mindmoneymarkets

Is it just the time of year?

As European politicans cut short their grande vancances to attend to the latest crisis, it's worth having another look how the Halloween effect is once again playing out. 

The theory is that markets perform best between November and May and this has certainly been the case going back to 1990 on the S&P 500. 

The chart below shows three investment strategies: 

1. Buy and hold the S&P 500.
2. Buy in the close in November, sell the close in May. Cash inbetweem return of 3% PA average. 
3. Buy the close in June sell in October. Cash inbetween return of 3% PA. 

Nov-May does give you more months in the market, but they do seem to be the right months. Food for thought...

Value + Momentum Update (PE10)

After reading this post from dshort musing that stock markets are looking a bit rich, I thought I'd update on the performance of the PE10 + momentum.

You can view my last update here and my original post here. 

The basic idea with this model is to use Robert Schiller's Cyclically Adjusted rolling 10 period PE ratio as the value measure. I've used a reading above 20 as the point of being overvalued. Below you can see that historically the S&P 500 has actually spent more time in with a PE 10 reading below 20. 

The second part of the model looks beyond just looking at value. The idea being that markets can be expensive and carry on going higher for years. The best example is the UK Housing market which was expensive for years but kept on going up and up. Even as early as 2003 people were saying they had sold their house ahead of the coming crash, but that was too soon. Prices have dropped, but are still above 2003 levels, so selling based purely on something being 'expensive' is not enough. They might get back down there mind you, eventually in an inflation adjusted basis.

So you need a momentum component. For this I used the 10 month moving average of the market as suggested by Mebane Faber. 

The rule is to buy if the market is above the 10 month MA and sell if the market is below it. The kicker is that this rule only kicks in at points when the market is over valued (PE10 over 20), otherwise you just buy and hold. 

So after all that waffle, here's the updated performance for the longer and shorter term: 

Right now the momentum is almost relentlessly pushing higher, while the valuation level makes it look expensive. The Value + momentum model would keep you in the market until there is a pull back. 

 

Always read the small print...

Hi and Merry Christmas & Happy New year to one and all.

Thanks for reading this blog over the past year. I’ve enjoyed sharing my research over the last year and I’m pleased to be back in the hot seat now my move back to the UK is finally bedded in.

The New Year is a time for reflection on the year’s successes and mistakes. I feel I learn best from my mistakes, especially when I readily admit to them rather than trying to self justify.

I won’t bore you with the details of my first mistake. This was to chose Virgin Media as my internet provider. It took 8 weeks and multiple calls to their call centre to finally get set up only to find the connection not even at dial up speed. I’m there now, but if your work depends on an internet connection being set up promptly then I would seriously think twice before signing up with Virgin Media.

Ok on to my main mistake of the year (actually from past years, but my fault for not checking it sooner).

Always read the small print with investments.

A few years ago I belatedly set up my personal pension. This was before I’d done so much serious in depth research into the impact of trading & investment costs. I wish I knew then what I know now.

I knew enough to keep costs low. I chose a well balanced portfolio of funds with the average annual management fee being 1%. This is actually relatively high compared to other options available, but they were certainly the lowest fees on offer amongst the various funds presented to be by the Independent Financial Advisor. I could have easily gone for funds with annual fees of 2% or higher. I also made sure that there were no initial investment fees in the funds themselves. What I didn’t check was the small print regarding management fees.

Following this excellent article in the Telegraph on high fees UK investors are paying compared to other countries such as The Netherlands, I decided to take another look at my pension.

Here’s a choice quote:

“If a typical Dutch and a typical British person save the same amount for their pension, the Dutch person can expect a 50pc higher income in retirement.”

Why is that? Are the Dutch and the Danes better investors? No, they simply pay lower fees, which have less of a negative compounding effect on your investments.

