Ultima Financial Planners - News

As financial planners, one aspect of our commitment to our clients, is to continually be on the lookout for possible scams and investment fraud. Ian De Lange from Seed Investments wrote the following article which we believe is crucial to trying to avoid investment scams.

This week South Africa was rocked with an investment scandal, that in terms of the purported sheer size of up to R15 billion, will dwarf any previous scams. While we know that despite tight regulations, there will always be scams looking for culprits, it is very important that investors assess counterparty risk before an investment is made.

In the alleged scam of Tannenbaum billions of rands were invested into a private operating company promising investors fantastic returns. It amazes how supposed smart investors apparently put in millions without a hint of due diligence.

I found this on the CFA (Chartered Financial Analyst) website, adapted slightly for local situation. There are no guarantees, but with investments it is vital that counterparty risk is reduced to as close to zero as possible.

10 tips on avoiding investment fraud – posted after the Bernie Madoff scheme came to light.

1. Understand clearly the investment strategy – “Some investment opportunities appear alluring simply because they are described in impressive, complicated terms. Investment strategies and financial products should be clear and understandable. The nature of the risks involved can vary widely and should be well understood. Even the venerable Peter Lynch advised people to invest only in what they understood – advice he abided by in his successful career. If you don’t understand it, stay away.

2. Match investment strategy to reported performance – One of the red flags in the Madoff affair is that reported performance was too consistently good. Other investment scams, popular on the internet, purport to use ultra-safe “prime bank” financial instruments from the world’s largest banks. E-mails that promise double-digit returns are incongruent with the safe investment strategies they purport to offer. Also, find out if the firm has its reported performance numbers independently audited, who audits them, and if possible whether these figures comply with Global Investment Performance Standards, a set of ethical principles for calculating and reporting investment results.

3. Watch for e-mail solicitations and Internet fraud – The internet is a low-cost way for scammers to reach millions of people. Unsolicited e-mail messages offering you investment opportunities that sound too good to be true probably are. Online bulletin boards and electronic investment newsletters are also fertile ground to disseminate false information on thinly traded stocks for a pump-and-dump scheme. Treat information from unknown sources on the internet with great suspicion.

4. Be wary of “sure things,” quick returns, and special access – Legitimate investment professionals do not promise sure bets. Legitimate get-rich-quick schemes simply do not exist. Scammers often make the implausible combination of safety and high returns seem plausible by granting you “special access” based on your relationship with a mutual acquaintance or affiliation with a specific religion or ethnic group. Also, understand clearly the terms by which you can redeem shares or exit the investment. When can it be done and what are the fees? Ponzi schemes become unsustainable when investors pull out their money.

5. Understand what, if any, regulatory oversight exists – Fraud may be less prevalent in regulated settings, like mutual funds. Hedge funds are less regulated than mutual funds and the risks must be carefully analysed.

6. Assess the operational risk and infrastructure – Any investment management operation should have a physical infrastructure for trading and administration. Ask to see them and inquire about the firm’s processes and controls. It is important that a firm have separate, independent operations for asset management, trading, and custody to provide checks and balances against fraud.

7. Ask about independent audits and who performs them. An auditor should be independent, reputable, and congruent with the size and scope of the investment operation.

8. Assess the personnel – Ultimately, the reliability of any operation is predicated on the integrity and competence of its people. So find out who makes investment decisions and who implements the investment strategy. They should be separate people with relevant experience, education, and training. Credible investment professionals speak knowledgably and comfortably about their professional standards.

9. Perform a background check. If an advisor firm or investment manager is not listed with the FSB (www.fsb.co.za), find out why. If they are, make sure their record is clear.

10. Limit your exposure – One of the surest ways to avoid the catastrophe associated with investment fraud is to limit the amount you invest. Diversification is one of the most fundamental and enduring investment principles. Investors often expose themselves to unnecessary risks by concentrating their funds in one or two securities. By limiting your exposure to five to 10 percent of your assets, the principle of diversification can protect you if an investment turns out to be fraudulent.

Although these points cannot guarantee that you will avoid investment fraud, they will increase the likelihood that you will make smart choices.

Eighteen months ago, investors were euphorically excited about investing in shares. Risk or the danger that shares could ease didn’t play any role in decision-making. The situation at the time was almost reminiscent of vultures at a carcass.

The rest is, as they say, history. Shares are dead, or at any rate, they are like a disgraced family member - the family prefers not to talk about the situation.

The investment environment has indeed changed fundamentally.  Large companies with previously proven yield histories of more than a hundred years suddenly no longer exist. The market capitalization of others that survived has shrunk alarmingly. 

Investors are thus afraid with good reason. Few people have lived through such an economic crisis in their lifetime. Lifebuoys thrown out by governments to stabilise the economies have had little influence so far.  

