This article originally published in The Northern Daily Leader on 18 May 2013.

Last week we went on our first family holiday, spending a week at the coast. Some relaxing time at the beach seemed just the tonic after a busy summer.  To our surprise, holidays have changed somewhat since the advent of children. Only distant memories remain of lazy days at the beach. Now a half-hour visit to the beach (the maximum amount of time the 6 month-old will tolerate) requires the logistical coordination skills of a German Field Marshal. And the load-bearing and bag-managing abilities of a small army of pack donkeys. Nappies, food, clothes, sleeping bags, tents, beds….all apparently required items for a quick trip to the beach. And then even the best-laid plans can still be cast awry by an unexpected baby/toddler bowel movement. It’s no surprise that a dirty nappy at the beach has few friends.

The highlight of the trip however, was the time spent with Jack in the sea. No deeper than knee-height of course, but introducing him to the thrill of the ocean was memorable. The beach we frequented however, was not particularly child-friendly, with a steep drop-off and strong cross-currents. Jack, of course, was blissfully unaware of the treacherous nature of the surf, eagerly awaiting the next dumper to crash on the shore. Completely fearless (or clueless), it was only my vice-like grip on his wrists which prevented him from being swept out to sea and an extended stay in Davy Jones’ Locker.

Jack’s attitude to the sea reminded me of the approach some investors adopt to their investments. It’s easy to make decisions which don’t fully consider the risks, or the potential outcomes. It’s easy to jump on the bandwagon, when it seems that you may be missing out on the latest fad or short-lived mania (gold, tulips, Poseidon Nickel anyone?). As with Jack’s attitude to swimming (or sinking), none of these haphazard approaches to investing promise any long-term success. Any investment decision must be balanced on the basis of risk and return. Jack’s desire to jump into the sea, without any regard for the ferocity of the surf, was the same as an investor’s decision to invest without due regard to the risks. And these risks are many, from the risk of outright loss, to illiquidity risk, duration risk, credit risk, interest rate risk, currency risk, reinvestment risk and even political and regulatory risks. Why is that we employ pest inspectors, building inspectors and pay for land title searches when considering buying a house, yet select our superannuation investment option (often worth as much as we pay for a house) almost randomly? And that’s if we can be bothered to make a selection at all. Just as Jack mistakenly thinks the bigger the wave, the greater the fun, don’t get carried away by returns without due regard for the risks.

This article originally published in The Northern Daily Leader on 4 May 2013.

How good are you at predicting the future? It’s something we all do, whether it’s deciding if we should take an umbrella with us on a cloudy day, or discussing the likely results of a cooking reality TV show. Some people even make a living out of predicting the future, ranging from the TV weatherman (or woman) each night, to the shady clairvoyant who pretends to read your palm for twenty dollars. Clairvoyants aside, some people are better at predicting the future than others.

A recent study published in the Journal of Consumer Research investigated the ability of people to predict the future. It asked a range of people to predict the outcome of a number of actual events. These included picking the winner of the 2008 Democratic presidential nomination, the winner of American Idol, as well as what the weather would be like in two days’ time. Importantly however, the people asked to make the predictions were split into two groups. The first group were those people who felt they had a high degree of trust in their feelings; people who were confident that their gut feeling usually turned out to be right. The second group of people however, were those who felt that their gut feeling was often incorrect; they didn’t have a great deal of trust in their feelings and were more disposed to using logic and reasoning in making decisions. Who do you think performed better in correctly predicting the outcome of each event? Somewhat surprisingly, the people who relied on ‘feeling’ were more accurate in predicting the outcome of every event than those people who used logic and reasoning. This is somewhat counterintuitive as it is generally thought that logic and reasoning leads to better decision-making than relying on feeling or gut instinct.

There is one caveat though. There was no difference in the accuracy of people’s predictions if it was in regards to a topic with which they were unfamiliar. For example, people who relied on gut instinct were better at predicting the weather than people who used logic or reasoning, but if they were trying to predict the weather in say, Beijing, then there was no difference in accuracy. Both groups of people were as inaccurate as each other. The message is this: when faced with a decision or prediction, go with your gut feeling, unless it’s a decision in an area where you have little knowledge or experience. In such a situation, it’s best to seek the assistance of an expert.

