Using our brains is best way to invest

PUBLISHED : Thursday, 26 May, 2011, 12:00am
UPDATED : Thursday, 26 May, 2011, 12:00am


'Acting on good advice from experienced, well-informed investment advisers (IAs) can help expand your wealth and become financially more secure. But as an investor, do you know how do you make the most out of your IA?'

Securities and Futures Commission bulletin

They make it sound like going to see the doctor - acting on the good advice of an experienced medical adviser can help expand your health and become physically more secure. But as a patient, do you know how do you make the most out of your physician?

Why yes, Mr Regulator, I do. It is to follow his advice even if that takes some of the dearest joys out of life. I don't know much about medical matters. He does. Therefore, I should do what he tells me to do to stay in good health.

Unfortunately, this sage principle does not migrate well to the investment business. It contravenes Jake's No1 Rule of Financial Interactions - Money Does Not Grow on Trees.

Let's say that my financial adviser was experienced and well informed to such a degree that he really could reliably expand my wealth more than just blind investment would do. In my experience this would probably put him in contravention of the SFC's own No1 Rule of financial interactions - Thou shalt not deal on inside information.

Yet let's say he really could reliably do it, and without benefitting from inside information. In this case an obvious question arises. Why should he be doing it for you, me and other strangers when he would much rather be anchored off Tahiti in a 30-metre yacht with the fishing lines out and cold beer in the ice box.

Let's make no mistake about this. If he really could do it then that yacht in Tahiti would very soon be reality. He could long ago have given up working as a financial adviser and made his dream come true by gearing up his special talent for making money.

OK, so now we have accepted that his crystal ball is just as opaque as the ones you and I like to pretend we use. Occasionally these crystal balls show a glimmering of the future to people of long experience and good judgment, but only occasionally and never distinctly, certainly not enough to create a corps of investment advisers who are reliably right on investment calls throughout their careers.

Yours is different, is he? Sure.

The fact is that his real expertise lies in how to make investments rather than in what ones to make. He is a technician. If you want Chilean wine futures he will find them for you, buy them at the prevailing market price and keep them in custody. He knows where the vault is. He can even take you there. But he does not have the keys to the vault.

If you want to believe that he does have these keys, however, he will be happy to accommodate you, and charge you more, too. If he has you as his client at the beginning of a bull market he may be able to keep you in this state of illusion for years, pretending all the while that it is not the market movement that has made you money, but his ability to foresee the future.

It helps him all the more when our regulators also subscribe to this illusion. In my opinion, the SFC actually does retail investors a disservice with investment education bulletins that buy the myth of the farseeing investment adviser.

These bulletins make things worse when they then talk about wealth management objectives and risk appetite. The fact is that your wealth management objective is to make as much money as possible and you do not have a risk appetite. No one likes to lose money.

There is no precise trade-off between these two. If reliable odds could be put on risk there would be no risk. You would just look at your risk number and know immediately whether to invest or not.

People try it all the time, however. It's the holy grail of the investment business. Overly clever financiers in New York thought they had found it some years ago with credit default swaps on collateralised debt obligations, but it just vanished in front of their eyes once again in the 2008 financial crisis, not for the first time.

It will vanish in front of your eyes and cost you dearly, too, if you believe in it. We are all blind to the future. By all means use the technicians to make your investments. But your own brains are still the best for choosing what those investments should be.

It's not like going to see your doctor. Our securities regulators may understand regulation, but they don't understand securities.