A Case For Optimism

As a result of a period of isolation, our lives may be forever changed… for the better.

This morning as I was still free to walk my dog through a park, I saw a beautiful scene. A young father playing with his daughter. Not on his phone, as is often the case when I see parents at playgrounds with their children, but actually giving her full attention.

As it was about 8:30 am I asked if he would normally have been at work at this time. He confirmed that he would. He and his wife are both setting up to work at home for a while, and he is going to have a period where he will not have a 3 hour commute each day.

He and his wife have already flagged having the conversation with their employers that they might want to do this permanently, even if it means dropping back to 4 days per week.

I suspect a lot of us are going to start questioning whether the ‘old way’ is really making us happy. Do we really want to outsource parenting? Do we really want that horrible long commute? Would it in fact be better to have business meetings from home even after flights resume?

It seems to me this isolation is all about time. There is no escaping that somewhere between 20 – 60% of us will get COVID-19. 1% of that number will die. I am asthmatic so maybe I’m a higher risk than most, but as a society, we’ll recover and move on from that.

It’s about trying to keep our health care system coping. Trying to spread out the timing of when we present with the symptoms, and indeed deferring things in the hope that a vaccine is created.

The number of cases is going to be a bell curve. The tip of the bell curve in Australia is expected to be in May or June, so we will come out the other side in a few months.

So, for the majority of listed companies on the share market they just have to manage cashflow for a few months. They are well managed, have large cash reserves and can easily do this. You wouldn’t want to speculate, because some individual companies may go under, but something like an ETF giving a broad exposure should spread that risk.

Let’s look back to a time when BHP was fined billions of dollars for an environmental problem at Ok Tedi. Their share price was hammered. Down over 30%, I don’t remember the actual figures. BUT the point is, that level of fine was about 6 months of their annual profit.

Wait… a company’s overall value was reduced by over 30% just because they were going to miss out on 6 months of earnings? Doesn’t that sound like an over-reaction?

Well aren’t we looking at something similar here? Isolation will hit mum and dad businesses hard, because they don’t have the same levels of cash reserves, and can’t easily reduce their overheads for a short period, but the majority of larger listed companies will lose about 6 months of profits, then there will be pent up demand for the products in my opinion, and they will be firing on all cylinders, in a market where some of their competitors did not survive!

So I encourage everyone to not get too focused on the media’s soap-story which is grabbing our attention, keeping advertisers happy and disturbing too many of us. Look for opportunities, feel optimistic, think about the incredible benefits to the environment right now, enjoy having more time with your family and I’ll see you on the other side in a few months!

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Are Hybrids Defensive Assets?


Do you want to go into the match with a hybrid defense (sort of defensive and sort of attacking)- which may lead to a good result in an easy match, or a solid, boring defense – which may protect you more when the going gets tough?

Hybrids are a form of investment where you loan your money to a company which is usually listed on the stock exchange, in exchange for an interest rate.

So far that is sounding like a genuine fixed interest investment.

But according to the MoneySmart website, you take all the risk. It may be an acceptably small risk to you – but you need to understand the potential risks at least.

‘Banks and insurers issue hybrids to raise money that can count as regulatory capital under the prudential standards that apply to banks and insurers.

All new hybrids issued by banks and insurers are designed to be loss absorbing, which means you, not the bank, are at risk of suffering a loss. This protects the bank’s depositors, at the expense of hybrid investors.

If the bank experiences financial difficulty, bank hybrids can be converted into bank shares, which may be worth less than your initial investment, or even written off completely, meaning you could lose all of your capital.

Capital notes and convertible preference shares are very similar. You should receive regular interest payments, sometimes called distributions or dividends.

On a fixed date, around 8-10 years in the future, you should receive ordinary shares in the bank that issued the hybrid, although they may decide to repay you in cash.

These hybrids can behave very differently depending on a range of factors that are outside your control. The terms often contain a complex series of events, tests, conditions and approvals that even experienced investors can find difficult to understand.

You may not get payments from Hybrids

Interest may not always be paid on capital notes and convertible preference shares and missed payments will not accumulate. Although if payments are not made, the bank is prevented from paying dividends on its ordinary shares.