This article originally published in The Northern Daily Leader on 20 April 2013.

An American management consultant was on a business trip to Australia and went for a drive through the countryside on his day off. Driving through the Tamworth region he spotted a small farm stall on the side of the road, with a hand-written sign advertising fresh eggs. The egg farmer, Burd, stood smiling behind a counter packed with fresh eggs of all shapes and sizes. The American complimented Burd on the quality of his eggs and asked how hard it was to farm eggs. Burd replied “Not very hard, a few hours a day maybe”. The consultant asked why he didn’t work harder and produce more eggs. Burd said that he had enough to support his family’s needs and a little to sell from the farm stall. The consultant asked Burd how he spent the rest of the day. Burd replied “I sleep late, check my hens for a while, play with my children, have an afternoon nap with my wife, and stroll around town each evening where I have a few beers and play guitar with my friends.  I have a full and busy life.”

The American consultant scoffed and said “Burd, I must tell you, I am a very successful business consultant and I can help you. You should work harder at producing eggs, and with the extra money you should buy a larger shed to house more hens. With the money from the extra hens and bigger shed you can build even bigger sheds and buy more hens, and eventually you could be the biggest producer in the region. Instead of selling your eggs to a middleman you would sell directly to the wholesale retailers. You could expand into bird meat production, integrating your business vertically across the entire supply chain. You would control the product, processing and distribution for the entire industry. You would need to leave Tamworth and move to Sydney to run your national operations, and eventually to New York as your business expands internationally.”

“But,” said Burd, “how long will this take?” The consultant replied “Probably 15 to 20 years.” “And what then?” asked Burd. “That’s the best part!” laughed the consultant,  “when the time is right you would announce an IPO and we would list your company on the stock market. You would be a very rich man, you would make millions!”

“Millions? And then what?” asked Burd. “Well,” said the consultant, “then you would retire. You would move to a quiet country town where you would sleep late, manage a few hens for fun, play with your kids, take afternoon naps with your wife, and stroll around town in the evenings where you could drink beer and play your guitar with your friends.” *

*With acknowledgment to the unknown person on the internet whom I have shamelessly plagiarised.

This article originally published in The Northern Daily Leader on 30 March 2013.

A few years ago I put myself through some terrible self-induced torture. I paid for a year’s subscription to a political magazine which was completely opposite to my political views. Each month the magazine would arrive in the mail and I would force myself to sit down and read it from cover to cover.  The trouble would start soon after I finished reading the contents page. Within minutes I would be arguing with the magazine, disagreeing with nearly every word. Of course I had to share my frustration and would track down Liz and try and engage her in a conversation about the unbelievable things I was reading in the magazine. I thought I was calmly pointing out the flaws in their arguments, though Liz was less kind and called it my monthly rant.

The purpose of this monthly ritual was not to give myself a heart attack, though sometimes it felt that way. The real purpose was to challenge my thinking; to confront the way I viewed the world and try to understand why other people saw it differently. Just because I held a particular opinion didn’t mean that opposing views weren’t valid. Although in this instance I was challenging my political view of the world, the same principle can be applied to investing. One of the most common behavioural biases encountered in finance is that of confirmation bias. This is just a fancy way of saying that we are prone to seeking out those opinions which confirm our already established view of the world. Most of us are guilty of this, whether it’s just watching a particular TV channel or only reading a specific newspaper. For example, if you believe that the global financial system is on the verge of collapse, you’re probably most comfortable reading the ‘Gloom, Boom and Doom Report’, or spending time on internet forums full of survivalists discussing bunkers, weapons and how to make your own canned food.

Confirmation bias is a leading cause of investor over-confidence, where we become convinced that our investing judgement is the right one. Just like the study which found that 93% of American drivers said they were better than the average driver; clearly an impossible outcome. The trick to defeating confirmation bias, and its unwelcome friend over-confidence, is to make a conscious effort to challenge your thinking. If you’re bearish on the future of the market, spend some time reviewing the optimistic material published by those who are bullish and try to figure out why they feel that way. And do the same but in reverse if you think the market does nothing but goes up. But when you do, do as I do and keep one of those foam bricks handy – it may well save you the cost of a new TV.

