the next day the bread goes mouldy. You bring it to the baker and demand your money back, but the baker says, "That mould is just short-term fluctuation in the quality of the bread. In the long-term the break will improve. Come back in 70 years and see what happens." So the customer keeps the bread for 70 years and after those 70 years the bread is still mouldy. He walks to the baker who by now has sold so much bread and is incredibly rich, and he says, "This bread is still mouldy! Give me my money back!" The baker could say something like, "Past performance of the bread is no indicator of future performance." This is exactly the deceptive behaviour that we see among fund managers nowadays.

I understand that bread tends to go mouldy over time and investments, say, in the stock market have historically gone up over time. However, over long periods of history I can find many things that have gone one way over a long period of time but it doesn't mean the trend will continue. I am worried that stock market increases over the last century may have just been a super bubble. We cannot discount the risk.

No comments: