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A New Year’s Real Solution

March 6, 2018

The turn of the calendar year is a popular time for making a new start – whether it is committing to a diet, starting an exercise regime or just promising to be nicer to your colleagues, friends and family. But what about financial resolutions?

Ask any coach and they'll tell you the keys to keeping a resolution are, first, setting specific, measurable, achievable, realistic and timed (SMART) goals; second, drawing up a plan focused on those elements within your control; and, third, sticking to it.

All sorts of factors can send your New Year resolutions awry, but perhaps one of the most common is getting distracted by momentarily interesting, but ultimately irrelevant, events or headlines that encourage you to take your eye off your desired destination.

For instance, it is now two years since a large UK investment bank (RBS) attracted world headlines with a call to its clients to "sell everything". The bank warned of a "cataclysmic" year ahead, with global equity markets possibly to fall by up to 20%.

A year later, in January 2017, one media outlet (CNBC) said Wall Street strategists were more bearish on equities than they had been for any year since 2005. The consensus forecast for the benchmark S&P 500 was for a gain last year of about 4%.

The contrast between these forecasts and outcomes over the past two years is stark. In Australia, the benchmark S&P/ASX 300 index delivered a total return of just over 25% in that time, as did developed markets outside Australia in AUD terms. In New Zealand, the total return was more than 36% in NZD terms, while emerging markets delivered 42%.

In the US, the benchmark S&P-500's near 22% return in local currency terms was its best calendar year since 2013 and placed 2017 in the top third of best performing calendar years in the index's history. The consensus forecast of 4% was left for dead.

Now, of course, we are being treated to a fresh set of prognostications about what 2018 might hold for the world economy and markets, and many of these headlines are just as apocalyptic as those we have seen previously.

There are a few ways of approaching these sorts of calls. The first, as we have seen, is that the forecasting record of media and market pundits is not a particularly good one. That's in part because they not only have to predict future news, which is hard enough. But they also must anticipate how markets will react. That's an even tougher ask.

A second consideration is that many of these forecasts are based on models, which however elaborate, can never fully accommodate complex reality. There are just so many moving parts and possibilities that no-one can realistically take account of them all.

But the most important lesson to keep in mind is the virtue of having an investment approach based on the information already in prices, not on the unreliable and non-robust practice of trying to predict movements in shares, interest rates and currencies.

It means accepting that today's prices already contain all the hopes, fears, opinions and expectations of millions of market participants. From there, we can build robust, diversified strategies based on the long-term drivers of expected return.

This does not mean markets will continue their recent upward course. Prices can go down as well as up. The desired premiums are not there every day, every month or every year. And there is no evidence that anyone can reliably and predict a turning point.

The key takeout is the importance of having a diversified investment plan that is designed to get you to your destination and one that you can live with amid all the distractions.

The ups and downs of markets are not within your control. But your own behaviour is. With an advisor focused on building a plan for you - based on your goals, risk appetite and circumstances - you are much better placed to get to where you want to go than by acting on the latest media forecasts.

How's that for a New Year's 'real solution'?

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