This article originally published in The Northern Daily Leader on 16 March 2013.

Augustine of Hippo, also known as St. Augustine, was a Christian philosopher and theologian who died over one and a half thousand years ago. Besides spending his time as a bishop in Algeria, Augustine was also known for his ability to coin a phrase. My favourite quote by Augustine was when he said “The world is a book and those who do not travel read only one page.” That’s probably a little unfair as many people cannot or simply do not want to travel, but it does convey the incredibly diverse people you can meet and amazing cultures you can experience while traveling, be it in your own country or overseas. I’ve been in the fortunate position to have done a fair amount of overseas travel when I was younger and before the baby-handbrake was applied, and I’ve always been thankful that those opportunities presented themselves. As a typical backpacker all of my travel was done on a shoestring budget, but a lack of money didn’t mean the experiences were any less richer. Whether it was drinking tea with a holy man on the banks of the river Ganges; getting lost in old Stone Town in Zanzibar; sipping snake whiskey on a slow boat down the Mekong; smoking cigars with Turkish gun smugglers or driving a taxi through the streets of Cairo, international travel in particular is one activity that is guaranteed to challenge your thinking and broaden your mind, as well as teach you a new appreciation for the country that you call home.

The diversity of life and cultures you will find during overseas travel has its implications for investing too. Including international exposure in your investment portfolio brings important diversification benefits, particularly when you consider that the Australian stock market makes up just 2.5% of the total value of all listed companies in the world. So if you restricted your investment selection to just Australian companies, you would be ignoring 97.5% of all other such opportunities in the rest of the world. That’s like deciding that you will only eat potatoes for breakfast, lunch and dinner, as you just couldn’t be bothered eating any of the other types of food out there. International investments can also act to improve the risk-adjusted return of your portfolio. As the Australian stock market does not move completely in sync with overseas markets, by including exposure to those markets you can reduce the volatility of your investments while still earning an appropriate return. International investing comes with risks too however, just as you would encounter in your home market. Do your research and make sure you know what you’re getting into; just as I should have done when that Indian holy man assured me that the tea was safe to drink.

This article originally published in The Northern Daily Leader on 2 March 2013.

Discipline has become an important word in our household. Our son Jack, you see, has recently graduated from a cot to a bed. In hindsight it was a change which Liz and I failed to treat with due consideration. We had thought it would take only a night or two for Jack to settle into his new bed, complete with pirate-themed sheet set and a small army of teddy bears. As you probably guessed however, it was never going to be that easy. Most nights have seen Jack spend at least a few hours being repeatedly ushered out of the lounge and back to his bed. It’s not unusual to find him riding his plastic scoot-along bike along the corridor well after 9:00 pm. And it’s quite common to wake up in the middle of the night to find him standing next to your bedside table, peering at you intently, about to wake you up by sticking his finger in your eye.

Faced with such behaviour, which by all accounts is typical for a two year-old, we try to adopt a disciplined approach. There’s no point in dealing with his behaviour in an inconsistent manner. It won’t work to reprimand him on one occasion, but to give him a big cuddle the next time. Maintaining this discipline can be difficult though when it’s after midnight and you’ve caught Jack yet again wandering around the house with a teddy bear tucked under each arm. As you would expect, investing requires a similarly disciplined approach. The stock market may not have tantrums like a two year-old, but its behaviour can easily cause you to doubt yourself. Most investors have probably experienced the sensation of watching the share price of a company they had just bought fall by 10, 20 or even 30%. Despite the fact that nothing might have changed with the company itself, such rapid price movements may easily cause you to incorrectly reconsider your decision and might even compel you to sell out at a loss. This is where you need to be disciplined.

