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Market Perspective
Follow the Money
 by Ernie Ankrim, Ph.D.
Chief Investment Strategist
Frank Russell Company
February 19, 2003
Do you know the phrase "follow the money?" It's usually used in a political context. Supposedly if you "follow the money" back to its source, you can figure out what's really going on in Washington.
Politics is not my forte, so instead I've been "following the money" in the mutual fund world, which means taking a look at cash flows in and out of different fund categories. And the money is telling me quite a story about the mindset of today's investors in the North American market.
For example, here are some interesting statistics about the US market: According to Investment Company Institute data, in October 2002, American investors funneled US$6.44 billion into bond funds, withdrew US$7.5 billion from stock funds and invested US$12.47 billion in money market funds. In November 2002, US$7.63 billion was invested in bond funds and US$6.95 billion was invested in stock funds. That money that went into stock funds departed, plus some, in December as investors redeemed US$7.75 billion. December's bond fund inflows were US$7.37 billion. And the money market fund arena gave indications of indecisive investors. In November, individual investors withdrew US$7.27 billion but institutions poured an overwhelming US$134.82 billion into money market funds.
All That Glitters may not be Golden
At the same time inflows into bond and money market funds were growing, the price of gold started rising dramatically. By December 2002, gold had risen to US$348 an ounce — a 20% increase from the previous year.
What's going on? Why would long-term investors park billions of dollars in fixed income, much less money market funds yielding at best 1%, or buy a commodity like gold even though it offers no long-term prospects for real returns?
Because they're frightened. After three years of punishing markets, many individual investors are scared of large losses and further political and economic uncertainty. Money market funds and gold both offer security. While investors may not make much money — certainly not enough to offset inflation — they also won't lose large amounts either.
The Fear Factor
Unfortunately, what people often do in the face of fear are the things that serve them the poorest. And that's the case with investors as well. What individual investors are doing right now is either waiting until they see clear, recurring evidence of a market recovery or holding on to secure investments even if the returns are low.
Sadly, I think most people who choose to be in cash-like instruments now will come to realize they should be back in the market in a year or two. But by that time, they will have probably missed some substantial return, because it will take substantial returns to convince them that they've made a mistake.
Sitting on the sidelines is rarely a good move when it comes to the stock market. Market increases often come in brief spurts, like they did in 2002. While the market was down overall, there was a dramatic 20% rise in equities from mid-October through the end of December. As I wrote in When History Doesn't Repeat Itself, I don't expect to see double-digit returns this year; but we may have some big moves from month to month. Since I believe a reasonable expectation for returns this year is somewhere between 7% and 10%, missing even a single burst could cost an investor the year's entire return.
Plan For — Don't Run From — Risk
I think the toughest part about being a disciplined investor is that it requires you to stick with an investment strategy that exposes you to the possibility of loss. There will always be risk in these markets; that risk is the reason we can expect an attractive return. So if you're looking to meet an investment objective, you need to start with — and stick to — a plan. And that plan has to assume an honest view of your own willingness to tolerate risk and a reasonable expectation of market performance.
Most people who end up with significant amounts of wealth aren't the lucky ones who work at companies with stock options that explode into millions of dollars. The majority are individuals who systematically set aside some amount of money every month in a diversified portfolio and allow the financial markets to play a role in their savings plan.
This is a strategy that doesn't require knowing exactly when or where to invest; it doesn't call for hours of research or obsessive strategizing. But time has shown that it's an effective way to build and protect long-term financial stability.
Date of first use: February 19, 2003
The information and any statistical data contained herein have been obtained from sources which we believe to be reliable but we do not represent they are accurate or complete and they should not be relied upon as such. All opinions expressed and data provided herein are subject to change without notice.
This is a publication of our parent, Frank Russell Company, written specifically in view of the US market. It should not be construed as investment, legal, or tax advice. The contents are intended for general information purposes only, and you are urged to consult your own investment, legal, or tax advisor concerning your own situation and any specific investment questions you may have.
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