Advances in communication technology and the increasing dominance and sophistication of the internet have made it possible, in many spheres of life, to “do it yourself” – from making travel bookings to diagnosing ailments. One area in which technology enables you to go the DIY route with relative ease is investment and financial planning, Henry van Deventer says. Although there are many benefits of DIY, there are accompanying dangers.
At the final session of the Acsis/Personal Finance Financial Planning Club, Van Deventer, who is a regional head of wealth development at Old Mutual Wealth, discussed the future of investing and financial planning, paying specific attention to technological advances.
Technology’s impact is being felt in a number of ways, he says. First, it makes investing far easier and cheaper to do on your own. Second, through the internet, it provides all the information you need to make investment decisions and provides an ever-increasing amount of choice. And third, there has been a proliferation of specialised software packages and websites for both investing and financial planning, aimed at the man in the street.
EASIER, CHEAPER, BUT NOT NECESSARILY BETTER
In the past, Van Deventer says, investing, particularly on the stock market, was an expensive and relatively laborious affair, requiring physical consultation with an investment or stock broker. Today, it is easier and cheaper than ever before, either to open a stock broker’s account online or to buy and sell collective investments. But the problem with being able to enter and exit the markets so easily is that you tend to focus on the short term.
Van Deventer says he recently did a presentation for a group of professionals, including accountants and engineers. The talk among them was quite predictable: “I made five percent over the last week.” “Oh, I made only two percent. Where did you invest your money?”
If we start focusing on the shorter term, Van Deventer says, we start making shorter-term decisions, and good short-term decisions are rarely good long-term decisions.
Another pitfall with DIY investing is over-confidence, or “illusory superiority”. He says research shows that 90 percent of people believe they’re above-average drivers, and the same applies to investors. We tend to be over-confident of our abilities to manage our investments and make the correct investment decisions.
“If you want to trade online – and over the next 10 years it’s going to be increasingly easy to do so – that’s absolutely fine, but beware of being over-confident,” Van Deventer says. “By the way, it’s not just you and me who suffer from over-confidence – some investment managers also do.”
Over-confidence is reinforced by what is known as confirmation bias. We tend to home in on information that confirms our opinions, and reject everything to the contrary. Hence we lose sight of the bigger picture.
So managing your own investments is not a bad thing, Van Deventer says, but be sure to be honest with yourself about what’s working and not working, and how to measure your success. Otherwise, things can go horribly wrong.
INFORMATION OVERLOAD AND INCREASED VARIETY
One of the challenges of the internet is the amount of information it makes available, Van Deventer says. In the past, to find out about the different investments available, for example, you would have needed to consult your financial adviser. Now, any question we have about investments we can answer ourselves – “it’s just a couple of keystrokes away”.
We also have far greater variety than ever before, made all the more accessible by the internet. Here in South Africa, for example, there are now more than 1 400 unit trusts to choose from, to say nothing of other types of investment and other investment regions.
So is all this choice a good or a bad thing?
Van Deventer refers to a supermarket experiment in which people were asked to choose from a large selection of jams (see “Spoilt for choice”, below). He says a drawback of being presented with so much information, or so many choices, is that we become so fearful of making the wrong decision that, instead, we don’t make a decision at all.
To get the best out of all this information and variety, we need to understand ourselves and what we are looking for in terms of our investments. There are three basic approaches we can take:
1. Focus on the highest possible return. Most investors take this approach, but only up to a point, because the higher the return, the higher the risk. So, at some stage, the risk will outweigh the potential returns, and “our gut will turn against us”. This usually leads to disaster.
2. Focus on the lowest costs. Technology is fantastic, Van Deventer says, at providing us with low-cost investments, such as exchange traded funds. The greatest danger here is we become so cost-conscious that we end up choosing investments that have little chance of achieving our growth objectives.
3. Strategic approach. Instead of aiming for the highest returns at lowest risk, you could look at a return target of, say, four percent above inflation. You then find ways to invest your money so that you have the best possible chance of achieving that objective with as little risk as possible. “Bearing in mind that investors react twice as emotionally to losing money than to making money, this approach is most likely to provide peace of mind and keep you on track,” Van Deventer says.
It is in the third approach particularly that the financial planner still has an important role to play. But it isn’t just in providing knowledge, the value of which has decreased substantially over the past 10 years.
“In the past,” Van Deventer says, “we looked to professionals for knowledge, but now it is for guidance, because we can obtain the knowledge so easily.
“So it becomes a question not of what can I do, but what should I do.”
And if financial advisers are to remain relevant, it will be in the role of providing guidance, he says.
We are increasingly bombarded by messages advertising online investment schemes: “Become a pro at trading forex!” or “Trade shares from your own home with our guaranteed system! Fantastic returns!”
These share-trading software packages are based on pattern recognition, Van Deventer says. By identifying certain patterns and how markets behaved in the past, the system makes predictions about how markets will behave in the future. And this appeals to us, because the brain is a backward-looking, pattern-seeking mechanism. But with investments, Van Deventer says, looking backwards counts for almost nothing, and there is no fancy software that will make you better than a professional investment manager. And the system will probably cost you an arm and a leg.
So, it comes down to the old saying that if it sounds too good to be true, it probably is.
Another increasingly common phenomenon, says Van Deventer, are “robo-advisers”, alluding to the 1980s science-fiction film Robocop. He says there are some great websites that help you to understand what your risk appetite is and how to put a portfolio together. Some even automatically rebalance your portfolio. And these seem like good tools to help you to manage your investments. But there are a few areas in which robo-advisers cannot yet compete with their human counterparts:
* Helping you understand what you need your money for in the first place; and
* How your portfolio reflects your individual needs and circumstances, taking into consideration, for example, ways to minimise your tax bill.
A robo-adviser of tomorrow equipped to take all your personal variables into account might be a threat for the financial advice industry, Van Deventer says. But he says it is more likely that this type of software will become a tool that will supplement what financial planners can offer – in which case you’ll need to be really sure about the value of the added “human” advice.
SPOILT FOR CHOICE
An experiment carried out two decades ago in the United States showed that too much choice may actually inhibit your decision-making or push you into a decision that is not in your best interests.
The New York Times reported on a study done in 1995 by Sheena Iyengar, a professor of business at Columbia University.
In a supermarket in California, Iyengar and her assistants set up a booth of jam samples. Every few hours, they switched from offering a selection of 24 jams to offering a selection of just six jams. On average, customers tasted two jams, regardless of the size of the assortment, and each customer received a coupon for $1 off a jar of jam.
The professor found that 60 percent of customers in the supermarket were drawn to the large assortment, while only 40 percent stopped to sample jams at the small one. But 30 percent of the people who had sampled from the small assortment decided to buy a jar of jam, whereas only three percent of those confronted with the two dozen jams bought one.
The New York Times reported that, according to Iyengar, the study “raised the hypothesis that the presence of choice might be appealing as a theory, but, in reality, people might find more and more choice debilitating”.