Four lessons of the wealthy

December 27, 2012, 3:24 pm Peter Switzer Yahoo7

The big investing lessons from 2012 we take with us into 2013.

As one year ends and another begins, the critical questions we have to ask ourselves are: what did we learn in 2012? and how will it help us in 2013?

Lesson number one

The first big lesson is that confidence is everything when it comes to stock markets. That lesson has been tested in recent weeks with the US Congress and President Obama politicking as the economy edged closer to the ‘fiscal cliff’.

In this case, confidence was not doing its usual trick and dashing to the disastrous expectation, with markets holding up as the belief was a solution had to happen.

Maybe many investors believed the Winston Churchill assessment of the Yanks, which went this way: "The Americans will always do the right thing... after they've exhausted all the alternatives."

Failure not an option
However, the real test of confidence was when the European Central Bank boss, Mario Draghi uttered those forever memorable words: “Whatever it takes.” This told those punting against economies such as Greece, Spain and Italy, as well as the longevity of the Euro zone, that the ECB was going do whatever was necessary to prevent failure.

Though some markets rose anticipating this kind of commitment from the central bank of Europe, when Draghi spelt it out, stock markets rebounded around the world. It explains why our S&P/ASX 200 index was up over 14% for the year.

Lesson number two

The next lesson was that both of our key policy-making bodies — the Reserve Bank of Australia and Federal Treasury — completely misread the state of confidence and its importance to our economy.

The crucial time of the year was May, when the Budget for 2012-13 was outlined by Treasurer Wayne Swan. In bold fashion he predicted his disappointing $44.4 billion deficit, which eventually ended up being $43.7 billion, would shrink to a $1.5 billion surplus. By the way, the deficit for last financial year was supposed to be $22.6 billion, so it was a big miss!

At the time, the usual anti-Labor press said the surplus was pie in the sky, which the Treasurer has recently nearly admitted as well, but at the time I argued the surplus was a chance provided the RBA came to the party and cut rates.

It was obvious that our economy was slowing and the mining boom was losing its “oomph-factor” and so the central bank had to do whatever it took to get consumers and businesses spending again.

It did cut 1.25% over the year but it held fire in July, August and September, cut in October, held in November and cut again in December. Also the banks were not passing on the full amounts.

The May cut before the Budget of 0.5% was the best move but then the Bank got cold feet and effectively undermined its own policy to excite consumers and businesses to spend.

Off its game

Confidence is a tricky game and the RBA played it poorly though it might have had the best of intentions. Now we have expert banking economists who were negative on cutting for many months of 2012 now saying the current cash rate of 3% will go to 2% next year! They got it wrong too.

Former RBA boss Bernie Fraser and then Treasurer Paul Keating got interest rates wrong in the late 1980s by raising by too small amounts and too many times and so the cash rate crept up to 17.5 per cent!

At the same time Treasury has kept alive the idea that a Budget surplus could be achieved despite the terms of trade falling by 14.4% in the year to September. Treasury was expecting a 4% fall in the 2012-13 financial year, showing that someone in Canberra needs a better forecasting model.

Lesson number three

The next big lesson is never underestimate winners such as the USA and up and comers like China. These economies grew better than expected and will do so next year.

I recommend you tread very wearily when you hear the big gloom and doom forecasters. The likes of our own Steve Keen and America’s Nouriel Roubini have been credited with getting the market collapse of 2007-2009 right but if you listened to them, you’d have missed market rebounds in 2009, 2010 and 2012.

The Dow Jones index has gone from a low in March 2009 of 6,547.05 to a current level of 13,114.59! Meanwhile, locally, if you had bought into the stock market in March 2009 and your investment tracked the S&P/ASX 200 index, you would have made 47% over that time in share price gain and if you averaged 5% returns on dividends, you would be up about 67%!

So by ignoring the big call merchants you would be a lot better off.

And the final lesson

The final lesson for anyone trying to learn and then profit from those insights is that you can’t treat investing like punting. You need to look at the big lessons from years of investment history and come up with a plan that consistently makes money for you.

Those who believe stock markets make about 10% per annum over most 10 years where three years could be negative have done well this year and most years for the past 40 years I have been watching markets.

If you are too cautious like the RBA you could miss out on great opportunities but if you believe with blind faith that experts such as Treasury have a faultless model, like Mr Swan learnt, you can come a cropper.

Don’t get brought undone

It’s the chopping and changing of an investment strategy that brings many investors undone. I suggest for 2013, believe that the USA and China will grow better than in 2012 and that even Europe could show some positive signs near the end of the year.

So what do wealthy people do?

Invest in good companies that pay dividends and when stock prices fall for these companies as markets sell-off then see it as a buying opportunity.

Warren Buffett says he has an elephant gun and its loaded but he hasn’t seen a big enough elephant at the right price to make him take a shot. That makes me feel confident about 2013 and I really hope that the Treasurer and the RBA have learnt enough from this year to give our investments a helping hand next year!

Stock Quotes

e.g. BHP, CBA