The original study was commissioned by the RSA with warning comments about the cost of ignorance on costs such as: “When people hear that they are being charged 1 per cent or 3 per cent, they think they are being charged 3p in the pound or 1p in the pound, and think 'that's fine'. But because of compounding, the pension costs actually add up to 40 per cent"

Warning bells

I had a vague memory about exit penalties from the pension if a decide to come out of it early or switch. However I had never paid much attention to how this was actually structured.

My mouth nearly hit the floor when I clarified this recently.

The pension charges me 5% PA on top of the Annual Management fees for the first few years then it reverts to no extra fee and rebates me by 0.4% for the remainder of the pension.

In other words, for the first few years of my pension I have to pay 6% PA in fees for the privilege of getting fees of 0.6% for the rest of my time.

Although they are in the documentation, these fees were certainly not explained to me in these terms by the advisor. Put another way, it would take me 21 years for the benefits of the 0.4% rebate to start beating a set 1% every year.

The exit penalty is a fixed £362 to boot and I have three years of paying 6% before the rebate starts to kick in. I have three years of paying 6% left.

What to do?

There are various pension fund providers in the UK that provide rebates such as http://www.cavendishonline.co.uk/  allowing you to pick up fees in region of 0.6% straight off the bat. The January edition of Which? Magazine also had a great table showing the various providers and the discounts they provide.

The other option is a SIPP provided the set up costs are low. http://www.sippdeal.co.uk/ look a likely option. The disadvantage with a SIPP is that it is designed around individual purchases not regular investments so I would not be able to make regular contributions each month as the transactions fees would be prohibitive. Instead I would have to make annual purchases and pay fixed dealing costs.

The advantage is that a SIPP opens up low cost ETFs and Vanguard funds we fees in the region of 0.2 to 0.4%.

It immediately became apparent that the decision to switch out is a no brainer.

Say I have £10,000 in my pension pot. 6% of that is £600 lost in fees to my current provider every year for the next three years.

If I switch to another provider and pay 0.6% for that year, then it would be £420 lost in fees and charges, £180 better than keeping with the current provider. I’m up in year one with money back to me over the following two years.

However, if I can find a suitable SIPP provider, I may be able to push annual fees down to 0.3% and by making annual purchases I can keep transaction costs to a minimum.

This could make a dramatic difference over the life of my pension.

I would be £7,000 better off on a £10,000 pension switching to a provider giving me fees of 0.6% from day 1 compared to my existing provider. This assumes 5% growth P.A. and contributions rise with inflation. However, the advantage of paying 0.3% per year and a fixed £60 in fees is huge.  Switching to such an arrangement would be worth an extra £40,000 over my current provider.

Aside from the potential for extremely low fees through a SIPP, I like the possibility of accessing ETFs and trackers which I expect to have low hidden fees.

Hidden fees reduce costs even further.

Terry Smith explains more

“There is a justified focus on the Total Expense Ratio (“TER”) of funds which include those expenses which the manager charges to the fund rather than simply on the fund management fee. However, there is one major cost that is not charged to the funds-the cost of dealing in the underlying investments.

This is not insignificant given that, according to FSA research, the average fund manager in the UK turns over their fund 80% per annum. This adds three layers of additional costs: 1. The commissions charged by brokers and investment banks for dealing; 2. The difference between the bid-offer spread for securities sold and bought; and 3. The fact that no fund manager has sufficient good investment ideas to warrant buying and selling 80% of your investment portfolio per annum.”

These costs are generally felt via under performance rather than management fees. I’ve been checking a few ETFS and they seem to underperform the benchmark by a margin that is in proportion to the management fees as expected, but I shall be triple checking this.

Don’t be fooled like I was.

I hope my sharing of this mistake is of use to you. I know the pension systems are different across the world, but from my experience, it does seem that the UK system is highly skewed against investors.

This will become ever more apparent in the coming years as more companies shut down final salary schemes and even the public sector may follow suit if desperate. From 2012 financial advisors will be banned from taking commission on investments which I think will alleviate some of the problems, but not all of them. They will still receive ‘trail’ commission from investments made before 2013.

Of course, this is not financial advice. I hope by sharing my frustrations, it sparks your own investigations.

