The Hindu Business Line : History, a poor guide to future returns

It is normal to expect an investment that performed well in the past to similarly be a winner in the future. Alas, history is an extremely poor guide to future expected returns for financial assets, observes Christopher L. Jones in ‘The Intelligent Portfolio’ ( www.wiley.com ).

“While it might seem reasonable that the average stock market return over the last 50 years is a logical estimate for what the next 50 years may hold, there is a large range of error in the historical average,” he adds. Focusing too much on historical returns can blind you to events that could happen, but have not happened before, the author cautions.

“It is critically important to remember that investment decisions should be based on what is possible, not just on what has transpired in the past.”

Jones is aghast at backtesting, a common practice that the investment industry adopts to show ‘how an investment strategy would have performed over different period if that strategy had been employed during that time.’

But the historical performance of the best of 100 tested strategies says very little about its future performance, he advises.

“Why? The more models you test, the more likely you are to find a spurious fit to the historical data.” Compulsory read, especially if you don’t want to dumbly follow the herd.

Money and power

In the ‘cast of characters’ at the end of Joe Studwell’s ‘Asian Godfathers’ ( www.vivagroupindia.com) – nestling with Chang Ming Thien, Daim Zainuddin, Eu Tong-sen, Halim Saad, Rashid Hussain, Khoo Kay Peng, Lee Loy Seng, the Kuoks, the Lims, and the Yeohs of Malaysia – is an odd name: Ananda Krishnan, a Harvard MBA, who made his first millions in oil trading.

“Krishnan was saddled with vast foreign exchange-denominated debts because of purchases of imported telecommunications, broadcasting and satellite equipment. But he had unrivalled access to Mahathir,” recounts Studwell. “State oil and gas company Petronas came to Krishnan’s aid, buying out most of his interest in the mammoth Petronas Twin Towers and Kuala Lumpur City Centre real estate project.”

Krishnan had dug himself a big debt hole, but with Petronas – of which he was a founding director in the 1970s – acting more like a captive bank than an oil company, and constant cash flows from his gaming and broadcasting monopolies, as well as shares in de facto power generation and mobile telephony cartels, he was able to clamber out, continues Studwell.

An unputdownable account of ‘money and power in Hong Kong and South-East Asia.’
Nervous system of business

Understanding the financial side of the business will make your work life more meaningful, assure Karen Berman and Joe Knight in ‘Financial Intelligence for HR Professionals’ ( www.tatamcgrawhill.com ).

“You would never play baseball or backgammon without first learning how the game is played; why should business be any different?” they argue. “Knowing the rules – how profits are figured, why return on assets matters to shareholders, and all the rest – lets you see your work in the big-picture context of business enterprise, which is simply people working together to achieve certain objectives.”

Financially intelligent managers, in HR and other departments, contribute to a business’ health because they can make better decisions, aver Berman and Knight. Financial intelligence, which ensures that people understand a company’s objectives and work to attain them, brings in transparency in communication and acts as ‘a simple antidote to politics.’ Describing financial information, as the nervous system of any business – which contains data on how the business is faring, and where its strengths, weaknesses, opportunities and threats are – the authors bemoan the fact that for too long, a relative handful of people in each company were the only ones who understood what the financial data meant.

Well-presented.
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D. Murali

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