The Handbook of Personal Wealth Management is a publication comprising 41 chapters covering a variety of topics related to the subject of personal wealth management. The chapters are written by a number of different authors from several different financial institutions or service providers.
Contributors include a few well known names like TSB Lloyds and PricewaterhouseCoopers. However, most of the contributors were companies that I had never heard of - a fact which may well be a function of the fact that I have never lived in the UK.
The positives
The book coves a range of subjects. In most cases the chapters are well written and accessible. Material often (but not always) starts with the basics but then moves on to discuss more advanced issues. The latter makes those chapters of the book useful for people with limited backgrounds in the subject material as well as those looking for a little bit more in depth discussion. The range of subjects covered in a single publication is impressive. Subjects covered include: wealth management, ethical investing, portfolio management, mainstream investment alternatives, angel investing, private equity, pensions, real estate, coloured diamonds, gold, art, forestry, wine and race horses. There are also sections on selecting advisers and (UK) taxation.
At a personal level I found the sections on coloured diamonds and forestry most interesting as they are areas that I had not considered before. While I do not see myself investing in coloured diamonds any time soon, forestry may be worth a closer look.
The chapter on the Yale investment management model also raised my awareness on the issue of asset allocation. I have since purchased a book on this subject.
A few negatives
The book has a strong UK focus which renders several chapters irrelevant to my personal circumstances. Given that it is a sponsored publication, written by organisations selling the services that they write about a certain amount of caution is needed when reading each chapter.
The greatest quibble I have with the book is that it is effectively sponsored by the organisations whose employees write each chapter. The majority of the chapters are well written and contain a useful primer on the relevant subject. However, a few chapters seem a bit weak in comparison, lacking factual support for the assertions made. A handful read much like paid advertisements which detracts from both an objective understanding of the subject matter but also from the overall quality of the publication. The sponsored nature of the publication also gave rise to a certain degree of caution regarding all of the contributions.
Overall, a useful introduction to many of the subjects covered although UK residents would be likely to derive more benefit than I did.
Tuesday, October 17, 2006
Monday, October 02, 2006
Principle #18 - Diversification Is Mostly Good
Diversification is a concept that many people like and a minority of people hate. Who is right?
There are plenty of academic studies that show that diversification reduces risk. Diversify enough and the risk to your portfolio is reduced. The greater the degree of diversification the greater the reduction in risk (although the benefit starts to drop off quite sharply after a relatively modest degree of diversification). This makes sense. Take a portfolio of shares as an example. If the portfolio (Portfolio A) consists of a single share and that share goes down in value (even to zero) the portfolio will go down by the full amount of the loss on that one share. However, if the share only represents one out of ten shares in a portfolio (Portfolio B) , then Portfolio B will only lose one tenth as much as portfolio A (assuming equal weighting).
Diversification is a good risk management tool.
However, diversification comes with a price. Each addition to a portfolio has at least three things going against it:
1. Cost. Depending on how you hold your investments, fees and charges may be incurred for each position that you hold. The more positions you hold the greater the costs;
2. Time. Each investment takes time to research and time to monitor. Adding to your investment portfolio reduces the amount of time you can spend researching each investment before parting with your hard earned cash and the amount you spend monitoring each investment. This increases both the risk that you will make bad investments and the risk that you will fail to exit losing investments on a timely basis;
3. Quality of investments. Investors will pick the best investments for their portfolios first. By definition at a certain point additional investments have to be less attractive than earlier additions to the portfolio. It has been famously described as "diworsification".
There are plenty of very real case studies that show that having a relatively small number of investments in a portfolio can result in returns which exceed those available by investing in the market as a whole (index returns). History is also littered with examples of people who failed to adequately diversify their investments with spectacularly awful consequences. Barings (Nikkei futures) and Amranth (natural gas) are two of the better known examples of risk concentration going wrong.
The traineeinvestor is an individual who is in paid employment with a limited amount of time to spend on his investments. He is also unwilling to risk significant loss on his investments - significant losses or even inadequate returns will delay his departure from the ranks of those who are forced to work for a living. Diversification is an essential tool to overcoming both of these limitations.
At the same time he must be conscious of the risks of taking diversification to excess. Max Gunther got it right when he said that diversification protects you from the risk of just about everything - including the risk of being rich.