More musings to come…

Further Reading:

http://www.thersa.org/about-us/media/press-releases/going-dutch-how-to-double-the-value-of-british-pensions

http://www.independent.co.uk/money/pensions/revealed-the-scandal-of-how-pension-providers-rake-in-the-money-2157940.html

 

 

S&P 500 At Volatility Extremes

As a follow up to my last post looking at volatility extremes on the FTSE as measure by the Williams Vix Fix, here's how the S&P 500 measures up:

I used the Williams Vix Fix (WVF) as a Vix type volatility applied to the S&P 500. I then performed a 30 period percent rank of the WVF. I then looked at what would happen if you were to buy the next day after a particular level is reached and stay out of the market otherwise.

Firstly I looked at high volatility measures, when the WVF had a percent rank of 0.75 or above. You can see the results below:

S&P 500

Data is on the S&P 500 back to 2000. No costs, slippage of dividends. I'm just looking for trends here.

The results are similar to the FTSE 100 with buying at volatility extremes working out to be a profitable strategy, albeit with increased volatility.

However buying only during extremely quiet periods has been an poor strategy. Sure its less volatile, but its also less profitable.

 

Here's a comparison of two extremes:

Buying only when the WVF PR was above 0.95.

Sorry I've just noticed the graphs still say FTSE 100. They are not, they refer to the S&P 500 (or Russell, or Nasdaq later)

Buying only when the WVF PR was below 0.05.

Russel 2000

There is a similar effect on the Russell 2000. The improvement in performance at high volatility extremes is less marked, but the impact of buying at low volatility appears to be more consistent (i.e. worse).

Here's the results of buying the Russell 2000 any time the WVF Percent Rank dropped below 0.2. 

Sorry I've just noticed the graphs still say FTSE 100. They are not, they refer to the Russell 2000

Nasdaq 100

There is also a very similar effect on the Nadaq 100, though this is the opposite of the Russell 2000 with the benefit of buying at high volatility extremes increasing and the losses at low volatility extremes decreasing. Interestingly, buying the Nasdaq at volatility extremes actually decreased the average standard deviation of each trade.

Mean Reversion effect?

Is this another example of mean reversion applicable to just the last decade?

The effect is stronger now, but there was still some evidence of its impact between 1990 and 2000. The near relentless bull market during this period no doubt nullified the effect somewhat.

Here's the same test on the SPX from 1990 to 2000.

The real cost of Investing

There's a great series of articles in the UK's Telegraph at the moment focusing on the hidden fees UK investors wind up paying with their investments. The Telegraph did a good number on politicians expenses, so I hope we get similar mileage with this series. Somehow I doubt it, the politicians didn't make up a large chunk of the paper's advertising revenue.

I've touched on this in the past here and in this series of posts. 

The upshot of the articles is that investors in the UK pay much but in fees than other countries such as the US. Often these fees are hidden, meaning investors have no idea how much they are losing out.

Why does all this matter?

Very few companies offer final salary pensions whereby you are guaranteed a % of your salary as an annuity on retirement. Nowadays, they offer various schemes which involve the individual contributing to a company pension plan which has no guarantee of final earnings. Many companies match or even double an individual's contribution which is great, the dangerous part is the pension scheme itself. UK investors may not have much of a choice in the company scheme, often funneled into plans that have high charges and hidden fees.

Again, the Telegraph has a good summary of the problem and how we got to the current status quo.

As I've written about previously, the difference in paying 1.5% in annual fees vs 0.5% is massive in the long run, especially with the evidence in favour of higher fee managed funds being mixed at best.

Now, more than ever the onus is on the individual to do their own research and be fully aware of the implications.

Caveat Emptor and all that.

Advisors:

"Alan Miller of SCM, one of the City’s most successful fund managers, said: “There are insidious relationships across these different parts of the industry. Advisers will never recommend the cheapest funds because they don’t pay commission.” "

It will be interesting to see if things change when the commission ban comes in in 2012. 

