Alan Clarke: Beware of following the group

A crystal ball would help predict future booms and busts.

Over the past four weeks, we have looked at the main issue around forecasting and whether we can predict a boom or a bust. And of course we could easily fall into the trap of using hindsight - the investors' worst enemy.

Conversely sometimes it seems so obvious. About three weeks ago, the New Zealand dollar was very high and the price for milk solids - our biggest export - had been falling sharply all year, down 42 per cent. It seemed obvious that the New Zealand dollar was too high, and indeed it has fallen against the US dollar from 86 cents to 81 cents - a fall of 6 per cent so far.

But that is right now, what about next week ? Yes, the high New Zealand dollar did seem obvious, but who would be brave enough to take a big position? Professional currency traders often lose big money, so it is not that easy.

Picking the top of a boom is important for all sorts of people:

*All investors.
*People with businesses or farms to sell, or who are thinking of selling.
Business owners and farmers.
*People, businesses, and farmers who have lots of debt.
*People who own more than one house, or who have an expensive house.
*People who have most of their money in one big asset.
*People who own shares.
*People who own a lot of bonds.
*Tourism. A falling Kiwi dollar may attract more tourists, so not everyone will hurt if New Zealand has a sharp economic slowdown. But if it is a global slowdown, tourism will hurt too.

The signs
*When the price of an asset rises very quickly.
*When the masses are getting all excited about something "hot" and all piling in.
*When the masses are bragging about big gains, and are buying bigger houses, new cars, beach properties, farm run offs, and lots of shares.
*Sometimes the economists are right.
*House prices at insane levels.
*If interest rates are rising and getting quite high, it will usually be the RBNZ trying to slow an overheating economy down.
*If our main export prices fall a lot, beware.
*But don't place much value on the TV news, look for more in-depth information.

Action to take
*If you have most of your money in one big asset, free up some time to think - a lot.
*Average your way out of any big holdings - sell some now and some later, since you can't pick the exact top.
*Increase your cash holdings to reduce your risks.
*And if you have cash, you will be able to go out buying when things are cheap again.
*Do the opposite of the masses - if they are buying, start selling (and vice versa).
*Diversify widely.
*If you will soon need income from your assets, do a major review - now.
*Always have some investments that can quickly be turned into cash (eg bonds and shares).
*Never have all your assets in New Zealand.
*Learn from your mistakes and history eg what would have worked in 2007?
*Always rebalance your shares - paper profits come and go.
*Only ever buy high quality bonds - junk bonds are just that, junk.
*Learn and understand diversification.
*Learn about hedging into the New Zealand dollar, and what it means.
*If you are retired and are going to spend a lot of time offshore, put more money offshore.
*Don't over-react - replace fear and/or greed with a rational approach.
*Make a plan and carry it out - "softly softly catchee monkey".

Next week - can we pick the bottom of a bust, and go out buying good stuff cheaply?

Alan Clarke is a financial and retirement adviser and author. His second book, The Great NZ Work, Money & Retirement Puzzle is available at www.acfs.co.nz.

Alan is an independent authorised financial adviser (AFA) FSP26532; his disclosure statement is available on request and free of charge.