Your investment may convert into ordinary shares instead of being repaid in cash, and this may occur years before or after the scheduled date.’ read more here:

Australian Corporate Bond Company (ACBC) chief executive Richard Murphy was quoted in Investor Daily (14th March 2016) as saying:

‘While hybrids have features of a fixed-income product, they are not defensive in shielding portfolios against market downturns. When equity prices fall, hybrids tend to behave more like equities.’

A recent survey by the ACBC revealed that 47 per cent of respondents either classified hybrids as fixed income or did not know how to classify them.

It may not be surprising that a company specialising in Corporate bonds (which are defensive assets) would have the view that hybrids should not be classified as defensive assets, but this is backed up by the fact that Morningstar head of Australian credit research, John Likos, shares that view.

‘The increasingly issuer-friendly terms contained in hybrids suggest they shouldn’t be included in the defensive fixed-income part of a portfolio,’ he said.

And yet, anecdotally, many SMSFs and their administrators are counting hybrids as part of their defensive assets.

What seems to have changed with Hybrids, in recent times is the terms. How many SMSF investors would be aware of these terms?

There is a very real risk that although they read the terms for their first Hybrid investment 5 years ago, they will assume that the terms for a new hybrid investment they are considering today would be similar – and this may not be the case at all.

Whether hybrids are suitable depends on each investor’s circumstances, objectives and attitude to risk.

Disclaimer: Past returns are no guarantee of future returns. None of the content in this article should be construed as advice. Speak to your professional adviser about your circumstances and objectives before taking any action.




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Where is that $600 Billion exactly?

empire-state-building-1081929_1280Critics of Self-Managed Super Funds (SMSFs) sometimes point to the ATO Statistical reports and become apoplectic about the fact that only 1% of the $600 Billion in SMSFs is invested in International shares.

That statistic is sometimes used as evidence that SMSFs are failing to manage their funds well, usually by groups which would benefit financially if many SMSFs were forced to close.

The ATO Statistical reports are based on real data of all SMSFs, so the sample size is 100% of the sector!

One problem is that the ATO has to wait for the lodgement of returns, so their annual reports are released about 18 months after the event. For example the June 2014 annual report was released in December 2015.

The ATO does release quarterly reports in the meantime, but these are necessarily based on extrapolations or “best guesses”.

Another problem is that the ATO includes “Listed trusts”, “Unlisted trusts” and “Managed funds” as asset classes.

This brings to mind a number of prospective investors who used to ask “should I invest in shares, property or superannuation?”

Clearly both superannuation and managed funds or trusts are merely vehicles through which you can own or access shares, property and other asset classes.

So to get an idea of the level of exposure to International shares SMSFs are really taking, we have to “look through” the managed funds and trusts, using a reasonable assumption of the typical mix of assets.

Some managed funds and trusts are solely used to access International shares, but some are used to solely access fixed interest investments, such as government bonds or debentures, and some are used for a balanced mix of growth and defensive assets.

By our reckoning at SMSF Benchmarks, using a “look through” approach on the 2014 Annual ATO Statistical report, the true amount in international shares may be around 6%, which is still low in comparison to large managed funds, but significantly higher than the often quoted 1%.

Other organisations publish data, but there are usually limitations. For example, in SuperConcepts’ Investment Patterns survey March 2016, they took a large sample of SMSFs on their administration service, and estimated that the true exposure SMSF’s have to International shares is 12.6%.

Their reasoning sounds solid until you read the last sentence in their 7 page document, which is commendably provided in an open and transparent manner.

“The vast majority of SuperConcepts administered SMSFs have a wide range of financial advisers providing investment advice to trustees and this may make the analysis results different to the wider SMSF community.”

Only 30% of SMSFs in the overall community use an adviser. This means the SuperConcepts data has a bias towards SMSFs who use an adviser, which is very likely to mean there is a bias towards SMSFs who use managed funds, which tend to have a higher exposure to international shares than the median SMSF would have.

It is perhaps staggering to realize that for the $600 Billion invested in SMSFs, no-one actually knows the true asset allocation of where it is all invested, which makes it hard for SMSF trustees to get good benchmarking information about some aspects of their fund.

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Choose an appropriate benchmark

russia-112445_640If you’re going to compare the performance of something against a benchmark, it is very important to make sure you’re using an appropriate benchmark. If not you risk making decisions based on incorrect information.