Another area of ripe for exploitation is the client side fund managers such as those in change of managing local government pensions.

"Those in charge of deciding how to invest institutional and company pensions also mingle with executives keen to get control of their money. Representatives from huge fund groups – including Goldman Sachs and Schroders – paid £1,670 each to meet managers of some of the biggest local authority pensions at last year’s local government pension fund symposium."

This sort of thing has been happening for donkeys years, its how many businesses work. You build relationships with clients and give them an all round good time in the hope that they swing some business your way.

I've no problem with that per se, the problem comes when these relationships lead to deals that are not in the best interests of the fund's customers AND to make matters worse, these favours can end up being passed on to investors in the form of hidden fees.

Hidden Fees

"Brokers make money by charging commission on the trades. Investors would hope that the broker chosen by their fund manager would be the one offering the best improvement on the price being quoted by a stock exchange.

However City insiders said this is not always the case. One trader said: “I know some people who only use one broker. Some just use their best mates, some are receiving nice presents. People are human.""

The problem wouldn't be so bad if there was any transparency about these fees. They are often absorbed into the performance of the fund, making it hard to get an estimate of how much these extra transaction costs will hit your bottom line.

The Telegraph estimates these transaction costs can add another 1% in fees each year. 

Total Expense Ratio Vs Annual Management Charge

From the Telegraph once again:

Under strict Securities and Exchange Committee rules, US firms advertise the “expense ratio” as the headline figure to would-be investors. In Britain, however, companies are allowed to separate the smaller “annual management charge” (AMC), which is typically used in marketing.

HSBC last week advised a Telegraph reporter to take out their World Selection pension, currently ranked the costliest by the Financial Services Authority. Its adviser only talked about the 1.25 per cent AMC. For a 25 year-old saving £200 a month for the next 40 years, this alone would cost £137,445. At a London branch the reporter, who twice stated he was new to investment, was told: “This is an annual management charge of 1.25 per cent, OK?”

Further inspection of fund literature showed the fund’s Total Expense Ratio was two per cent.

Today I phoned up Fidelity and Clerical Medical to get an estimate of the annual cost that trading and transaction costs incur. They couldn't tell me.

I am still therefore unsure as to whether the so called Total Expense Ratio actually includes all the costs after all.

It appears not and sadly I can get no accurate estimate of this cost.

"The AMC is a quite useless figure; the TER is misleading because it is not total – it does not include dealing charges or, if it's a fund of funds, the charges on the underlying funds," says Mr Waller. "If the buyer knows exactly what the true cost is, he can compare fund manager performance against charges and make an informed decision."

I accept it will vary each year, but neither Fidelity or Clerical Medical could tell what the cost was last year. Fidelity advised me to view each fund company's annual performance and work out the costs from there.

How the hell is this right? How is Joe Bloggs working down the bread factory going to be a) able b) motivated to get this information. 

Transparency is clearly lacking as the Telegraph point out:

"Mr Stevenson says: "Simplistic comparisons between the charges levied on actively managed funds and index-tracking or passive funds miss the point. The two investment approaches incur different levels of cost, so the question is not whether stock-picking funds should be more expensive than trackers (they are) but whether their higher charges are transparent and a fair reflection of the extra resources and effort involved.""

Conflict of interest

The Telegraph have done a great job with these series of articles, but ruin it with one paragraph which is a clear compromise for the active fund management industry which advertise heavily within its pages.

Here's the quote:

The fund groups that charge the most argue that investors are better off paying extra for decent performance. However, a significant number of funds fail to deliver consistent above-average performance year in, year out, and if you are paying a high TER for dismal performance it is time for a rethink.

Ok, completely agree, then we get this kicker.....

It is clearly worth paying a higher TER for consistent outperformance and a high TER does sometimes pay. Take Jupiter Merlin Balanced Portfolio. This popular selling fund has a TER of 2.3 per cent, which is higher than the average – yet it outperforms its peers regularly and is justifiably recommended by many investment advisers.

