I answered a question recently about the failure of the Quintis group, and thought it was worth going into a little bit more detail in an article as these types of failures seem to be a recurring theme in Western Australia.
Let’s start with an important point that many people either don’t understand or choose to ignore. Investing is no sure thing. For every person who hits the jackpot by buying shares like Apple or Microsoft before they boomed, there is a large amount of people who back the wrong business and end up losing their entire investment.
The practice of spreading money among different investments to reduce risk is known as diversification. By picking the right groups and number of investments, you may be able to limit your losses and reduce the fluctuations of investment returns without sacrificing too much potential gain.
As a Managed Investment Scheme (MIS,) Quintis offered investment into Indian Sandalwood Trees across Northern Australia. Investors into these plantations are yet to find out their fate, but owners of the shares have seen their holdings plummet from a high of $1.70 a few months ago to potentially becoming worthless today whilst they await further news. In both scenarios, the investment is into a single company with no real diversification, so if it fails, the investment fails completely. Consider the example below:
In this example, Company B has an outstanding year while Company C has a pretty spectacular collapse. However, because the portfolio is diversified and includes another eight companies with a collection of more average years, the total investment grew by seven per cent overall. The hope of a big payday is why many people with a limited understanding of exactly how investing works put everything into an MIS hoping it is Company B; unfortunately the law of averages suggests that half of those people will be investing in Company C.
Share prices are ultimately determined by supply and demand. The more interest companies can generate, the more demand there will be. This is where independent advice becomes important, because no-one who is selling their own investment – or getting commission for selling someone else’s investment – is going to tell you there is a reasonable possibility you could lose everything. And the reality is that if you want the big payday, you will invariably be risking a potential big loss.
Likewise, you don’t want to be investing solely for tax purposes. The selection process for any investment within your portfolio should follow a very diligent selection process and if this is not your skillset, then again independent advice should be sort before handing over your cash.
When you invest in established companies there is generally a long track record of consistent production combined with consistent share prices and steady rather than spectacular growth. This is because investors know almost all the details of the company and have a historical record to base their estimates on. While history doesn’t guarantee anything with regard to share prices, it does give a very strong indication of what to expect from company performance, and investors base their predictions off those.
Established companies are only likely to have dramatic changes in share price if their business is disrupted in some way. For example, a mining company discovers a massive new mineral deposit (good for them and investors!) or a company like Kodak invents digital photography but doesn’t invest in it because they think there’s no future in it and it will eat away at their main business (yes, this actually happened and yes, it was very bad for them!). In the main, a diversified portfolio of established Australian shares will average about nine per cent a year over the longer term. If you want to achieve better returns than this, then you also need to ask yourself whether you want to take on the associated risk that comes with that decision.
Where investors can really strike it rich (or poor) is where little or nothing is known about a company – and even more so if they are in a relatively new industry. Back to Apple and Microsoft. In the 1980s, few people really understood the potential demand for personal computers so there was no frame of reference for how to value their shares. Both originally sold for less than a dollar per share. Those who bought before the media hype and consumer demand obviously did extremely well; however investors in Compaq or Atari – two other ‘80s computer brands – would have lost everything as those companies never made it to the turn of the millennium.
Closer to home and in the case of Quintis, it benefited by:
(a) Being a relatively new company
(b) Sandalwood being relatively new as an investment option in Australia
(c) Getting some high profile celebrity endorsements to spike interest
(d) Offering to pay advisers and accountant’s commission to refer investors to their offering.
(e) Investors receiving a full tax deduction for their initial investment made
(f) Easy financing options to fund the initial investment
As a result, investors were more likely to be given a skewed impression of the likely success of the company and would have no company track record to consider.
All things considered, the surprise isn’t so much that Managed Investment Schemes fail spectacularly from time to time, the real surprise is that these schemes continue to attract so many poorly informed investors.
As published in The West Australian.