Investment risk - warts and all

In Australia, although the tabloids sometimes venture into unsavoury and intrusive reporting, we don't have the extreme gutter press that has plagued Britain over recent decades. 

Sometimes, of course, our press oversteps the mark, but nothing in comparison to UK newspapers such as the now-defunct News of the World, which was found to have pulled all kinds of despicable stunts including the appalling disruption of a high-profile murder investigation and numerous other odious practices.

Sometimes, it might legitimately be argued, tabloid exposés have served in the public interest, highlighted ill deeds which may otherwise may never have come to our attention. But equally, articles which exist only to defame often amount to nothing more than slurs and smears which serve little purpose.

Media sometimes sways in other direction, orchestrating what is known as 'puff piece' journalism. 

A puff piece documentary is one which exists only to "puff up" or exaggerate the positive angles of its subject, offering no balance and only subjective views. A puff piece might sometimes  be entertaining or reassuring, and pander to the ego of its subject, but tends to add little objective value in the manner that a 'warts and all' documentary might attempt to do.

Bias in investing

It's no coincidence that the greatest investors of the 20th century such as Benjamin Graham devoted a great deal of time to espousing the importance of forming an objective view of an investment, rather than being swayed by prejudice and bias.

In the preface to Graham's classic work The Intelligent Investor, Buffett says:

"What's needed is a sound intellectual framework for making decisions and the ability to keep emotions from corroding that framework".

Buffett also said:

"You are neither right nor wrong because the crowd disagrees with you. You are right because your data and reasoning are right."

Share market biases

There once was a time where everyday investors spoke to brokers only once or twice per year and took the advice of brokers as read. But the advent of online commentary has introduced an interesting new facet to the investing world, that being the airing of views of average investors.

Investors have always suffered from biases, as identified by Graham all those decades ago, but the online fraternity has perhaps shown them to be even more deeply ingrained than perhaps we ever believed. So many investors only want to hear positive news and views about their chosen investments as a means of validation.

Stock market forums demonstrate this perfectly. Take a look at chat forums discussing the merits of otherwise of speculative mining stocks. 

Even the penny dreadfuls which have seen 90% or more of their market cap obliterated by capital raisings and other dilutions can see a positive comment met with a chorus of 'thumbs up' responses and favourable comments. Meanwhile anyone daring to point out the shocking performance of a stock versus the wider resources index, the failings of executive management or any kind of dismal outlook at all is met with widespread derision and dismissed out of hand.

Investors love to hear positive news about their prospects, but will only become intelligent investors in the mould of a Graham or a Buffett if they can learn to adopt a balanced view while considering the risks and failings of investment selections as well as the positive aspects.

Property prejudices

Nowhere are these prejudices better illustrated than in the world of Aussie real estate. Market commentators are quickly and conveniently carved up between bears and bulls. Market crash advocates highlight only negative angles, whereas so-called 'perma-bulls' persist with viewpoints which imply that prices only ever head north. Neither adds much value, because their viewpoints have already been jaundiced before pen is put to paper (or fingers are put to the keyboard).

Biases in real estate are often swayed by ownership status, of course. Those of bullish tendencies of are often property owners or work in the real estate industry, while those who only look at downside risk tend to be renters who want prices to crash so that they can buy (sometimes proving to have been latent bulls once they clamber aboard the property ladder) and sometimes they are those who stand to gain in some way from promoting the idea of a market crash. 

There is little value added in promoting only one side of an argument. In fact, if there is no balance in reporting, then it adds nothing.

Overall, I've been 'optimistic' (if that's the right word for appreciating dwelling prices) about the Sydney housing market since around 2006 because I felt that appropriate dwelling construction in the popular suburbs close to the city would fail to match the rapidly growing demand.

But that's not to say I'll always remain that way, and I can equally name any number of markets including many fringe city suburbs, holiday locations and regional markets (and even some capital cities) where I consider the risks to be unduly high and not worthy of investment at this stage in the cycle. 

And besides, continuing to remain optimistic when evidence starts points in another direction introduces an increased likelihood of looking like a prize goose.

Sometimes, I've just been plain wrong (a whole other subject for another day: commentators who never admit to being wrong), and I've admittedly been taken aback by the resilience of Melbourne's dwelling prices in the last 12 months or so, with prices gaining a surprising 7.5% since their trough according to RP Data. I'd felt that the best case scenario would be something close to flat prices in that time, and a base case would have included a small drop in prices.

Residential real estate is not a pure investment asset class, and ultimately markets which experience jobs growth will see growing demand, whereas those markets which are heavily reliant on one or two industries must entail a higher risk. It's approaching madness to suggest that certain remote markets where people often live through necessity rather than choice are going to outperform income growth after a decade-and-a-half boom in household leverage.

That's why I felt that parts of the south coast of NSW was a risky selection nominated by yield-focussed investors in 2010 due to its heavy reliance one one industry. In my opinion at the time, it was a poor risk-adjusted bet because of the possibility of redundancies in exporting industries in an era of a rapidly rebounding Australian dollar and thus it proved. Regional markets which are heavily reliant on the automotive industry will likely now face stiff headwinds too.