One of the powerful elements of a competitive society is innovation. New products, services and ways of doing things are always being developed.
Investing is the same; it evolves over time.
The speculative stage
In the 1960s, the main share investors were institutions and big superannuation funds. The few individual share investors were hands-on speculators. They did not have the tools to properly value shares or build portfolios. A lot of it was based on emotion and chance.
The relative return stage
By the 1980s, more research and improved technologies led to fund managers building diversified portfolios and being able to better manage risk. Typically this was done by comparing performance to a benchmark like the All Ordinaries Index or MSCI indices.
The 1990s saw a boom in managed funds. Thousands of funds became available to the general public. Amongst share funds, investors have a wide range of choice: for instance, blue chip funds, imputation funds, small companies and international funds.
Relative return investing is a bit like sailing. You have some control over the direction you are heading but if there is no wind, you will drift — and that could mean going backwards for a while.
The absolute returns stage
If there is no wind or it’s blowing in the wrong direction, the alternative to drifting is to get the oars out and row. And that is what absolute investing is all about.
Rather than tracking an index, the new breed of managers is taking a much more focused approach to finding investment opportunities.
Some characteristics include:
- They have a wide investment universe and tend to measure performance against cash instead of being constrained by an index.
- They seek to buy undervalued shares and are prepared to ‘short sell’ over-valued shares. This means they can profit whether the market generally goes up or down.
- They may borrow to take advantage of more opportunities.
- If there are no good opportunities, they may hold significant amounts in cash. They don’t invest for the sake of being invested.
- They focus on risk ahead of return, to minimise the chance of losses.
Market observers are saying this is the way of the future. Only time will tell.