Let's take a look at that fund:

TER: 2.3%
Initial charge: 5.25%
TER Including hidden fees? Unknown. Potentially as much as 2.75%.

Edit - I made some changes to my original post due to mis-interpreting Morning star's performance figures. General conclusions are the same but less pronounced. My original post went back about 5 years, this data goes back 8 years so results are again slightly different.

Going back to 2003, excluding any fees, the fund would have turned £10,000 into £21,227.05. Sterling stuff, with the benchmark returning £16,330.0

However, if we include the worst case fees scenario (TER of 2.75%). The return is just £16,091, vs the bench mark return of £15,375.67 (Cost of 0.75% TER assumed).

That's over £5,000 in profits pocketed by the fund management firm in 8 years. Including these fees, the managed fund out performs the benchmark by just £700.00.

Still out performance, but there was only one losing year for the bench mark and the managed fund flunked it big time. How would the long term performance stack up if we were able to go back prior to 2003?

Ok so the fund outperforms the benchmark (just), but this is being held up as a shining light example of a fund that consistently out performs. What about the myriad of other funds that did not beat their bench mark? Would investors have had the clear foresight to pile their money into this fund all those years ago?

Perhaps they might have waited for 3-4 years of live performance before investing. In those first 3-4 years, the fund did very well. However, had you invested in the fund after year 4, your £10,000 would be worth £9256 in year 8 vs the benchmark £10,765

Wrap up

After fees, the real take home returns for UK investors is going to be significantly lower than benchmark returns in the region of 8%. This must be taken into account when performing retirement calculations.

Even if you have time to do the research, you cannot get the full facts.

Therefore, in my opinion, it is better to reduce known costs and just hope that these hidden costs are not too exorbitant. One way to control this is to stick to trackers which in theory should have lower turnover and lower transaction costs.

This is not investment advice, I'm just trying to steer through the murky waters.

It certainly makes one question whether equities are worth it in real terms. Though alternatives such as collecting are not exactly liquid, you might get some enjoyment out of it along the way. Then again you may wish to invest and feel good about it. 

I'll be sticking with equities, but keeping costs low and diversifying further away from just financial markets once I've got some major expenses out of the way (Wedding & house). 

I do not doubt there are some very talented fund managers out there, indeed the Merlin Balanced did very well before fees. The problem is that at the investor end, you have to find a fund that performs very well after fees and for that fund to maintain the performance over not just 5 but 10,15,20 years. No mean feat. A fund that charges 3% a year including hidden charges has to beat the benchmark by more than this margin to justify these fees. 

Costs are very very important, but so is performance and tracking error. There's no point buying a cheap managed fund if it will perform even worse than the bench mark. The benefit of trackers is that they offer a cheap way to track a benchmark, yet some of these even charge 1.5% with a load fee.

Momentum Investing

There's so much great stuff out there on momentum/ switching methods that I thought I'd keep a blog page for myself and others noting the best articles/ resources. I'll update this page as I find more materials (As well as making it a bit more organised as more materials are added).

My Rotation Portfolio:

Using ETF Rewind's Rotation tool I set up a portfolio to experiment with a rotation model in May.

Original post here

Update 8th July 2010.

Since inception in May, the portfolio has returned a whopping 1%.
The benchmark FTSE 250 has returned 1.6% over the same period but with much greater volatility. 
The portfolio has been invested 50% in index linked gilts and 50% UK gilts with no changes so far. 

So far the model appears to be doing it's job with the index's outperformance only really coming today after the big jump in equity prices.

Given this week's rally, I wouldn't be surprised to see some changes coming soon with the model.

Rotation articles

• Relative Strength Investing - Meban Faber
• Simple ETF Momentum Strategy - CXO Investing.
• Simple ETF Momentum Strategy robustness/ sensitivity tests - CXO Investing.
  
