Your Money and careers writer for the NZ Herald

Diana Clement: One thing to expect - the unexpected

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So far, Brexit hasn't had the catastrophic effects on finances that were predicted in those early days and hours. Photo / AP
So far, Brexit hasn't had the catastrophic effects on finances that were predicted in those early days and hours. Photo / AP

Brexit had all the hallmarks of a "black swan event". In financial terms, that's a highly improbable occurrence that has catastrophic ramifications for investments.

On two day days immediately after Britain's vote to exit the European Union, the first thing I did when I woke up was to reach for my smartphone and Google "FTSE100". Each time it had plunged overnight.

But so far Brexit hasn't had the catastrophic effects on ordinary people's finances that were predicted in those early days and hours.

The FTSE100 rebounded and for now Kiwis' jobs, houses, investments and retirement (unless you're relying on a British pension) aren't badly affected by this outlier event.

That's not to say the Brexit vote isn't the start of a black swan event in its own right or as a pointer to the breakup of the European Union. The 2008 global financial crisis took months to unfold and for markets to hit rock bottom.

This week news was unfolding of a run on British property funds, which suspended trading.

Academic and former Wall St trader Nassim Taleb, who popularised the black swan term, based it on the historic idea that black swans were presumed not to exist by Europeans until 1697, when a Dutch explorer "discovered" them in Western Australia. That showed that instead of being impossible, a black swan was simply improbable.

Taleb was reported after the Brexit vote saying that with these events "things start abruptly and we have waves". Perhaps the Brexit waves haven't yet reached tsunami level as they did in the financial crisis.

If it turns out we've dodged the Brexit bullet, don't breathe too easily. Sooner or later there will be another black swan event. Analyst Eric Hadik, quoted in a Forbes article, argues that they come around every eight years. On that basis we're due for another one about now.

They are not always financial calamities. The Black Death in Europe, the assassination of Archduke Franz Ferdinand at the start of World War I, the Chernobyl nuclear disaster and 9/11 attacks in the US were all black swan events.

In the New Zealand context, many investors thought share prices could only continue to go upwards in 1987. Then came the black swan - aka Black Monday - proving that a crash was simply improbable, not impossible. The consequences were catastrophic financially.

The black swan tag implies that these events were "unexpected", but there were of course those who predicted them and plenty of hindsight from those who didn't.

If readers haven't watched The Big Short movie, then do. It does an amazing job of making the financial crisis easy to understand and downright funny, although there's an important message for anyone with money to invest.

The New Zealand Super Fund staff took an afternoon out to go to the cinema when it was showing in Auckland. Get it out from the local video shop or watch it online.

If you're an ordinary Kiwi with money in shares, bonds, or property - including the family home - what do you do when markets panic and nose-dive as will one day happen?

The key for when the inevitable black swan event comes, says Mark Lister, head of private wealth research at Craigs Investment Partners, is to ensure that your investments are diversified.

It's helpful to look at what happened during the financial crisis, says Lister. Shares fell 40 per cent and property in some markets went down nearly 60 per cent in the aftermath. But certain investments, such as good-quality fixed-interest bonds went up in value because interest rates fell dramatically. Gold also got a leg up. So having a mix of investments, not just property or shares, should smooth the tail of the next black swan event.

Although professional investors diversify, many mum and dad investors have too much concentrated in certain assets (such as property, cash or shares), geographies or sectors, says Lister. And when one of those investments goes gangbusters for a few years, we often don't rebalance by taking some of the profit and diversifying it. We should.

As well as focusing on property, because it's what we know, many Kiwis tend to be New Zealand-focused, says Lister. But if the next black swan event hits New Zealand harder than other nations, they might have been better off with investments spread globally.

Such an event might by triggered by China, a biosecurity threat, or the popping of the Auckland property bubble, says Lister.

In an ideal world, investors would cut their losses as the market started to fall, and await the bottom to buy back in. But don't count your luck. Even the best economists can't get this right. No one can accurately pick when markets have bottomed out.

The best option for those with long time horizons who don't need their investment money out in a hurry is often sitting things out and trying not to cry over spilt milk.

In the context of KiwiSaver, human nature is to switch from growth to something more conservative once the price has fallen. If the horse has bolted already, however, it's probably best to do the complete opposite and hold on - provided you're not on the verge of needing the money to retire or buy a house. Rest assured your KiwiSaver investment managers are going to be working hard to stop the investment falling and fix the damage.

Sometimes, however, markets don't rebound. Japan's Nikkei index still hasn't recovered 25 years after a market collapse.

Another option when the black swan has nosedived is to buy more when everyone else wants to sell. Lister points out that KiwiSavers who were investing month in, month out from 2008 to 2010 were getting "bargains of a lifetime" and did very well out of the financial crisis.

In March 2009, financial adviser Jeff Matthews was buying shares when everyone else thought Chicken Little was on the loose.

This week, Matthews, who is now an investment adviser at Forsyth Barr, recalled those days: "Yes, in 2009 I was a buyer of Barclays shares and Bank of America shares. I was also a buyer of General Electric shares at $6, now $31.49 plus dividends."

This is the same man who for a couple of years was warning journalists that Blue Chip was not far off a Ponzi scheme and that almost all our finance companies were doomed and would fall like dominoes. Both bubbles burst with nasty consequences for many older Kiwis.

As Japan's Nikkei share index demonstrates, just because markets have recovered in the past from black swan events, that's no guarantee they will in the future.

Sometimes it pays to simply let the experts take control. They don't always get it right and sometimes fall for groupthink. But typically, dozens of brains at large financial institutions will be focused full-time on what's happening in the markets, which is something few private investors can match.

- NZ Herald

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Your Money and careers writer for the NZ Herald

Diana Clement is a freelance journalist who writes about personal finance and careers. She has worked as a journalist for more than 25 years in both New Zealand and the UK. Diana has contributed to a large number of local and international publications. Her pet topic is the secrets of saving money.

Read more by Diana Clement

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