A disciplined approach to investing has three core components. Firstly, you must identify what it is you are trying to achieve. If it’s a certain level of income or a specific capital value, write it down and plan how you will get there. Remember the adage – failing to plan is planning to fail. Secondly, you need to review both your goals and your progress. Have a fresh look at your situation at least every six months. And finally, remember to stick to your plan. Haphazard decisions will be costly ones. And speaking of planning, I’ll have to see about planning a lengthy business trip; it may be the only way I can plan on getting a full night’s sleep.

This article originally published in The Northern Daily Leader on 16 February 2013.

The world owes a lot to the efforts of researchers and scientists. Imagine life without the exertions of countless thousands of students, scientists, academics and other people who devote their time to solving research puzzles. No TV, antibiotics or internet and almost everything else we take for granted. Of course some of the questions they try and answer can be a bit baffling. My wife Liz, for example, spent the three years of her PhD studying the abilities of a fungus which grows on sheep and cattle dung. Apparently the fungus could be used to eat worms which infest the stomach of sheep and cattle, but nobody knew the conditions under which the fungus performed the best. And that kept her busy for those three years. I offered to proof-read her thesis before it was submitted and it was the best cure for insomnia I’ve ever found.

To be fair, her thesis topic wasn’t the strangest that I’ve seen – a priest in the UK was recently awarded his PhD on the topic of snowboarding. He spent four years studying the similarity between religion and the ecstasy that snowboard riders apparently feel as they hurtle down the ski-slopes. Nobody’s saying it was a handy excuse to spend all his time hanging out at ski resorts! Not all research is as obscure as this however; many research efforts are aimed at solving more mundane problems. One of the most significant research papers in finance was published in 2000 by two researchers, Barber and Odean. The title of the paper was striking – “Trading is hazardous to your wealth: The common stock investment performance of individual investors”. The authors had gained access to the share trading records of 78,000 households in the US, over a six-year period ending in 1997. These records covered over 2 million individual share purchases or sales, representing over $24 billion worth of transactions. They then segmented the accounts based on how often the owner bought or sold shares. What they found was that people who bought or sold shares on a frequent basis had an average annual return of 11.4% over the six years. However, people who seldom bought or sold shares (i.e. your typical long-term investor) had an average annual return of 18.5%. That variation doesn’t sound like much, but if you started with $1 million, it’s the difference between ending up with $1.9 million or $2.8 million.

It really is that simple. Real evidence exists that the more you trade, the worse your returns will be. There are no doubts about it. So if you invest, or somebody else does it for you, think about how often and why you trade. The answer may mean the difference between a holiday in Texas, QLD, or Texas, United States.

This article originally published in The Northern Daily Leader on 2 February 2013.

Do you remember the Seattle riots in 1999? The occasion was a gathering of government ministers for a World Trade Organisation Conference. While the meeting itself was unmemorable, images of violent protests acted as a rallying call to the anti-globalisation movement. While globalisation does have its faults, the rioters in Seattle were ironically protesting against the best feature of globalisation – free trade.

Two presenters on a recent Planet Money radio show, produced in the US by National Public Radio, showed the benefits of trade through a simple but clever experiment. They went to a primary school in New York and took a box of sweets and other snacks into a classroom of twelve year-olds. They then randomly handed out a sweet or snack to each child. Some of the children ended up with a chocolate bar or similar, while a few unlucky ones were given a small box of raisins or something equally less desirable. Once the goodies were handed out, each child was asked to score out of ten how happy they were with their gift. Some children were pleased with their chocolate or snack, though others would have preferred something else. And a few unfortunate ones rated their raisins or peanuts as worth only one or two on the happiness scale. Once all the ratings were added up, the total ‘happiness’ in the classroom from the gifts amounted to 67 points. Before they were allowed to eat their snacks however, the presenters asked the class if they had any ideas how the ‘happiness rating’ could be improved. Without prompting, one of the children suggested they could trade their snacks for somebody else’s which they might want more than their own. And so they spent a few minutes arranging a one-time-only trade with someone who they thought would be open to swapping.

At the end of the trading the children were again asked to score out of ten how happy they were with their new snack. As you would expect, the total ‘happiness score’ after they had had an opportunity to trade was now just under 100 points. By allowing the kids to swap an unwanted snack for another one, everyone was happier with what they ended up with. Kids who enjoyed raisins ended up with the raisins, and those who liked lollipops or chocolates ended up with those too. Just like countries are randomly given abundant resources of one type or another, by trading these resources for other goods everyone ends up happier. So the next time someone suggests that free trade is bad for Australia, ask them this: if a twelve year-old can understand the benefits, why can’t they?