• Cross asset style momentum - It's not just a stock market phenomenon. 
• MarketSci's series on the Fundztrader sector rotation model.
• AQR Capital research on momentum & value.
• Beta Surfing - CSS Analytics. Part1, Part 2 & Part 3. 
• Relative Strength 101 (CSS)
• Market Rewind's Live rotation models.
• WoodShedder on the ETF rotation model.
• Copstrat Monthly Momentum strategy. 
• Scott's Investments: ETF Relative Strength.
• Great summary of the theory behind momentum investing.

Rotation tools & resources

• ETF Rewind.
• http://www.etfreplay.com/ - Not tried this yet. Looks pretty funky.
• Moose Signals.
• Livermore Active Issues Index (CSS)
• Build an automated Sector Fund System in excel (Not tried this software yet, but looks promising)
• MY Best Funds - Tracking & Ranking of various mutual funds & ETFs.

The opposite end of the scale - Mean Reversion

• Mean Reversion in under performing markets - Mebane Faber
• Combining momentum with mean reversion in over extended trends.

If you find an interesting article in this field, do let me know and I'll add it to the list.

Are you a speculator or investor?

ah back in the blogging saddle after a few weeks worth of heavy work to wade through.

Some interesting posts to investigate, especially the work on the Trend Strength Indicator. I've penciled in some analysis comparing the uses/ benefits of this compared to the TVA. http://cssanalytics.wordpress.com/2010/06/29/trend-strength-index-tsi-results-summary/

Another interesting post from CXO. From my experience I'd agree entirely with these findings, but would be interesting to see a similar study over a different time frame. The study found that those brokerage clients stating they were doing it for "speculation" dramatically underperformed those in it for capital growth.

http://www.cxoadvisory.com/individual-investing/individual-investor-performance-by-motive-and-method/

Post 2000 wasn't exactly kind to speculators! However, I think the same study in different markets/ time frames would throw up similar is less pronounced results.

Certain mirrors performance in my own trading/ investment journey anyway as I change my outlook.

Active vs passive funds

If you haven't seen it, there's a nice argument building on FTfm (Financial Times Fund Management) about the merits of Active vs Passive investing.

I was particularly intrigued given the new UK coalition governments proposals to increase capital gains taxes on shares to 40% and perhaps 50%. The is a backlash against this, so the plans may be watered down when they come out. Any increase in fees will no doubt push more money into tax efficient vehicles such as ISAs or pensions so the choice of what to do within those wrappers becomes ever more important.

Short term/ active trading is one thing -  What I'm talking about here is the supposedly safer, more longer term means by which we save for our future/ retirement. I've covered a few points on this here.

The argument over active vs passive investing will continue for years I'm sure. Naturally there's an element of both sides talking their own book, but I come down on the side of team passive investment. 

Trackers are more volatile .....

One thing that gets my goat is misinformation. I can't find the original link but I read an article in the Telegraph proclaiming that many financial advisers would be sticking to actively managed funds because they were less volatile. This article from the FT came with this quote which is just unreal: "

“One could argue that [passive] exchange traded funds are only suitable for investors who can sustain a 50 per cent loss in a year, given the fact that in the last decade the S&P 500 has suffered two severe drops, one of 46 per cent and the other of 56 per cent.

“One of the most basic things people expect from an investment adviser is that when the market heads south, someone will step in to protect them and help them to recover. ETFs, however, can never meet this expectation.”

Nonsense, he's comparing apples with bananas

A) Who in their right mind is exposed 100% to a single market for their long term investments? There's tons of free ideas out there on how the lay person (I firmly include myself in this) can diversify their long term investments such as investing 60% in stocks and 40% in bonds. The strategy historically performed as well as the stock market alone but with dramatically reduced volatility. With the use of index trackers you could do this with a cost of 0.5% a year or lower compared to a 5% load fee and 1%+ annual management fees from most managed funds.

B) The comment implies investment advisors are superior market timers....Really?

Here's some choice findings that dispute this from the same FT article.

"Yet the figures do not seem to bear this out. The monthly annualised standard deviation, a measure of volatility, of the UK’s FTSE All Share Index was 19.2 per cent during the three years to April 2010.

