In 1905, George Santayana wrote; “Those who cannot remember the past are condemned to repeat it.” That’s why it is always worthwhile to reflect on the past year to identify any lessons that we can learn. Below I share the investment lessons that I believe last year taught us.
Review of markets in 2022
Firstly, let’s review what returns various asset classes generated in the 2022 calendar year.
The US market lost around 20%. However, if you were an Australian investor (unhedged) you would have only lost approximately 12% because the Australian dollar devalued (compared to the USD) over the year.
The global share index performed slightly better by losing circa 18% over the year, or still 12% if your investments were unhedged i.e., in AUD.
The UK share market was relatively flat for the year regardless of whether your investments were hedged or not, as both the Australian dollar and British pound lost value over the year by a similar amount.
According to Corelogic, house prices across the largest 5 capital cities fell by 7.1% and apartments by 5.5% over the 2022 calendar year. Sydney was the worst performing market losing 12.1% and Adelaide the best with a gain of 10.1% (Melbourne lost 8%).
Unfortunately, bonds had their worst year on record (or at least since many bond indexes began in in the ‘70s). Bond indexes lost between 6% to 15% over the year, depending on exposure type. Bonds and shares falling in value at the same time has only occurred twice over the past 100 years, so 2022 was a strange year for bonds.
Listed commercial property investment (REITs) values have been hammered by higher interest rates, lockdowns and work from home. REITs lost in the range of 20% and 25% in value over the course of 2022. Global infrastructure fared much better. It was even on an unhedged basis, and down circa 5% on a hedged basis.
Cash and commodities were the best performing asset classes. For example, term deposits rates rose over the second half of 2022 and are now typically paying above 4% p.a.
What can we learn from 2022?
The first lesson we were reminded of is that investment returns are random and unpredictable in the short run. No one can pick which asset class will outperform over the next 12 months. The table below demonstrates how random asset class returns are. There are no patterns (asset classes are colour coded and returns are shown in descending order for each calendar year).
The best evidence-based response to the fact that asset class performance is unpredictable is to diversify your investments across most asset classes. That is, have a finger in each pie, so to speak.
The second lesson in 2022 is to have the discipline to make regular investments regardless of how negative sentiment becomes. Anyone that invested in the Australian market index in June and/or September last year is up 11+% already. The video below includes some excellent advice from the late Jack Bogle. This was recorded only a few years before he passed away at 90 years of age. He founded investment firm Vanguard in the ‘70s, so he has many decades of experience. In summary, Jack advises that the last thing an investor should do when the market drops is stop investing!
Volatility creates great investment opportunities
There is plenty of evidence that demonstrates market pricing is not always efficient (accurate). Mispricing occurs when markets overreact. Often, these situations create attractive investment opportunities, if you have the discipline and fortitude to pursue them.
I read the below chart with interest (H/T Charlie Bilello). The chart sets out subsequent one-year returns after CNBC (a US television station) declared that the “markets are in turmoil”. The past 12 years of data suggest that it is in fact a perfect buying (investing) signal.
Sometimes it’s tempting to abandon an asset class but remember they all move in cycles
Sometimes after a period of poor investment performance (losses), it’s tempting to completely abandon an asset class. For example, bonds are considered safe and stable investments. Unfortunately, 2022 was the worst year on record for bonds. But does that mean that you should abandon them altogether?
Of course not. Bonds pay a predictably steady level of income. And bonds have been negatively correlated with shares for 97 years out of the past 100, so they reduce a portfolio’s risk – just not in 2022.
Australian bonds have returned 5.9% p.a. on average since 1992, so they are certainly worthwhile investing in. The lesson is, don’t let the past years’ experience influence your investment decisions. Instead, base decisions on decades of evidence.
What lesson do I think 2023 will teach us?
I don’t know what 2023 will bring us. I’m sure if I listen to the news and market commentators, it will be full of bad news and negative predictions.
But one of the key lessons I expect the next year will teach us is that the investors that held their (quality) investments through 2022, and didn’t sell or make any rash changes, will be duly rewarded with good investment returns in the long run. If your initial investment decision was based on sound, long-term evidence, then in the long run, you should expect to be well rewarded.
Experience trumps everything
When it comes to investing, knowledge is important. But it’s not enough. In fact, knowledge without experience can be dangerous.
Experience is arguably the most important attribute that an investor must have or pay to get (i.e., from a professional advisor) to reduce risk. It (experience) tells you how and when to apply your knowledge. Experience will guide you through the difficult/challenging markets knowing when to invest, in what and which markets or asset classes to avoid.