Our own economy is only now really starting to feel the cold winds of change while experts warn that the worst is yet to come.

Shares are thus dead with good reason … or are they really? Although no experienced vulture will leave a fresh carcass in peace, the danger exists that investors may be allowing the biggest investment opportunity of their lives to slip through their fingers.

Although nobody can correctly predict the turning point of the bear market, several fund managers agree that there are many companies out there who will successfully survive the storms. The market has the tendency to turn while economic news is still very dark.

Could it be that investors will be caught on the wrong foot again?

If you are young or perhaps began saving recently, you can lay a solid foundation for the future by investing in a focussed shares investment strategy. In future, do not become panicky when such negative economic times re-appear. Remember that markets always move in cycles and by investing more when the markets are easing, you can really improve your total yield over time.

If you are already retired and withdraw an income from your portfolio, you must diversify to effectively counteract the negative cycles. Make sure that you have a tested investment strategy and stick to it in the long term.

If, in the longer term, the top business entrepreneurs can’t do better with their capital than a safe bank investment, then shares are indeed dead. 

Shares are dead - long live shares!

In these unprecedented volatile and uncertain financial times we often hear people say that they wished that they had rather invested in a risk-free investment, often alluding to money market funds as being risk free. The sad news is that “….there is no risk-free[1] investment.”

If we forget about the equity market for a minute and focus our attention on money market funds, I will look at the risks money market funds are exposed to:

1. Negative real interest rates
2. Credit risk
3. Liquidity risk

Negative real interest rates

This equates to the decline of purchasing power. If the rate of inflation exceeds after–tax interest rates, then the spending power of your capital in a money market fund will decline over time. This will happen even if you choose to reinvest your after-tax income. You might well say that you prefer to go backwards slowly and predictably rather than very abruptly as happened to equity markets in 2008. However, most investors probably do not want their capital to go backwards indefinitely.

When in trouble to meet their obligations, Governments around the globe might resort to printing money indiscriminately or engineer negative real interest rates. We would then end up being like Zimbabwe. If you had invested your money in an Zimbabwean money market you still would have had all your capital intact but unfortunately it would be worthless in terms of purchasing power.

Credit risk

Money markets invest in debt instruments or ‘IOUs’ which oblige the issuer of the IOU to repay a fixed money amount on a specified date within the next year. If the issuer were to go ‘bankrupt’ and default (in other words not being able to pay the full amount when it is due) the fund and the investors would bear a loss.

One way money market funds try to address credit risk is to invest the fund in a diversified portfolio of debt instruments issued by a range of issuers. This is done so that any potential losses arising from the default of any one issuer will be constrained to a limited portion of the fund’s portfolio.

The benefits of diversification will be tempered if the default of one issuer sets off further defaults by other issuers in a domino-effect crisis, as we saw happened globally in 2008. In the event of a systemic crisis like this, governments around the world have typically stepped in to shore up and stabilise the financial system.

Liquidity risk

Extreme circumstances can heighten liquidity risks. In most circumstances investors in money market funds can give one day’s notice of their intent to withdraw all their funds. All capital invested in a money market fund is not invested on a call deposit as the managers think it is unlikely that all the fund investors would suddenly want to withdraw all their funds on the same day.

By investing in longer dated paper fund managers can improve the yield earned by the fund and the investors.

Very importantly; in extreme circumstances (such as were experienced in the US money markets in 2008), withdrawals can be unexpectedly large, and this may force money market fund managers to sell its longer dated paper in order to fund the withdrawals. If this paper is sold at a loss (as there may be other money market funds all trying to sell the same paper at the same time), then that loss will be borne by the money market fund and the investors.

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2008 - what a year it has been! We saw what is arguably the most volatile market condition experienced by investors during the past 50 years. Please carefully read the insert accompanying the latest InContext report. This insert was written by Andrew Bradley, CEO of acsis.

Two myths about the financial services arena exist among the larger public. The first one is that people’s randomly chosen pension benefits will be sufficient provision for their retirement, and the second one is the perception that financial advisors are only interested in hard selling.

The first myth is dispelled by statistical facts showing that more than 90% of people relying only on their employer benefits when reaching retirement have insufficient provision. At Ultima, we also want to change the perception about financial advisors through healthy client relationships and by focussing on clients’ real, long-term needs and goals using a tested, robust advice and decision making process.

We are able to assist clients by forming strategic alliances with world-class companies at the forefront of innovation and technology and by doing research on financial markets, economies and investment. Our planners are well-skilled and diligent when it comes to assisting clients in making well-informed decisions and implementing them cost-effectively. Our aim is giving you lifelong peace of mind!