This holds true for mum and dad investors with Self-Managed Super Funds (SMSFs), as much as it does for our Sovereign Wealth fund – the “Future Fund”.

Earlier this month Harold Mitchell, a Fairfax Journalist, came up with a juicy journalism piece claiming that the Future Fund is under-performing. He used the Alaska Permanent Fund and industry super funds as benchmarks.

Peter Costello, who is Chairman of the Future Fund board of Guardians called him to task over this claim. The truth is that the Alaska Permanent Fund and the industry funds operate differently to the Future Fund, with different mandates, and he rightly claims that these are not fair comparisons.

 The comparisons of returns may not be fair. On the other hand, a comparison of a growth in balance between the Alaska Permanent fund and our Future Fund could be informative, as it could force our Government to consider whether we should follow Alaska’s lead and regularly contribute to the fund.

The Future Fund operates with a Tactical Asset Allocation (TAA) approach. They set a target asset allocation, but change the target asset allocation from time to time based on perceived threats and opportunities in various asset classes.

Which asset allocation approach are you using in your SMSF?

Read Peter Costello’s opinion piece here: http://www.futurefund.gov.au/__data/assets/pdf_file/0019/7264/2016_March_Opinion_piece_Costello_A482265.pdf

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Tomorrow… is a long way off.

time-699966_640I might be a bit behind the times here, but I just learned about a fascinating study (published in 2013) done by Keith Chen, who is a behavioral economist at Yale University.

“Could your Language affect your ability to save money?”

He questioned why some people are better at saving for an event which is a long way off (retirement) than others. Why is it that people in China, Finland and Japan are better savers than people in the USA, Greece and the UK.

Keith found that it had to do with their language.

Some languages do not differ between past, present and future. For example “yesterday it rained, today it rained and tomorrow it rained.” They are “futureless languages”. Another example might be “I meet with a student in an hour.”

On the other hand, English is a “futures language”.

His theory is that when English speakers talk about the future, it feels very different to the present, and this makes it harder to save for the future, compared to people who speak a futureless language.

He then tested his theory with millions of data points in many countries, and controlled for other factors at a granular level, such as age, income levels and geography. He tested the question “Did you save anything in the past year?”

The evidence showed that people who speak a futureless language are 30% more likely to save, but it doesn’t stop there. He also found they are 24% more likely to give up smoking, and 21% more likely to have used a condom in their last sexual encounter, for safe sex.

Because we speak differently, we feel differently about the future.

So what can we do about that? If an employer wanted to look after their employees, could they affect their employees’ behaviour in a positive way?

Could an adviser take some action to encourage a younger client’s savings levels?

Another US psychologist conducted a trial with clients who had 401k plans. They are like super funds to which you can choose to make additional contributions.

He arranged for half of the clients’ statements to show a current photo of themselves. The other half of statements went out with a digitally aged photo, to depict what they will look like when they’re older.

The people with the aged photo committed to saving more next year.

Our behaviour often affects our financial outcomes more than any selection of investments, so it extremely worthwhile to learn about your own behaviour when it comes to investing.

Has your behaviour helped or hindered your investment performance?

About the author

Nick Shugg was an adviser for over 20 years, and is currently CEO of SMSF Benchmarks. 

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How is your Self-Managed fund really going, and why should you care?

grid-817367_1280As January is a quieter month for many people, it may be a good time to review how your Self-Managed Super Fund (SMSF) is really going, not just for compliance reasons, but because it might actually lead you to have more money.

If you have an SMSF you have to review your investment strategy each year, but most investors just pay ‘lip service’ to that.

Instead, why not look beyond compliance and really review how things are going. At the very least you may find that all is well, and you are on track to reach your goals, whatever they are. Or, you may discover that some action should be taken to get you back onto your desired track.

The main reason you may benefit from a more detailed check of how things are going is that you have options. No matter what you are investing in, there are different ways to do it. It could be costly to miss out on a different approach which may be leading others to have better outcomes, even if they’re investing in similar types of assets to you.