Yet the average actively managed fund in the UK’s All Companies sector had a standard deviation of 20.9 per cent, ie was more volatile, according to calculations based on Morningstar data."

Alan Miller, partner at SCM Private, a UK wealth manager that constructs portfolios purely of passive ETFs, labels the claims that passive funds are higher risk as “utter nonsense”.

“You are always going to have a more concentrated portfolio in an active fund, and with a more concentrated portfolio you would expect to have higher volatility,” he says.

“When one combines this with the fact that the average UK active fund typically underperforms the market by 1.3 per cent per annum [the average during the five years to February 2010], one can see that most active funds combine more risk with lower return.”

Nowadays individual investors can play the active manager with their own timing models. There is a fair body of evidence to support the idea that momentum models can at least provide superior risk adjusted returns.

Heck these may not play out as they have done in the past, but I'd rather make those mistakes myself as I'm doing with my own rotation portfolio than pay someone 5% upfront for the privilege of making the same mistakes.

The other side of the coin.

In defense of active management, I'm sure there are some genuinely hard working, talented professionals out perform thanks to skill. Something that doesn't make sense is the body of research on the success of simple diversification portfolios and rotation models vs the under performance of actively managed funds.

Do any funds apply these simple diversification or rotation models, or are they deemed to simple? Perhaps they are used, but only work with the benefit of hindsight? Perhaps so, but then we get back to the issue of risk. Where do the risks lie with passive/ index investing vs active management investing?

For me it comes down to this - Irrespective of whether you buy and hold with diversification or rebalance based on momentum, for the average investor you have a choice. With passive funds you're guaranteed to not out perform the benchmark, but in compensation you'll pay lower annual fees. With active funds, there is no guarantee you'll even track the benchmark let alone beat it. However you are guaranteed to pay more each year in fees which can eat up to 25-30% of your gains in the long run.

As a risk/ reward pay off in these terms, passive investing makes sense to me.

Further reading:

• Fund charges exposed as fees outstrip returns. 
• Tracker funds take a tumble. 
• Don't tar all actives with the same brush
• Data subverts attack on index trackers.
• Twisting the facts on active management.
• Active managers - Skillful, lucky or useless?

Extended volcanic weekend reading

I've had a lot of time to kill over the last few days thanks to busy travel schedule made even busier by the volcano. We were due to fly from Vancouver at 4 on Thursday via the cheapo Canadian Affair (Thomas Cook airlines). The website kept saying the flight was due to leave for Gatwick at 7.15 PM, just 3 hours delayed. Several phone calls to their customer service claimed the same. This was despite everyone else in the entire world knowing that Gatwick was closed unlikely to open in time for us to land. 

Shoddy customer service is par for the course in my experience with Canadian affair. With low expectations we arrived at the airport, walking past the closed BA desks to a small but confused mob of people at the Canadian affair desks.

One hapless chap was trying to tell us what was going on, not helped by the fact that not a single Canadian affair central office bod had deemed it useful to stay up late, so no-one at their end could be contacted.

The plan was to fly via Glasgow then a 12 hour coach ride down to London. People we confused as to why crappy little Thomas cook was flying and not BA etc. The captain was brought out to explain that Glasgow was open and the cloud had lifted over that airspace. We had been given one of the slots in the lottery.

Eventually we took off for Glasgow, but landed in Manchester with a mercifully shorter coach ride to London. We didn't realise just how lucky we were to make the wedding on Saturday until we saw the news in the UK and saw the full extent of the flight ban.

Anyhoo, on to the book review....

The delays over the weekend weren't too bad and with all the travel we've been doing, I've been able to finish off too very good books. 

Reckless

The first is Reckless: The Rise and Fall of the city by Phillip Augar. I was a big fan of his previous book - Merchants of Greed, written about the dangers of investment banking from a first hand perspective. It was very well researched and prescient given what was to come with the Credit Crunch.

