Timing markets more difficult than it looks

By MARY HOLM

Q: I read your informative articles along with many other readers. One point I would like to see you emphasise: that all the products are market-driven except bank interest, which reacts much more slowly.

I feel people should be strongly made aware that they must purchase somewhere near the bottom of the financial cycles.

If they want to invest when things are booming, it might pay to put the money in the bank and wait for a turndown in the cycle, as we are experiencing now, then take out the money from the bank and buy shares, property or some fund.

This may be a bit simplistic, but it does follow.

I agree that you have to stay with the product you have bought for a number of years.


A: I like your last point - to stick with investments through bad times. The rest? If only.

Let's look first at your bit, about bank interest rates not being market-driven. When I read it to WestpacTrust chief economist Adrian Orr, he said: "That's 100 per cent wrong."

He and his ilk at the other banks spend much of their time watching local and world investment markets.

"Global debt is one of the most traded products in the world, 24 hours a day, real time," he says.

Bank economists must weigh up all sorts of factors, including comments by the Reserve Bank's Don Brash, or his American equivalent Alan Greenspan.

On the strength of the information they gather, they buy and sell financial instruments. The prices they pay feed through to the interest rates charged and paid out at your local bank.

"It's a truly global market, with efficient pricing," says Mr Orr.

The banks don't change their interest rates daily. But they do consider daily which way, and when, they should make their next move.

I suspect that you might think bank interest isn't market-driven because rates don't rise and fall with share and property prices. If anything, they do the opposite.

"Generally, a rise in interest rates is negative for equity markets," says Mr Orr.

Rising rates tend to slow economic growth - partly because companies have to pay more to borrow to expand.

Also, if people can make more in the bank, some will sell shares and move to less risky bank investments. That will push share prices down.

On the other hand, if interest rates fall, that suggests faster future economic growth and higher share prices.

Could we trade on that knowledge? Not successfully. There are so many other factors that influence interest rates and share and property prices that we don't know how much, or when, one change will cause another.

Which leads me to my next point. It would be great if we could all buy at the bottom of share and property cycles. When we look backwards, we often wish we'd bought shares in a certain month, or property in another month.

At the time, though, nobody knows if a cycle has reached its lowest point. Prices might start to rise a little, but next day they might plunge further.

As US businessman and statesman Bernard Baruch once said, "Don't try to buy at the bottom and sell at the top. This can't be done - except by liars."

A far saner approach to investing is to decide how much you want to hold in shares or a share fund, how much in property, fixed interest and so on, regardless of cycles.

Several pieces of research have shown that, for long-term investing - and if you're in shares or property, it should be for the long term - the date you buy doesn't matter all that much.

For example, JB Were & Son looked at an investor who put $5000 into Australian shares (measured by the All Ordinaries Index) every year from 1979 to 1999.

If they bought on the best date each year, their investment would have grown to almost $492,000. If they bought on the worst date, it would have grown to more than $367,000.

Sure, that's only 75 per cent as much. But it's not a huge difference. And, face it, no one is going to always get the best or worst day.

As the old saying goes, it's time in the market, not timing the market, that matters.

Another point: Taxes are much tougher for people who try to time markets, as the next Q&A shows.

Q: I have a question regarding taxation and the sharemarket.

I am a part-time student, and I have been following the sharemarkets for the last couple of years. I have also invested in a few shares, but now I am interested in doing some part-time trading.

I am a bit confused about the issue of tax. I understand that if I "trade for a living", I will need to pay taxes on the profits I make. But does it mean that if I am not a "trader" by profession, then I won't need to pay tax?

Also, if I need to pay tax, how would I do it?


A: The bad news is that you will need to pay tax on gains you make from share trading. The good news, although it's only sort of good, is that you will also be able to deduct your losses.

You're right in saying that "professional" traders must pay up to Inland Revenue. But they're not the only ones.

Under the law, anyone who buys shares "for the purpose of resale" or as part of a profit-making scheme must pay tax on their gains.

Those who hold shares for years have successfully claimed that they bought them for the dividend flow, or whatever, and their main purpose wasn't resale.

Inland Revenue, in fact, rarely goes after long-term holders of shares.

But if you're trading shares regularly, you can't really argue that you didn't buy them with plans to resell.

How do you go about paying the tax? You declare your gains as part of your income on an IR3 tax return. If you're not already an IR3 person, contact Inland Revenue to ask for a form.

If you do well in your share trading - so that your end-of-year tax bill is more than $2500 - you will probably be brought into the provisional tax system. (For more information on provisional tax, go to the Inland Revenues website, www.ird.govt.nz, and click on "Business" and then on "Income Tax". Or you can order pamphlet IR 289 by phoning 0800 257-773. Have your IRD number handy when you call.)

I can't resist adding that I don't recommend frequent share trading.

If there were no taxes or brokerage and other fees, many frequent traders would do well, given that share prices rise more often than they fall.

Unfortunately, though, taxes and transaction costs eat heartily into profits. While some regular traders are lucky enough to do well for a few months, it's rare for a trader to do better over the long haul than someone who simply buys and holds their shares. Quite a few traders end up losing money. You have been warned!

* Mary Holm is a freelance journalist and author of Investing Made Simple. If you have a question for her, send it to Money Matters, Business Herald, PO Box 32, Auckland; or e-mail: maryh@journalist.com. Letters should not exceed 200 words. We won't publish your name, but please provide it and a (preferably daytime) phone number in case we need more information. Mary cannot answer all questions, correspond directly with readers, or give financial advice outside the column.