But what would you need to get good information about how your fund is performing compared to other SMSFs? :

  1. Unbiased data. Comparisons against all types of SMSFs, however they invest: funds which use an adviser, and funds which do not. Funds investing in shares, or property, or fixed interest, or managed funds. To really know how your fund is going, you must compare against an unbiased database of other self-managed funds, as these include all your options.
  2. A consistent method for the calculation of returns. There’s a problem at the moment where some SMSFs do not know what their total fund return has been, others get told what their returns are using a Money Weighted Return (MWR – also known as an Internal Rate of Return) method, and others have their returns calculated using a Time Weighted Return (TWR) method, which often leads to a different result. The MWR method is fine if you’re looking at your fund in isolation, but if you want to compare it to a benchmark or to other funds, you would need to use a TWR method, to ensure your returns are least impacted by the timing and size of contributions and pension payments.
  3. Comparisons against others investing in a ‘similar’ way to you. You can compare against the ASX200, but that’s just a price index. And what about if you don’t just have shares in your portfolio? A better comparison would be against other SMSFs which are investing in a broadly similar way to you, or against a benchmark portfolio based on how SMSFs are typically investing (according to ATO Statistical reports).
  4. Allowance for change. Over time a SMSF may change their asset allocation. If you really want to know how your fund is going, any decision about which group of funds to compare against should take into account how each fund was actually investing (or aiming to invest) at different points during the period, rather than simply basing comparisons on their asset allocation at the end of a period, which is a big limitation with most performance reports.
  5. Timely information. The ATO has the best data, but their statistical reports are necessarily out of date by up to 18 months. Industry Surveys are more timely, but they ask investors what their returns have been, so there’s no consistency in how those returns have been calculated. To make good decisions, you’d need returns for each fund calculated using the same method, and you’d need it on a timely basis, such as live information each month.

Once you receive good performance information, you need to make sure you understand the implications. Why have you had these returns? Was it luck or is it repeatable? Could you have achieved similar returns with less risk? What is likely to happen over the next period of time? What alternative approaches are available to you? What action should you take, if any?

It’s up to you whether you remain fully self-directed, but some good advisers are now offering a benchmarking service to SMSFs where they provide meaningful reports about how your fund is going in a range of ways, answer your questions and make sure you understand what the reports mean, which empowers you to make good decisions.

This is a ‘win-win’ as they can earn a reasonable fee for that valuable service, whether you ultimately decide to engage them to help you invest your money or not, and therefore you can trust their advice.

 Disclaimer: Past returns are no guarantee of future returns. None of the content in this article should be construed as advice. Speak to your professional adviser about your circumstances and objectives before taking any action.

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2016 – It’s time for standard investment nomenclature

hands-1063442_1280One of the best ways for investors to manage risk is to determine their most appropriate asset allocation. How much they want to have in Growth assets, and how much they want to have in Defensive assets. But what is a Growth asset, and what is Defensive?

There are no standard definitions in the industry for these terms, which means that many investors may be exposed to more risk than they realise.

A reasonable way to look at it is to consider the source of returns from the various asset classes. We could define a Defensive asset as one where the source of returns is “only (or mainly) from income.” Whereas a Growth asset receives its returns from “a combination of income and change in capital value (positive or negative growth).”

It’s a starting point, and open to debate.

Some classes of investment (asset classes) are obvious: Cash, where the source of returns is only from income (with only an outside chance of loss of capital if a financial institution fails) is clearly a Defensive asset; Property which earns returns from both income and growth, certainly falls into the Growth bucket.

But other asset classes are not so obvious.

Fixed Interest

With Government bonds and other types of fixed interest such as debentures, the source of returns is mainly from income. Although the capital value can change, it does not change anywhere near as much as shares or property. In any case, if a bond is held to maturity you receive your original capital investment back, and your total return is earned as income.

There is a very low chance of default with fixed interest, unless you’re speculating in fixed interest investments with a low credit rating, otherwise known as “junk bonds”.


Some share investors break Australian shares into “Defensive assets” and “Growth assets”. They believe that high yielding stocks are Defensive assets, but are they really?

Bank stocks, for example, have been great for a number of years now, but during 2015 they have been volatile. There is always sector risk. How would the banking sector perform if interest rates rose to (say) 10% and there were many residential housing defaults?

Then there are company specific risks which can crop up and affect high-yielding shares.

