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John Venture: Pain and suffering will be worth it

THERE is, alas, a long tradition of investors buying and selling their investments at the wrong times. That’s because when markets fall, many investors decide to cash in as investing becomes a little too uncomfortable.

But there are many funds on the market that can help investors hold investments for the longer term. Let’s examine why these funds could be a good choice.

Time in the market Research by JP Morgan found that over the five years and four months from 1 January, 2007 to 30 April, 2012, an investor who had remained invested in the FTSE All-Share Index would have captured a total return of 12.3 per cent.

However, just missing the best ten days of market performance would have turned that into a loss of 38.7 per cent, while missing the best 40 days would have resulted in a loss of 76.6 per cent.

These are some eye opening statistics, but why do they matter so much? Some of the best days, when markets rise significantly, occur after markets have fallen a lot. If you’re “scared out” after a fall, the likelihood is you’ll miss out on these good days. Of course, you could profit by timing the market in order to try and avoid the worst ten days, but without the benefit of hindsight, this is difficult.

Lowering the pain threshold One way of helping to change this behaviour is for investors to establish where their investment comfort zone lies by ascertaining their capacity for loss. It’s useful to think of capacity for loss in terms of a pain threshold.

I might be invested in a lot of assets that might produce strong returns in the future, but it’s not just what we own, it’s when we own it. If, psychologically I can’t cope with losing 20 per cent of my money, I’m more likely to sell out if it happens. I’ll do that not because it’s a good investment decision, but because the loss is too uncomfortable to take.

Financial advisers are now required to ask you a series of questions to gauge your attitude to risk and capacity for loss and to attribute a risk score or profile to you.

Staying power

By investing in this way, future performance, either positive or negative, should be within your range of expectations. It won’t always be plain sailing but investing this way significantly increases the chances that you’ll be able to remain invested for the long term.

In the meantime, waiting for the right opportunity could cost you a lot since you’re more likely to miss out on some good days.

• John Venture is a fund manager at Skandia Investment Group

 

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