The world turns on investors

By MARK FRYER

Send your money overseas, they said. New Zealand's too small, too vulnerable, too lacking in all those clever high-tech companies. So you did. And now look what's happened.

If you are one of the thousands of New Zealanders who heeded the call to invest more overseas, you'll know how painful that venture has been lately.

If not, have a look at the table on the next page, which shows how a selection of managed funds that invest in international sharemarkets have performed of late.

In the past 12 months (to the end of April) the average fund in the table has lost more than 13 per cent. To put it another way, if you'd invested $1000 in that average fund a year ago, you'd be down to $869 - and that's without taking any initial fees into account.

Since the end of April, your investment will have shrunk further.

Those who got in early can at least comfort themselves with the memory of the late 1990s, when overseas share funds produced spectacular returns. But what's gone wrong since?

Two things. For a start, international sharemarkets have indeed fallen, for two years in a row - down 14 per cent in 2000 and another 18 per cent last year, as measured by the MSCI World index, which covers most of the world's sharemarkets. And international share prices will need to make a solid recovery if they are to avoid a third down year, given that prices have fallen 9 per cent this year.

The other thing that has gone wrong is that the New Zealand dollar has gone up.

This is music to the ears of anyone planning an overseas trip, but it's bad news for investors.

To see why, imagine you sent $1000 to the United States at the start of this year. At the time, you could have turned that into about US$417. Now you want to bring the money home, but exchange rates have moved on and your US$417 buys only $860 - in the space of less than six months, your initial $1000 has diminished by 14 per cent, without even going near a falling sharemarket.

The kiwi's climb has been extraordinarily fast. Tony Alexander, chief economist at the BNZ, says that in the three months from the start of March the dollar rose more quickly than it has in any three months since 1985.

Added together, the soaring kiwi and sagging sharemarkets mean that international shares have fallen 22 per cent since the start of this year, as measured in New Zealand dollars, rather than the 9 per cent fall you get if you work out the numbers in US dollars.

It's exactly the opposite of the situation that applied until recently.

The kiwi dollar's value fell through 2000 and 2001, which boosted returns as long as overseas markets were rising, then cushioned the fall when the downturn began in March 2000.

Long-term investors still have some reason to smile; $1000 invested in the average international share fund seven years ago is worth more than $1700, even if those gains are rapidly shrinking.

So, what to do now?

"Well, it's too late to do anything about it, you just carry on as though it never happened," says Ed Smith, director of investment services with investment adviser Frank Russell Company (NZ).

"That's a bitter pill to swallow but that's the reality of it if you're thinking about it in a rational way."

Investors, he says, have a tendency to focus on what has happened lately, rather than looking at the long-term picture.

"The long-term statistical experience is that international equities, and equities generally, are the best performing asset class."

"It's an incorrect assumption to assume that just because markets have lost money over the past two years that they are going to continue to lose money."

"Making a rational decision about it all, you should refer back to the long-term statistical nature of the assets and that implies that, if you can handle the risk which is associated with an asset like international equities, you should stick with it."

He suggests that, rather than shifting their money in response to the recent falls in international shares, investors should ask what they would do if they had a pile of cash to invest for the first time.

"The decisions you make about how to invest that cash should be no different to the decisions you make about the assets that you've got."

Does the experience of the past two years challenge the idea that long-term investors should have a reasonable proportion of their money in overseas shares?

"Nope," says Auckland financial planner Jordi Garcia.

"I think a lot of our existing investors are anxious because they've had two consecutive years of down markets ... it's not so much the magnitude of the drop, it's the fact that it's been going on for two years, people are edgy."

"If the results from the end of the second quarter, ending this month, are still negative, which it looks likely they will be, then my work will be cut out for me to be proactive to make sure that my clients don't lose heart."

What Garcia tells most of his clients is "Well, I don't know when there's going to be some recovery but I guess one needs to have some faith.

"Certainly a lot of the economic indicators that are coming through are starting to look positive and one would expect to see that reflected in financial markets perhaps, towards the end of this year or perhaps, next year."

The important thing, he says, is to try to reduce the emotion surrounding the whole issue and concentrate on what you are trying to achieve by investing.

Just how many of your investment dollars you want to have in international shares will depend on a host of factors, particularly your ability to handle risk, emotionally as well as financially, how long you are investing for and how much you rely on your investments to cover day-to-day living costs, or whether you're more interested in long-term gains.

"The one thing that we do know is that the risk characteristics of international equities are actually better than New Zealand equities," says Smith "so of the equities component we would say at least 70 per cent ought to be offshore."

"What the equity component is will vary depending on the individual's circumstances.

"For somebody who is young and aggressive and who has a relatively high tolerance of risk, it wouldn't be unusual to find them 60 to 70 per cent in equities.

"But for somebody who's dependent on their investments for their future livelihood and probably getting on in years and who can't expect that they're going to derive a large amount of other income then it probably should be somewhere right back to 20 per cent, and then the whole gamut of options in between those."

Garcia says his most aggressive clients - people in their 40s or early 50s at latest - might have as much as 70 per cent of their investments in overseas shares.

Another place to look for guidance is to see what the big investment institutions are doing with the money they manage.

A survey of investment managers by Aon Consulting shows that, far from cutting back, in the three months to end of March the average manager increased the percentage of their "discretionary assets" - those where they have freedom to decide where to invest - in overseas shares, to around 40 per cent.

The Government Superannuation Fund, which can perhaps afford to take a less emotional view than most of us, has a long run target of 52.5 per cent of its money in international shares.

But while the experts advise investors to stick with the plan, it might be wise not to rely on markets returning to the heady days before March 2000.

Super-investor Warren Buffet, among many others, has warned investors to keep their expectations in check.

In March, Buffet said he expected the pension funds of the various firms his company owns to produce a miserly 6.5 per cent return in future.

And you don't have to look very hard to see reasons for caution.

There's "Enronitis", for example, the fear that some companies are cooking their books to make profits seem bigger than they really are.

Ironically, as regulators tighten the rules to combat that sort of manipulation, the effect will be to cut profits which, short term at least, will put more pressure on share prices.

And share prices on some overseas markets are still not cheap by some traditional measures.

It's also true that many of the factors which propelled international sharemarkets through the 1990s are fading. There was the long-term fall in interest rates, which boosted share prices, as did privatisations and "more market" policies in many countries, as well as a sometimes-misplaced faith in the importance of new technologies.

There's also reason to worry that the falling greenback could spark an exodus of foreign investors from the US.

But, as always, no one knows. For now, it's a case of sticking to the basics, keeping the long term firmly in mind - and crossing your fingers wouldn't hurt one little bit.

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