Frank Newman: Picking winners in 2012

2011 was hardly a vintage year for investors. The success stories in the property market were largely about long-term investors picking up bargains due to the misfortune of others, while the sharemarket hardly gets a mention in investment success stories at all – and for good reason – even the experts find it difficult picking winners.

Each year brokers are asked by the NZ Herald to pick what they believe will be the best sharemarket performers in the year ahead. Given they are experts in this area and they do spend their working days thinking and breathing shares, it’s would be fair and reasonable to expect their picks to be better than the average café dweller, wouldn’t it?

It seems that may not be the case. In the 2011 year only three out of the seven brokers managed to beat the index. In other words, four of the seven brokers taking part performed no better than a circus chimpanzee making random investment choices by picking raffle tickets from a hat.

The Herald quite rightly points out some limitations with its survey. The survey does not allow brokers to review choices during the year. A good investment adviser will monitor client recommendations and may well have recommended clients take profits or cut losses during the year, which would significantly improve the performance. On the other side of the ledger, the survey excludes brokerage fees, which if included would have reduced returns. Another factor is the survey does not include all brokers. Some refuse to take part, and others have not been asked to be included.

The poor 2011 result does not mean to say sharebrokers are hopeless at their job – I am sure they know a thing or two about PEs, EPSs and NTAs. And let’s not forget investment advice is a tricky business – any business whose performance is predicated on the distant future is.

The daily news appears to be a series of chaotic events, some good some bad, that impact directly on investment returns. It would be unreasonable for example to expect a broker to predict the Pike River coal mine disaster and the impact it would have on NZ Oil and Gas. Likewise largely unpredictable changes in the value of the NZ dollar will benefit some and disadvantage others.

The question is really can sharebrokers (can anyone?) consistently pick stocks better then their clients or better than an outcome produced by mere chance?

It’s a fair question to put to anyone giving investment advice. Investment advice comes at a cost, and fair enough, even investment advisers need to earn a living, but are they actually adding any value to your investment returns? Are you getting any benefit from the investment advice you are paying for? Judging by the annual stockbrokers picks one would have to say a very definitive, “probably not”.

This is a question that has been debated in academic circles for many decades. Actually, it is not so much of a debate because pretty much everything is pointing to a conclusion that investment advisers are not able to produce returns beyond those appearing by mere chance.

Investment industry practice is starting to come to this reality, as can be seen in the rise of passive investment funds (funds that don’t even attempt to produce superior returns, but simply provide a convenient and diversified investment vehicle) but it’s fair to say self-interest and investors actually wanting to believe their brokers have superior abilities means the investment industry still has a stock picking culture.

So which stocks are the seven broking forms picking for the best returns of 2012? Does it really matter?