This article originally published in The Northern Daily Leader on 19 January 2013.

Here’s a reasonably interesting fact – did you know that the first iPhone was only released just over five years ago? Back in 2007 the smartphone didn’t even exist, and now there are over one and a half billion of them in use. Changes in technology have both created and destroyed entire industries in just a few years.  Even the humble garage sale is being threatened by advances in technology. Why go through the effort of collecting all your things and spreading them over your lawn and praying it doesn’t rain, when you can simply take a photo of each item and put it up for sale on eBay?

Always keen to try out a new fad, some years ago I decided to sell a few books on eBay. It wasn’t that I particularly wanted to get rid of the books, I was mainly curious as to how it worked. So I signed up, took some photos of the books I had decided to sell and set up an auction for each book. I set the reserve price at the cost of posting the item to the winning bidder, which I estimated would be $5.00 per book. After a week or so all the books had been sold through the auction process, with prices varying from $6.50 to $9.00; at first glance a successful outcome. That was until I took the books to the post office to send to the winning bidders. You can imagine my chagrin when the post office clerk told me it was going to cost $10.00 to send each book. All up I paid $40.00 to send the books to the winners, who sent me around $25.00 in return as payment. Needless to say, that was the last time I sold anything on eBay.

What turned the deal sour of course, were the transaction costs – the books sold for a reasonable price, but once transactions costs were taken into account I ended up losing money. Likewise, when it comes to investing in any asset, transaction costs are just as important. Every time you buy or sell a share for example, you incur a direct cost through brokerage. The more you trade, the greater the transaction costs. Research has also shown that frequent trading usually leads to lower returns and one of the primary reasons is the cost of each transaction. Think about what it costs every time you buy or sell a house – shares are the same, just on a smaller scale. The message is to always be aware of the transaction costs (and be careful on eBay) – both can be hazardous to your bank account.

This article originally published in The Northern Daily Leader on 5 January 2013.

You know you’re getting close to the end of the year when nearly every television show and newspaper starts running long lists of the ‘Best…of 2012’. The last few weeks I’ve seen segments about the best fad diet of 2012; the best celebrity love-fight; the best sporting moment; the best mobile phone and even the best funny cats internet video of 2012. Fortunately that’s all behind us, now that we’re well into 2013. Unfortunately however there’s simply been a shift of emphasis, and now the morning shows and newspapers are full of predictions for the year ahead. What are the top holiday destinations for 2013? Which industries will be best for employment in the year ahead? What will be the best-selling smartphone in 2013? Who will win the league, AFL or the Australian Open? Whatever the event, whatever the subject matter, there’s always somebody who is willing to offer a prediction over future events in the next twelve months.

Although I don’t pay much attention to predictions of the most exciting fashion trends for 2013, I do notice the economic and financial forecasts, of which there seems to be a never-ending supply. It seems that an entire community of economic and financial pundits exists for the sole reason to appear in the media and predict the future. They’ll tell you what the stock market will do this year; how fast Australian GDP will grow in the second quarter; what will happen to the iron ore price and even what assets to buy. What they won’t tell you however, is that the majority of their predictions will not come true. Neither will they tell you about the predictions they made last year which also did not come true. In fact research by the University of Pennsylvania has shown that the more famous the person making the prediction, the greater the likelihood they will be wrong. It turns out that the more confident the person feels about their prediction, the more chance their prediction will be incorrect. In reality, most economic forecasters are generally no more accurate than tossing a coin.

You may find it surprising that the most accurate forecasters are not the ‘financial gurus’ on television, but are in fact weather forecasters. This is because they are the only forecasters who receive immediate feedback on the accuracy of their projections (they need only look out the window). That’s not to say they always get it right, but they do get it right more often than economists or stock market pundits. Unless of course it’s true that they forecast rain only to keep everyone else off the golf course.