Passive Investing

Stock picking is a waste of time. The apparent success of stock pickers is an illusion based on survivor-ship bias.

Over time, active fund managers who attempt to beat a given stock market index  through apparently superior stock picking skills, crash and burn taking your money with them.

Time and again over 40 years of observation I have seen innumerable fund managers described as gurus and genii. Time and again their luck has run out and they have been exposed as something far less exalted.

The same goes for the vast majority of hedge fund managers.  Unless they have a structural advantage such as front running or inside dealing. Or some little exploited angle which eventually others will discover.

Don’t get duped by the wide boys. Don’t get taken in by the slick salesmen.  They are almost inevitably one time lucky Masters of the Universe and over the years they will be discovered to have no clothes, like that famous Chinese emperor. Sooner or later, like the Wizard of Oz, they will be exposed as mere mortals.

Which brings me to the joys of so called “passive” investing. Which, far from being passive is a highly sophisticated form of rule based investing.

The vast majority of stocks over time end up worthless. You don’t want to get stuck with an overweight position in Lehman Brothers or Northern Rock. So the first key to good investing is wide diversification to avoid single stock risk.

What a stock index does is to have you invested in winners and to get you out of losers. When a stock’s star is rising it will be included in the stock index. When a stock wanes it will be ignominiously ejected. And the good thing about this is that it is rule based – you know what to expect and when. There is comparatively little room for discretion; which is just as it should be.

Over the very long term, successful investing is about riding the trend of economic growth. So long as our technology continues to grow, our corporations, listed and otherwise, will benefit from the industrial and now technological revolution which has driven markets upwards for 200 years.  Stock markets in general will go up over time.

Even so, wide diversification is essential. There have been times when entire stock markets have been wiped out never to recover.  Or at least the underlying companies have not recovered. Germany’s economy and its stock markets and bonds were wiped out in the inflation of Weimar Germany; and again post second world war. Japan was down some 90% after the second world war.  Many companies never recovered

Financial instruments in Russia became worthless in 1917. Argentina and other South American economies have seen endless economic catastrophes over the decades.

You never know when it might happen to you. To your country. Therefore ideally you need diversification across the entire global economy.

My very favorite example of shrewd Passive Investing and in my view one of the best stock market investments around is the MSCI World Index and tracker funds which follow it.

If I had to pick a single stock market investment, this would be it. Or at least something similar. The iShares MSCI World ETF (New York listed – ticker URTH) is currently 62%  invested in the United States. The next 25% of the portfolio comprises Japan, the United Kingdom, France, Canada and Germany. Its holdings include more than 1,600 securities across all of the major equity sectors.  It is self adjusting. If the US declines as Japan did from the 1980s, the US share in the portfolio would be adjusted downwards. If Germany’s stock market grows rapidly, its share of the MSCI World will increase accordingly. And so on.

UK investors could look at iShares MSCI World UCITS ETF (ticker IWRD) domiciled in Dublin and traded in London.  It is liquid and capitalized at over $5bn.

There are also hedged currency versions available for those who do not want non- sterling risk: iShares MSCI World GBP Hedged UCITS ETF (ticker IGWD).

It doesn’t matter how little you have to invest: a fund like this gives you coverage of the entire world even if you can only afford a single share.

Bargain methinks; for a total expense ratio of only 0.55% annually.  Global asset allocation in a box.