Expert's View 名家觀點


七月 1 , 2019  

What’s the Worst That Could Happen?


by Charles Cheng, CFA



The decision to put one’s assets in equity markets as opposed to cash, bonds, real estate, or commodities is based on one’s perception of the relative risks and returns. On the return side, there is a clear historical track record of growing wealth through investing in stocks. From 1900 to 2018, money invested in developed equity markets in aggregate would have increased by 11,821 times in USD terms, and in emerging markets would have increased by 3,745 times. The risk side is a little bit more complicated, with a number of different ways to analyze it. However, regardless of how risk is measured, a basic thing that an investor would want to know is what realistically could be the worst thing to happen to the invested money.



118 year Equity Market Returns, Developed vs Emerging Markets


Source: Credit Suisse Global Investment Returns Yearbook 2019



Total loss is a possibility for those with extremely undiversified portfolios, such as having all assets invested in a single company which subsequently goes bankrupt. Also, being totally invested in a few companies within a single sub-sector, such as high-flying internet stocks in the 90s could lead to a similar result. Most investors do run more sensible allocations, although some of these scenarios come about not by choice (as in the case of a business founder who holds a concentrated position in his company’s stock).




Historically, there have even been cases where the stock markets of entire countries have gone to zero. Following the Russian Revolution in 1917, the victorious communists closed the Russian stock exchange and took ownership of all private companies. Similarly, in China in 1949, following the communist victory over the Republic of China, privately owned companies were also nationalized. On the earlier return chart of Developed and Emerging markets, you can see where the emerging market aggregates took a hit around both 1917 and 1945-1949. These periods of political turmoil were the main cause of the underperformance of emerging markets over the century. But with a globally diversified portfolio, even portfolios with allocations to the dead markets would have made a substantial return over the long term.




With a reasonably diversified portfolio, the risk of permanent loss is much reduced. The main risks become underperformance and drawdown risk. For the sake of simplicity, we will focus on the latter risk. Even on a global level, stock markets can have times of extreme losses over short periods. In the 1987 stock market crash, the US stock market lost around -22% in just the month of October, while the MSCI World Index lost around -17%. The Hang Seng Index in Hong Kong lost over -43% that month while the Taiwan Index lost -39%. More recently, during the Global Financial Crisis, the MSCI World Index, lost over 50% of its value between October 2007 and February 2009. These losses hard to recover from for investors who needed those assets in the short term to meet an expense or obligations or were leveraged enough to be forced into a margin call.



MSCI ACWI Index, Dec 2007-May 2019


Source: Bloomberg

來源: 彭博


For others who took on a more reasonable level risk, these losses were just temporary, with markets recovering within a few short years, and then continuing to gain hundreds of percent. For them, and for most investors, the worst thing that could have happened was to have gotten out of the market for the sake of avoiding volatility in their portfolio.




Mr. Cheng is a managing partner at a Hong Kong based independent private investment office. This article reflects his personal views and not his firm’s and should not be viewed as an investment recommendation.