Reckless (also released as Chasing Alpha), takes a wider look at the City of London and how it rose to prominence in the last couple of decades and the implications this had during the credit crunch. Augar takes a look at the political, regulatory and geographic factors that all contributed to the city's success. The FSA's light touch regulatory environment played a crucial role in ensuring business took place through London.

With the election debate raging in the UK, the political implications are fascinating. The book is apolitical, explaining how previous governments all played their part. The biggest blame has to go to the most recent labour govt though as the city boomed to dangerous levels under their watch. It seems the govt was too entranced by the money pouring into public coffers to dare question the risks that over reliance on this sector posed. Rather like the banks and hedgefunds themselves who were quite happy to dance until the music stopped.

I enjoyed the book and thought that the sections on regulation and the history of the city were particularly strong. Some sections were disappointing though with the section on Northern Rock revealing nothing more than has already been reported elsewhere.

I'd recommend it though particularly with the UK general election round the corner. This and the next book I'll be mentioning both give lie to Gordon Brown's claim that Britain has been an innocent victim of a US led global credit crunch.

Far from being an innocent victim, consider the following:

• 50% of the dangerous OTC derivative trades went through London thanks to the light touch regulation. The recent Goldman's headlines involve a trading working from a desk in London.
• The same regulation played a role in the collapse of Lehman brothers thanks to the use of their repo 105 accounting sleight of hand, made possible by lighter UK accounting rules. 
• Many British traders were involved in the creation of the Credit Default Swap market as Gilliant Tett outlines in her book I review below.
• AIG Financial Products was the division of AIG responsible for the Lion's share of the firm's losses due to taking on CDS liabilities. This division based mainly in London. 

Fool's Gold

With irony, I finished Gillian Tett's Fool's Gold, just as the news was breaking on the Goldman Sach's charges. The story chronicles the creation of Credit Default Swaps and other OTC derivatives by focusing on the small JP Morgan team responsible for their creation.

I was absolutely gripped by the narrative. Not only is the book well researched, it is a heck of a good read. We start with the tales of the close knit group excited by the financial game changer their created and move forward through the years as other banks latch on to the idea without fully understanding its implications.

The JPM team originally applied CDS to commercial loans but couldn't figure out a way to apply to mortgage securities due to lack of past data and concerns over correlation. Other banks quickly out paced JPM with their derivatives trades as they applied CDS to the one area JPM couldn't get to work - mortgages. Three times they tried to figure out what they were missing, what other banks had spotted that they couldn't and each time stepped back from the deals.

The truth was quite simple as the Goldman's case implies. Other (investment) banks either did know about the risks and pushed through deals anyway, or just didn't understand what they were buying and selling. 

The are some incredible lessons to be learned for ones personal trading such as not trading markets,  ideas or strategies you don't understand.

I found Fool's Gold to be absolutely fascinating and highly recommend it.

Investment cycles

Fascinating set of posts from from DShort on the annualised total return roller coaster.

The real (accounting for inflation) annualised returns on the S&P 500 have varied over a 5 year rolling period from -13.22% to 33%. The 30 year cycle is still volatile but still no guarantee of super- varying from 1.91% to 11.16%.

I first got interested in investing in 1997. My dear Grandfather passed way and myself and my sister were given a few thousand as an inheritance gift. Having seen his 'PEPS' double over 5 years (Forerunner to ISA, UK version of 401K), my Father thought it would be a good idea if we invested it in a similar scheme.

My expectations were high, but you can guess where it went next. Over the years I tracked it going up while at University and down just as I was leaving. And down and down. Then the recovery and thankfully I cashed it in as I needed some money to fund a business venture. In the end I didn't finish too far down. I cannot blame my Father's advice, infact it was a gift in sparking my interests in financial markets. He's not a financial professional by any means and was acting like most people based on the 'independent' advice of a financial advisor and the experience of his previous investment doubling. 

I believe posts like this should be shown to anyone looking to invest in the stock market. We're told that timing the market is no match for time in the market. Well time in the market certainly decreases your chances of posting real term losses, but it appears an awareness of where you are in the cycle could have an important role to play.