Flip a coin - but don't bet on result

By MARY HOLM

Q: I must take issue with an assertion in your column.

You stated that "at any time the dollar is just as likely to fall as rise". This can be demonstrated to be wrong in two ways.

The first uses simple statistics. If you toss a coin 10,000 times, you'll get pretty close to 5000 heads and 5000 tails. Try it and see!

If the currency is just as likely to go up (heads), as down (tails), then over a period the value of the dollar would go sideways in a series of fairly small self-correcting movements up and down.

However, a look at the New Zealand/United States dollar graph over the past 10 years shows a different story.

Since its most recent peak on November 27, 1996, when we got 71.5USc for each NZ dollar, to its most recent lowest point, on November 21 last year, when it stood at 39.5USc, our exchange rate has clearly not been going sideways!

This illustrates the second reason your assertion is wrong - hindsight.

Clearly, over those four years, the dollar was in a trend going down, and at any stage during that trend the dollar was far more likely to fall than rise.

Rise it occasionally does, only to be sold and driven even lower.

It would have been more accurate to have said that at any time the dollar could either rise or fall, or that we don't know when or how far a trend will run.

But don't discount the significance of a trend in giving a likely direction for either a share or currency.

The difficulty is, of course, that no one - especially economists, as you point out - knows when a trend is going to turn or how long it's going to run.

A: Rather than spending my day tossing coins, I showed your letter to Craig Ansley, a statistician and boss of Frank Russell New Zealand, a big institutional investment consulting group.

I'm afraid he doesn't think much of your arguments.

He says my statement, that the dollar is just as likely to fall as rise, is "oversimplified a little, but not much. It's still a good basis for making a decision".

It's true that if you tossed a coin 10,000 times, there's a good chance you would get somewhere between 4950 and 5050 heads, says Ansley.

But that doesn't help to understand where the dollar is likely to go next.

When you're tossing a coin, "the number of heads doesn't trend quickly to half the number of tosses," he says. "If it did, there would be no casinos. Betting would be too boring."

He adds that if you ask someone to predict a pattern of coin tosses, "they never put nearly enough runs of just heads or tails in it".

"It doesn't just go sideways very often. In the medium term, it usually seems to trend in one direction or the other."

Ansley also says that predicting currency changes "is not quite a coin toss".

By looking at short-term interest rates in two countries, we can to some extent predict how their currencies are likely to move against each other.

If, for instance, New Zealand has higher short-term rates than the US, that means the markets are expecting the kiwi dollar to drop against the American dollar - other things being equal. This is what has happened in recent years.

You can't really gain from this knowledge, though. What you win in higher interest, you lose on the currency. As Ansley puts it: "You can't beat it."

This is not accidental. The market is compensating, with higher interest, those who invest in a currency that looks weaker. Otherwise, who would invest there?

Of course, other things aren't always equal, or anywhere near it. So many factors feed into foreign exchange that, on any given day or month, we're pretty much back to a random walk.

One more point from me: I don't like your lumping together share price trends and currency trends.

Share prices trend upwards over time, not just because of inflation but also because of improvements in productivity and so on.

But, taken as a whole, the movements of all currencies must average out at zero. When one currency rises against another, the second falls against the first.

"You can't expect to make anything out of currency in the long run," says Ansley.

Q: You were right in last week's column. Any professional adviser should not be charging more than about 1 per cent a year to advise on, set up and administer a $480,000 portfolio (and rebate all commissions).

A fee scale should be regressive - that is, the fee will be a smaller percentage of the total fund the bigger the fund. (But don't forget that portfolio reviews attract GST.)

Charging a fee for time sounds fine in principle, but my experience as a financial planner is that it is flawed in several respects.

The client will seek ad hoc advice from time to time, but doesn't expect a bill, despite the adviser offering responsible and professional advice.

Clients sometimes do not appreciate the research, administration, costs and so on that go into running a professional practice.

Also, do I charge for travelling time if I have to go to see the client?

The client may not keep accurate records of investments and transactions, which can make the preparation of a report time-consuming, with no guarantee of accuracy.

Investments can be made without reference to the adviser, which can change the nature and risk profile of the portfolio. This may be contrary to the adviser's recommendation.

This is why our practice is predominantly contractual fee business.

Again, yes, on another point last week.

If asset allocation and selection are done properly at the outset, following thorough discussion with the client on risk, etc, only minor changes from time to time should be necessary.

Some advisers seem to work on the principle that they have to show they are earning their money (or generating income!) by frequent changes.

A: It's good to get a positive letter.

Having said that, I've got a few quibbles with what you say.

I agree that $4800 might be a reasonable initial fee for a new client with $480,000 to invest.

But it still seems too high for an ongoing fee.

On your first three points about why charging a fee for time doesn't work, accountants seem to deal with all that.

In my experience, they don't charge for ad hoc advice through the year, but add that time on to their annual bill.

I suppose we're used to paying accountants a fairly high fee to cover the costs of running their office.

We need to get used to good, well-qualified financial advisers charging similar rates.

Yes, I think you should charge for travel time and costs, but possibly at a somewhat lower hourly rate. It might depend on how much you value a client.

As far as accuracy of records is concerned, I should have thought that if you have to spend more time because of record-keeping problems, you should be paid more. Billing on a time basis seems the fairest way.

On your fourth point, it must be frustrating when clients add investments without consulting you. But I don't see how your billing method would affect that.

You say you bill mainly on a contractual fee basis. That might work pretty well, too. In fact, it might not differ much from charging on a time basis.

I expect you would roughly assess how much work you will do before setting the fee.

The main point is that you don't make more money by putting a client into an investment that pays you more in upfront commissions and trail fees.

With too many financial planners and advisers, that is the situation.

And - whatever anyone says to the contrary - that must influence the adviser's advice.

No quibbles, though, with your last point. Let sleeping investments lie.

Q: This is not a question for your column but a statement. However, I hope you still publish it.

You seem to have lost the plot.

Your weekly column is entitled Money Matters.

But over the past few months it has been swamped predominantly with letters, and commentary from you, about trusts.

The topic of trusts in itself is not a problem.

What is a problem is that most of the comments from readers and from you are emotional, social and political and have no relevance to the title "Money Matters".

Please get back to the basics, when your column gave reasonably unbiased commentary on money matters, or resign your position.

Please do not use the column to push your social and political agendas and those of your readers.

A: You've got it the wrong way around.

Unless I can write about the emotional, social and political aspects of money, I'll resign my position.

* Send questions to Money Matters, Business Herald, PO Box 32, Auckland; or e-mail to maryh@pl.net. Letters should not exceed 200 words.

Please provide name and a (preferably daytime) phone number. Mary cannot answer all questions, correspond directly with readers, or give financial advice outside the column.