We would like to use this opportunity to reflect on your relationship with Ultima within the broader financial planning community. Although our founding members have been practicing for much longer, Ultima was formed in 2000. The aim was to be a unique, independent financial planning service provider that helps clients to achieve their financial goals and commitments reliably over the agreed time period. As the investment environment grew more and more complex, we identified the need for a partner who would research local and international investment markets and who would provide us with feedback on the most appropriate Fund Managers with regard to achieving the desired outcome for our clients. After research done in 1999, we decided to appoint the independent financial planning company, acsis, as our research and implementation strategic partner. Although we have this partnership with acsis, we remain independent as we do not hold shares in acsis nor do they hold shares in our company.

It is important to note that we regularly evaluate the service acsis provides us in order to make sure it’s the most appropriate and cost-effective. Since their appearance in 1999, many local companies have tried to emulate what they offer and we evaluate these offerings on an ongoing basis. To date we have not found any one company that can match their local and international research capability or their robust framework and processes in putting together the various asset allocation models when targeting a specific return.

The other area in which we believe it necessary to give clients peace of mind is the safety of their money. Every day some or other new scam hits the headlines, robbing people and more often than not, pensioners, of their hard-earned capital. Although it’s hard for most people to identify a scam, we believe that our clients’ money is safe only by using the safest vehicles, namely Collective Investments, Endowment and Pension Structures. None of our clients’ money is ever invested in our company or reflected on our balance sheet, but the money is held by independent custodians such as Standard Bank Nominees. As a result we can confidently state that your money is safe with us.

The continuity of Ultima as a business could also be a concerning factor. What happens to your money if one of the principals dies? Again, in terms of the FAIS Act both principals are also Key Individuals duly approved and registered with the FSB. That means that should one of the Key Individuals die, the business can continue because all the legislative conditions have been satisfied. In January we aim to have five qualified financial planners on board. The presence of this professional team looking after our clients’ every need should provide sufficient peace of mind.

We want to thank you for your ongoing support during the past year despite volatile and trying times. We also want to thank Ultima’s staff for their continued commitment and support of you, our valued client. Without our excellent team it is impossible to offer sustainable service.

26 October 2008

I believe we are going through some of the toughest times experienced the past 80 years. Unprecedented volatility is experienced every day on the markets. Unlike previous down markets, this time the whole world is in turmoil. Many of us will definitely feel the urge to jump ship to what we believe is safer asset classes such as bonds and cash. I believe this would not be the correct strategy as the long term prognosis for equities is still good. I came upon a recent article written by Warren Buffett which I think will benefit all of us while we go through these trying times.

The financial world is a mess, both in the United States and abroad. Its problems, moreover, have been leaking into the general economy, and the leaks are now turning into a gusher. In the near term, unemployment will rise, business activity will falter and headlines will continue to be scary.

So … I’ve been buying American stocks. This is my personal account I’m talking about, in which I previously owned nothing but United States government bonds. (This description leaves aside my Berkshire Hathaway holdings, which are all committed to philanthropy.) If prices keep looking attractive, my non-Berkshire net worth will soon be 100 percent in United States equities.

Why?

A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful. And most certainly, fear is now widespread, gripping even seasoned investors. To be sure, investors are right to be wary of highly leveraged entities or businesses in weak competitive positions. But fears regarding the long-term prosperity of the nation’s many sound companies make no sense. These businesses will indeed suffer earnings hiccups, as they always have. But most major companies will be setting new profit records 5, 10 and 20 years from now.

Let me be clear on one point: I can’t predict the short-term movements of the stock market. I haven’t the faintest idea as to whether stocks will be higher or lower a month — or a year — from now. What is likely, however, is that the market will move higher, perhaps substantially so, well before either sentiment or the economy turns up. So if you wait for the robins, spring will be over.

A little history here: During the Depression, the Dow hit its low, 41, on July 8, 1932. Economic conditions, though, kept deteriorating until Franklin D. Roosevelt took office in March 1933. By that time, the market had already advanced 30 percent. Or think back to the early days of World War II, when things were going badly for the United States in Europe and the Pacific. The market hit bottom in April 1942, well before Allied fortunes turned. Again, in the early 1980s, the time to buy stocks was when inflation raged and the economy was in the tank. In short, bad news is an investor’s best friend. It lets you buy a slice of America’s future at a marked-down price.

Over the long term, the stock market news will be good. In the 20th century, the United States endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president. Yet the Dow rose from 66 to 11,497.

You might think it would have been impossible for an investor to lose money during a century marked by such an extraordinary gain. But some investors did. The hapless ones bought stocks only when they felt comfort in doing so and then proceeded to sell when the headlines made them queasy.

Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

Equities will almost certainly outperform cash over the next decade, probably by a substantial degree. Those investors who cling now to cash are betting they can efficiently time their move away from it later. In waiting for the comfort of good news, they are ignoring Wayne Gretzky’s advice: “I skate to where the puck is going to be, not to where it has been.”

