What a difference a day (or weekend) makes…

In my last update, I referred to the importance of risk as part and parcel of successful investing. Since then, risk (in a number of manifestations) has again featured prominently in the global news media, both in terms of broader economic activity, as well as in respect of financial markets.

Firstly, the Managing Director of the International Monetary Fund (an international organisation comprising 185 member countries, with aim of promoting international monetary cooperation) Dominique Strauss-Kahn, was widely reported on Friday last week as saying that “… concerns about a number of the largest US-based and European financial institutions have pushed the global financial system to the brink of systemic meltdown."

However, on Monday, he followed up his melancholic comment with the brighter observation that the worst of the financial crisis was possibly over, noting (with reference to the actions of Governments and Central Banks globally over the weekend in guaranteeing deposits with financial institutions) that "… thanks to the decisions that have just been taken, the peak of the crisis is perhaps behind us.”

I was interested to contrast the above comments with the activity on Wall Street over the same period, and in particular in relation to the benchmark Dow Jones Industrial Average Index – something of a barometer for the world’s financial markets.

For the past week (to last Friday, the 10th of October), the Dow fell 1,874 points, or 18%, its worst weekly decline ever on both a point and percentage basis. However when the US market opened on Monday this week the index bounced by 936 points – that’s 11.1%. The advance was reported as the largest ever during a session on a point basis, the best one day percentage gain since September 1932, and the fifth best ever. Looking back over time, the Dow index is now at values last seen in September 2003 (as illustrated by the chart below which shows the index over the past 10 years). Importantly, this remarkable change is unlikely to signal the end of volatility for investors, but it does emphasise the importance of reacting unemotionally to short-term market variations, given the permanent effect of realising transaction values which can materially change from day to day in the current economic and investment climate.

Back here in New Zealand, and in response to actions taken overseas, you will have heard that the Government introduced an “opt-in” guarantee in the event of the unlikely collapse of any of our local deposit-taking institutions. Importantly, this guarantee relates to the total and permanent loss of capital arising from events affecting an institution such as insolvency or bankruptcy, or an inability to make debt repayments as they fall due. You may have also read the follow-up story that “several fund managers were concerned the new measures would unfairly give advantage to finance company debentures over similarly or less risky investments managed by other providers” and that it was “still not apparent how the guarantee would apply to products such as cash management trusts; corporate bonds, and; KiwiSaver cash funds.”

From a Spicers perspective, I can advise that (as with many other institutions) we have submitted our applications to the Reserve Bank for a number of our products which fall within the scope of the guarantee structure, including “Spicers Premium Plus”. Your adviser will be able to update you later this week as to the status of our application. I do note the comment of the Reserve Bank Governor – Alan Bollard – that “… the purpose of the scheme is to assure New Zealand depositors that they can be assured their deposits are quite safe and the New Zealand financial system is sound.”

As we are all very much aware, risk cannot be eliminated – and indeed, it cannot be for any investor to be rewarded. If nothing else, the past week has demonstrated that even “money in the bank” is not without its own risks, which in an environment of slowing economic growth, falling interest rates, and lower real estate values provides an opportunity to reflect on the benefits of diversifying risk through appropriate portfolio construction.

As Warren Buffet astutely observes “… risk comes from not knowing what you're doing.” In the current market, you can be assured that our actions continue to be thoughtful, well-researched, deliberate and in the interests of you, our clients. 

If you have any questions around this article, please contact us at any time.