A recent example is IOOF (IFL). They distribute a high proportion of profits as dividends and offer a high yield. However, there was some unexpected company specific news during the year which caused the share price to drop 21% at one stage. This is the nature of share investing. There are often going to be unexpected events occurring which affect the share price of a specific company – even a “Blue-chip” one.

There is also the problem that some companies pay dividends from borrowed funds, which makes them look good, but is sometimes a way of hiding the underlying problem that profits are not that good, which could spell risk to capital value once shareholders look beyond their dividends.

In my opinion “shares” as an asset class must be considered a Growth asset, while accepting that some investors want sub-categories of “defensive shares” and “growth shares”.

The problem is, can you really identify in advance whether a share is going to behave as a defensive asset or a growth asset? I’ll be honest – I’m not sure I can consistently do that.

I think it’s a mistake for investors to buy any share thinking it’s going to behave like a Defensive asset in managing risk in their overall portfolio of assets.

Looking at it mathematically, one of the benefits of having a diversified portfolio (not just a diversified share portfolio) is that you can spread your money around asset classes which have a low level of correlation. In other words you can invest in things which do not tend to move in the same direction at the same time, which reduces volatility of your overall portfolio.

Yet defensive shares are highly correlated with growth shares, so there is little benefit gained from this diversity in terms of reducing overall volatility.


As a class of investments, Infrastructure is treated by some investors and fund managers as a Growth asset, and by others as a Defensive asset. Certainly some returns are sourced from income, such as tolls on roads, but there is capital movement in the value of the infrastructure investments as well.

A recent example is the failed “BrisConnections” project, which cost many superannuation fund members dearly.

Transurban has recently bought Brisbane’s Airport link for $2 billion, which is 60% less than the original cost of construction.

Initial forecasts sad the tollway would attract 170,000 cars per day, but in fact fewer than 50,000 are using it.

Transurban are not buying this as a defensive asset. They fully expect to get capital gains from their investment, as well as income, with possible synergies of $100m straight up.

This discussion is not designed to be an opinion of any aspect of BrisConnections, but it serves to illustrate that infrastructure as an asset class falls into the Growth bucket.


As an industry, we could help investors better understand their investment risk by adopting standard nomenclature.

By starting with the terms “Growth assets” and “Defensive assets”, we could use these as building blocks to better describe specific investments such as “Balanced funds”.

Disclaimer: Past returns are no guarantee of future returns. None of the content in this article should be construed as advice. Speak to your professional adviser about your circumstances and objectives before taking any action.

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I ♥ Volatility (part 3 of 3)

six-163771_1280Following on from my last blog on ‘Volatility’, one reason for setting a target asset allocation is to manage risk. Another is the potential to increase returns, especially in times of increased volatility.

For example, Owen sets a target asset allocation to have 80% in Growth assets and 20% in Defensive.

Of the 80% in Growth assets he aims to have 60% in Australian shares and 20% in International shares.

The strategy is simple: As the Australian share market goes up Owen becomes over-weight shares and sells some, and when the market has fallen and he has become under-weight shares. He then moves money back out of Defensive assets into shares.

Effectively Owen is buying when things are low, and selling when things are high. Owen has no idea where the market is about to go, or which share is going to be a “winner” but he is being disciplined at sticking to a plan laid out in advance.

Actually implementing the strategy is harder, especially if you are self-directed rather than using an adviser who can act without emotion, and is engaged to monitor when the trades are needed.

Many investors with advisers are using this strategy, but many Self-Managed Super Funds (SMSFs) are missing out, because they are fully invested in one asset class or another.

If an SMSF investor was to set a target asset allocation with some money in Defensive assets, they may benefit from being able to move a portion of money from Defensive assets into shares, when they are under-weight shares, and vice versa.

But when it comes to Defensive assets, most SMSF investors think only of term deposits, apart from a small amount in cash earning virtually nothing. A limitation with term deposits is that you must tie up your capital for some time, which means the money would not be available for this strategy.

The good news is, as well as holding term deposits there are alternatives for Defensive assets such as Exchange Traded funds (ETFs), actively managed funds or Index funds which invest in a broader range of fixed interest investments. Apart from the added diversity this can bring a portfolio, there is also a greater liquidity. You can access funds within a reasonable period of time, such as 3 days for ETFs.

