Phuket Post :: Article :: MONEY MATTERS

There is so much interesting commentary revealed in the financial papers over the last month relevant to long term investment strategy that it is hard to know where to start.

However two items stand out particularly.

First: The newspapers point out that virtually all THE ABSOLUTE RETURN FUNDS rated by Standard and Poors have failed to hit their return targets - not just last year, but for the last three years �most doing hardly better than cash.

A similar story has been unfolding in HEDGE FUNDS now for some time, and last month saw a mega collapse, not quite on the scale of LONGTERM CAPITAL back in 1998, but enough to force Bear Stearns to put up a tidy $3.2 billion of collateral to prevent them going into immediate liquidation - the owners (shareholders) of course have lost everything.

Meanwhile statistics for funds of Hedge funds for the last three years show that their returns have been lower than the FTSE100 every year, and of course compared to higher flying indices like the DAX or Asia ex Japan, they have trailed dismally.

Yet into these �Alternative investments� vast sums have been placed by wealth managers for so called rich clients, largely as a reaction to the losses made in the stock market between 2001 and 2003.

Why have these alternative investments performed so dismally? Basically, as Christopher Fildes stated in his Article: �The Schwed Test - Where are the Owners� Yachts?�; They are trying to do something that cannot be done in the first place: VIZ: consistently �Outwitting the markets�

This is the ultimate proof of Prof Hayek`s thesis: the human mind cannot comprehend anything more complex than itself. Hence the collapse of all �command economies� - where a handful of people, dubbing themselves as superbrains, tried to micro - manage an entire economy with 5 year plans and all the other rubbish.

Stock markets, and for that matter commodity or trading markets, move as a result of millions of decisions taken by different people, with different motives, all over the world at any given time. No human mind or computer, however powerful (and a number of hedge funds actually try to operate on computer calculations based on selected input data), can ever consistently outwit or anticipate correctly the outcome of such a varied and complex number of decisions.

Warren Buffet, the world�s most successful investor, has always ignored market movements and concentrated on buying the right business at the right price - essentially the bottom up approach taken by most successful fund managers.

Essentially, Absolute Return funds and Hedge funds have sold themselves on the basis that they can make money whether markets go up or down - heads you win, tails you win - it sounds too good to be true and of course it is - but it looked a good sales story after the stock market crash of 2001 (Tech) and 2003 (general).

The Long/Short Funds have in fact been among the worst performers, as they depend more than any other on �Outwitting the market�.

It is sobering to read that some of the investment departments of the big banking groups� wealth management divisions have put as much as 80% of clients� money into Hedge funds and Absolute Return funds. The reason is not far to look: Hedge funds pay a bigger backhander annually to the financial intermediaries than any other product seller � such as unit trusts.

As far as the vanilla stock market investor is concerned, who has done best of all in the last 5 years since the crash (this historically has always happened � the most money is always made in the stock market after a big crash - but too few people dare to participate), the arrival of Absolute Return funds and Hedge funds has probably changed little other than raised short term volatility as these gentlemen (forgive the hyperbole) tend to behave in unison, having all lunched together in the same West End pub.

A certain proportion of this �Alternative � money has gone into the stock market, but quite a lot has not, as many Absolute Return funds placed considerable sums in Fixed Interest at a time incidentally which coincided with the twenty year peak of the fixed interest market.

10 year U.S. treasury bonds hit a low of 3% interest rates in 2003 (they are currently yielding 5.07%).

Robin Griffiths, the legendary chart expert, wrote in March 2002:
�On the charts, great bull markets tend to develop a certain shape. Particularly at the very end there is a recognisable pattern. This occurred in Gold at U.S. $830 (1982), in Japan in 1989, and Nasdaq in 2000. It is doing it now in bonds.�.

In early 2003 Bill Gross, the manager of the world�s largest bond fund PIMCO TOTAL RETURN FUND, a $76bn fund, stated:
�The good times in fixed interest are well and truly over�.

Both these experts in their respective fields signalled within months of each other the end of this twenty year BOND bull market.

Now five years on we see why: an increasing array of signals that fundamental inflation world wide is on the up:

- The twenty year slump in metals and commodities and Oil is well and truly over.
- The parallel recession in soft commodities � wheat, grain, palm oil, sugar � food crops generally, looks to be over.
-The deflationary Chinese effect has ended: I.E. Outsourcing to cheap labour is done, and wages are now rising. These will be propelled further as cheap food, on which 50% or more of their low wages are spent, comes to an end.