New Year Investment review

One respected US bank has suggested that the FTSE100, which comprises Britain’s largest companies, could fall by 16% by the end of 2008 and that house prices could weaken by 10%. In essence, it feels that the “credit crunch” that led to Northern Rock’s problems is far from over; and since banking and financial institutions comprising such a major part of the FTSE100, this must impact on the sector. More than this, it predicts more widespread economic implications to follow.

To what extent this is “closing the stable door after the horse has bolted” is unclear. After all, anyone following weather forecasts in the UK cannot help but notice how keen the BBC is to predict severe weather, ever since “that” October day in 1987. So it is hardly surprising if American banks, which were at the heart of the sub-prime lending that led to the current credit crisis, prove to be overly cautious now.

Investment markets are all about sentiment, as much as underlying financial strength; which may explain how markets got overheated in the first place. What is really important is that individual investors think carefully about how they wish to invest.

For most people, walking away – or turning all their assets into cash – is not really a practical option. Even if it were, this would expose them to the risk that if some markets were to grow, they could miss out.

The main point is that investors should think about asset allocation strategies carefully; not to put all their eggs in one basket. After all, if you pick the right asset class, you could be in for a bonanza; but if you pick the wrong one you will lose a lot of money. Better by far to avoid the excesses of some downward moves even if this means missing out on some of the benefits of some of the upsides.

In simple terms this can be described as a person having £60,000 invested in shares. If this had been equally invested entirely in the FTSE100 over the year to 30th November 2007, it could have grown to £63,806. Had it been in the Dow Jones over the same period, it could have grown to £62,778 because although the Dow Jones grew by 9.41% over the period, the dollar weakened by 4.18% reducing the sterling value of the growth. Had the same money been invested in the FTSE250, it would have grown to just £60,468.

However, a diverse asset allocation strategy that included all three indices equally would have produced £62,351; less than the FTSE100 and the Dow Jones but much more than the FTSE250 alone. This rather simplistic example demonstrates how a diverse asset allocation strategy can help smooth out the vagaries of different markets as well as currency fluctuations. Why not take the opportunity of the New Year to review your own investment strategy?

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