This liquidity may be important to an investor who wants to regularly re-balance their portfolio to a target asset allocation, to take advantage of short term volatility.

Some SMSF investors may significantly benefit from considering which asset allocation approach to adopt, perhaps setting a target asset allocation, and from becoming aware of the range of options available to them for accessing the various defensive assets as well as the growth assets. This could not only improve performance, but help to take the stress out of investing.

Disclaimer: Past returns are no guarantee of future returns. None of the content in this article should be construed as advice. Speak to your professional adviser about your circumstances and objectives before taking any action.

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I ♥ Volatility (part 2 of 3)

leisure-199231_1920Following on from our last blog on ‘volatility’, we used to have a “news story of the day.” Now we have a “news” story of the hour.

This accelerating pace of “news” causes us to feel more and more anxious, and it is the reason that the increase in short term share market volatility is here to stay.

The fundamentals have not changed. Share market returns come because of the earnings of the businesses, but volatility is going to be the share investor’s constant companion.

There are at least 2 ways to deal with it: Recognise the stories for what they are and choose not to participate in the hype or panic, or put a strategy in place to benefit from it.

Many Self-Managed Super Fund (SMSF) investors have a “fans” approach to investing. It’s as though they go to a footy match wearing a “Shares” jumper, perhaps with their favourite stock on the back. Or different SMSF investors may have a “Property” or a “Cash” jumper.

For these “fans” of particular asset classes, the concept of asset allocation is foreign. Many have not thought about which asset allocation may be appropriate for them, let alone which asset allocation approach they should adopt.

Some investors set a target asset allocation and regularly rebalance back to this target. This is called a Strategic Asset Allocation (SAA) approach. Others may set a target asset allocation, but change their target from time to time, for tactical reasons. This is a Tactical Asset Allocation (TAA) approach. Others simply follow investment opportunities as they are presented, without setting a target asset allocation. This is an Adaptive Asset Allocation (AAA) approach.

One reason for setting a target asset allocation is to manage risk. Another is the potential to increase returns, especially in times of increased volatility.

Next week I’ll publish the third and final blog in this series looking at how some SMSF investors could consider changing their behaviour to take advantage of volatility, without needing any special insight into the future.

Disclaimer: Past returns are no guarantee of future returns. None of the content in this article should be construed as advice. Speak to your professional adviser about your circumstances and objectives before taking any action.

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I ♥ Volatility (part 1 of 3)

roller-coaster-365769_1920I love share market volatility. Do you know why? Because it means “Opportunity”.

When you look at past returns, and I don’t mean just last year or even the last 3 years, I mean the whole twentieth century, you learn something quite interesting.

In any particular decade, you can compare the earnings from the businesses listed on the stock exchange (both distributed as dividends and retained for future growth) and compare them against the earnings from the share market (dividends paid plus growth in capital value).

In some decades the earnings from the share market exceeded the earnings from the businesses. We could call this an “optimistic decade”. People felt more optimistic, because of what was going on in the world, so they tended to pay more for shares than they may have been worth.

Other decades it was the other way around.

For example, In the 20s, 50s and the 80s, share market earnings exceeded actual business earnings. But in the 40s and 70s share market earnings were less than business earnings.

Why? Have a look what was happening in the world in those times, which influenced our mood and our behaviour. The “roaring” 20s, war in the 40s, recovery in the 50s, fears of oil shortage in the 70s and the greed of the 80s.

But here’s the key point. Over the 100 years of the twentieth century, the earnings from shares almost exactly equalled the earnings of the businesses.

The periods of optimism and periods of pessimism flattened each other out over time, and the long term trend line of the share market was equal to the earnings of the businesses.

That’s why share markets have always recovered after falls and why they always get pulled back when they get ahead of the long term trend line.

There’s a very practical reason why shares revert back to an ever increasing trend line. The earnings of the businesses, and the fact that some of the earnings are retained which helps them grow.

In the twenty-first century the fundamentals have not changed. But what has changed is how we get our news.

Next week I’ll publish the second part of this blog looking at why increased volatility is here to stay and why SMSF investors may be missing out on an opportunity to take advantage of this.

Disclaimer: Past returns are no guarantee of future returns. None of the content in this article should be construed as advice. Speak to your professional adviser about your circumstances and objectives before taking any action.

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