There are plenty of academic studies that show that diversification reduces risk. Diversify enough and the risk to your portfolio is reduced. The greater the degree of diversification the greater the reduction in risk (although the benefit starts to drop off quite sharply after a relatively modest degree of diversification). This makes sense. Take a portfolio of shares as an example. If the portfolio (Portfolio A) consists of a single share and that share goes down in value (even to zero) the portfolio will go down by the full amount of the loss on that one share. However, if the share only represents one out of ten shares in a portfolio (Portfolio B) , then Portfolio B will only lose one tenth as much as portfolio A (assuming equal weighting).
Diversification is a good risk management tool.
However, diversification comes with a price. Each addition to a portfolio has at least three things going against it:
1. Cost. Depending on how you hold your investments, fees and charges may be incurred for each position that you hold. The more positions you hold the greater the costs;
2. Time. Each investment takes time to research and time to monitor. Adding to your investment portfolio reduces the amount of time you can spend researching each investment before parting with your hard earned cash and the amount you spend monitoring each investment. This increases both the risk that you will make bad investments and the risk that you will fail to exit losing investments on a timely basis;
3. Quality of investments. Investors will pick the best investments for their portfolios first. By definition at a certain point additional investments have to be less attractive than earlier additions to the portfolio. It has been famously described as "diworsification".
There are plenty of very real case studies that show that having a relatively small number of investments in a portfolio can result in returns which exceed those available by investing in the market as a whole (index returns). History is also littered with examples of people who failed to adequately diversify their investments with spectacularly awful consequences. Barings (Nikkei futures) and Amranth (natural gas) are two of the better known examples of risk concentration going wrong.
The traineeinvestor is an individual who is in paid employment with a limited amount of time to spend on his investments. He is also unwilling to risk significant loss on his investments - significant losses or even inadequate returns will delay his departure from the ranks of those who are forced to work for a living. Diversification is an essential tool to overcoming both of these limitations.
At the same time he must be conscious of the risks of taking diversification to excess. Max Gunther got it right when he said that diversification protects you from the risk of just about everything - including the risk of being rich.
Principle #17 - Stay Focused
Anybody and everybody can and does get enthusiastic about their finances and investments when things are going well. When things are not going so well - when the markets seem to be implementing a personal vendetta against you and you get hit by a seemingly endless stream of unexpected or larger than expected expenses - people tend to lose interest.
It is human nature to devote more attention to successes than to failures. You could call it the emotional equivalent of cutting your losses and letting your winners run.
It's also something in the nature of a character flaw that can and should be remedied.
Adverse market conditions and bad investments are a fact a life. Even Warren Buffet gets things wrong from time to time. One of the things that keeps me focused when my investments are heading south is the knowledge that the market conditions that caused the pain are the same market conditions that provide opportunities to find investments at attractive valuations. Staying focused is exactly what you should be doing at this stage.
A run of expenses or other events that blow the budget - not just for a month but for a whole year? These things also will happen - marriage, children, changing jobs, buying your first home etc. But that is no reason to lose your self discipline. Managing expenses is a life long discipline. When things are going against you is the very time that you should be most focused on extracting as much out of your income as possible.
Staying focused through good times and bad times is an important habit for those looking to achieve financial independence.
It is human nature to devote more attention to successes than to failures. You could call it the emotional equivalent of cutting your losses and letting your winners run.
It's also something in the nature of a character flaw that can and should be remedied.
Adverse market conditions and bad investments are a fact a life. Even Warren Buffet gets things wrong from time to time. One of the things that keeps me focused when my investments are heading south is the knowledge that the market conditions that caused the pain are the same market conditions that provide opportunities to find investments at attractive valuations. Staying focused is exactly what you should be doing at this stage.
A run of expenses or other events that blow the budget - not just for a month but for a whole year? These things also will happen - marriage, children, changing jobs, buying your first home etc. But that is no reason to lose your self discipline. Managing expenses is a life long discipline. When things are going against you is the very time that you should be most focused on extracting as much out of your income as possible.
Staying focused through good times and bad times is an important habit for those looking to achieve financial independence.
Subscribe to:
Posts (Atom)