I don’t like to opine on the stock market, and again I emphasize that I have no idea what the market will do in the short term. Nevertheless, I’ll follow the lead of a restaurant that opened in an empty bank building and then advertised: “Put your mouth where your money was.” Today my money and my mouth both say equities.

Warren E. Buffett is the chief executive of Berkshire Hathaway, a diversified holding company.

If you ever tried to play the computer card game hearts you would no doubt have encountered how difficult it is to get zero score while the other players all bust. You have to be able to know at all times how many cards have already been played and also who still holds what cards. All your opponents would want to dump the queen of spades on you while you would want them to end up with her.

When considering investments many people also want to shoot the moon or put differently, shoot the lights out! While investment markets are advancing almost all investors seems to be aggressive. This might entail constantly switching to better funds trying to obtain the best possible returns compared to your friends or peers.

Now we know that markets never go up in a straight line. We had arguably the best of economic times during the past six years. Although danger signs appeared on the horizon, many investors chose to ignore them. Instead of constantly trying to outsmart investment markets by regularly switching investments, a better approach would be to calculate your need or requirement at the time you need your investment to mature. This could be upon retirement or some pre-determined event.

You then build a diversified portfolio (cash, equities, bonds, gilts and property) that will give you the required return over your pre-determined period. There would then seldom be disappointments along the way because you are constantly monitoring and adjusting your asset allocation, not timing the market. This might not sound exciting at first but as you go along and witness your steady progress you will soon realise the value of such an approach.

I asked John Kinsley from Prudential Asset Managers whether I could use his article that was published in Money Marketing as I believe it would add value to your investment knowledge.

John Kinsley
Besturende direkteur
Prudential Portfolio Managers (South Africa)

Active or passive? Value or growth? Equities or bonds, or maybe cash?

Not only do investors have to grapple with volatile stock markets and endure worrying economic conditions, but in addition they also have to make sense of continuous debates among experts about which are the better approaches to asset management: value or growth, active or passive.

At Prudential we say that instead of worrying about picking the one asset manager which follows an approach likely to outperform all others, or choosing the one asset class that will do the best, your strategy should centre on appropriate diversification.

If, in addition, you are able to take emotion out of your approach, you are likely to take investment choices that will help you achieve superior returns over time.

The ability to make decisions without the influence of emotions is one of the most important skills of a successful asset manager. Often it is this ability that enables investors to diversify appropriately – generally this involves investing your money in an asset class, a region, or a stock that has fallen out of favour with the market.

Take the Prudential Global High Yield Bond Portfolio as an example. Global bonds underperformed most other asset classes during 2007 with global corporate bonds suffering further as a result of the global credit crunch. The performance of the Prudential portfolio was therefore not very exciting for most of 2007.

Needless to say investors stayed clear of it. But then during the period from late October 2007 through to February this year the JSE All Share Index endured a roller coaster ride, at one point almost shedding all the earlier gains of 2007. Meanwhile global bonds enjoyed something of ‘a flight to quality’, and this, together with the weakness in the rand, meant that the Prudential Global High Yield Bond Fund of Funds produced a return in rands of over 27% for the first quarter of 2008.

All our clients’ global balanced portfolios have a portion invested in global bonds. While last year this may have been psychologically difficult to hold on to, it proved an amazing buffer against volatility at the beginning of this year.

For investors, the biggest learning is that different asset classes and stocks will perform differently when market conditions change. Equally, the various approaches followed by asset managers will produce different results at different times.

For the past year or two, as valuations have become more concentrated, many value managers struggled against their more growth-orientated competitors. This was a global phenomenon as the performance charts show. But after recent events, value managers are able to plan ahead by scouting for cheap stocks which are likely to be tomorrow’s darlings. And for the past two years or so, the majority of active equity managers found it difficult to beat their benchmarks such as the JSE All Share Index, leaving passive managers gloating.

But this may all change without much warning. The question is whether you, as the investor, are geared for this change?

When in January this year the JSE All Share Index reached its lowest point and investors were fleeing equities, at Prudential, we started buying equities and listed property. While this was difficult from an emotional point of view, we were rewarded when the market started turning days later.

We’ve witnessed a fund of funds manager sell all listed property holdings in January, a day before listed property bounced back by 3%. Not only did this manager materialise a loss for his investors, but he also proved that market timing never pays.

Investors should not adopt a blanket approach that dictates that going against the herd is best. Instead, you need to develop the discipline and conviction to buy when the market is cheap and to include “out of fashion” opportunities, where necessary, to diversify the portfolio.

Diversification principles need not only apply to assets. If the debates about value and growth or active and passive are leaving you confused, you could consider diversifying across asset managers as well.

Remember though, if your investment portfolio was constructed in line with your long-term needs and diversified accordingly, you have nothing to worry about. If not, best you get some advice sooner rather than later.