Investment guide for 2009: diversification

Last week we started the discourse on the forces of risk and return as the two major factors every investor who intends to succeed in the investment world in 2009 must come to terms with. I had explained the weaknesses and strength in the different classes of assets. This week we will be looking at how to create a balanced investment portfolio through good diversification.


You’re almost certainly familiar with diversification, but it is also one of the most misunderstood investment concepts.

Diversification is one of the most commonly discussed topics among all types of investors-from those just starting out to the largest money managers on Wall Street. The reason: “Diversification is, without question, one of the keys to your success as an investor, “But you must employ it correctly”

As an investor, it’s crucial to ask yourself two important questions about your portfolio: Am I truly diversified? And am I taking advantage of all the strategies at my disposal to capture the full range of diversification benefits?

True diversification

The basic idea behind diversification is simple: Don’t put all your eggs in one basket. That said, simply owning a large number of stocks or other investment doesn’t automatically make you diversified. The key, is to spread your capital across a wide variety of asset classes and asset styles that have fundamentally different risk and return characteristics.

Such investments typically behave differently from each other during a market cycle-bonds often perform well during periods of stock market weakness, for example, while some international shares might rally when the Nigerian market falls.

By combining different types of asset classes, you can enhance your portfolio’s return potential, while simultaneously lowering its overall level of risk.

These advantages can be especially important for investors looking to preserve what they’ve earned. For example, consider an executive whose wealth is concentrated in his or her company’s stock. “The same stock that makes an investor wealthy can also damage that wealth if it runs into trouble, as within the past six months with many companies and CEO’s” If one of your goals is to preserve your capital, diversification is an absolute must. Feelers reaching us have shown that the world’s richest men are not immune to the mess caused by the financial crisis because of poor diversification. It was recently carried in a national daily that virgin Nigeria might be running into cash flow troubles; this is a company that Richard Branson would have easily assisted in times past if the cash was there.

Diversification is a useful technique that can reduce overall portfolio risk and volatility. Diversification neither ensures against a profit nor protects against a loss. Each investment type has different investment and risk characteristics. Bonds, treasury bills, treasury certificates and other money market instruments have fixed principal value and yield if held to maturity. Bonds have market risk, interest rate risk and credit risk. Stocks can have fluctuating principal and returns based on changing market conditions. The prices of small company stocks or penny stocks generally are more volatile than those of large company stocks this is evidenced by the significant losses witnessed in the insurance sector of the Nigerian stock exchange in 2008.

Asset allocation

One of the most effective ways to diversify an investment is with asset or fund allocation, and it is a good way to help smooth out volatility in your portfolio.

How does asset allocation work? Different asset classes (such as stocks, bonds, properties) may respond differently to the same market conditions. This means if one part of a diversified portfolio does poorly it can be buffered by other investments that do relatively better. In other words, asset allocation helps spread the risk over several investments. The key to asset allocation is investing in assets with dissimilar performance. While the scientific and measurable investing principles of asset allocation are sound and are well proven, up until recently the process required some detailed mathematical calculations.

A properly diversified portfolio within the Nigerian economic terrain should include investments in a variety of industries and asset classes such as cash, stocks, government bonds, fixed annuities, insurance policies, real estate, and personal business endeavours. A Detail study of these different classes of diversification for a Nigerian investor will form the focal point of our discussion in the next edition.

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NIGERIA TO BENEFIT FROM OBAMA’s “USE IT OR LEAVE IT” POLICY

The expectant echoes of the Barack Obama’s soon to be inaugurated presidency in the United States of America might have recorded its first true translation of the high hopes of Nigerians over the Obama presidency to a commitment of assistance soon after the inauguration of the first black man to emerge president of the United States of America.

Yet, this support, in its present form, is not a programmed or any of the contemplated official aids or support for Nigeria by the United States of America’s president elect. Rather, Fortune and Class Weekly has been informed that a USA based non for profit, info-tech focused organization, Saigant Technologies, was alert enough to locate an immediate opportunity that can be utilized for the benefit of Nigerians in the first set of economic stimulus package the president elect as assured Americans he is going to introduce to revitalize the recession bound American economy.

Mr. Obama, had on Saturday, December 6, 2008, in a radio address on the economy reviewed how 533,000 jobs were lost in the US and how jobs lost alone in November became the single worst month of job loss in over three decades.

“Yesterday, (December 5, 2008) we received another painful reminder of the serious economic challenge our country is facing when we learned that 533,000 jobs were lost in November alone, the single worst month of job loss in over three decades. That puts the total number of jobs lost in this recession at nearly 2 million.” Obama said in the broadcast

Highlighting the areas of worries for the average American, Obama said:

“But this isn’t about numbers. It’s about each of the families those numbers represent. It’s about the rising unease and frustration that so many of you are feeling during this holiday season. Will you be able to put your kids through college? Will you be able to afford health care? Will you be able to retire with dignity and security? Will your job or your husband’s job or your daughter’s or son’s job be the next one cut?”

“These are the questions that keep so many Americans awake at night. But it is not the first time these questions have been asked. We have faced difficult times before, times when our economic destiny seemed to be slipping out of our hands. And at each moment, we have risen to meet the challenge, as one people united by a sense of common purpose. And I know that Americans can rise to the moment once again.”

The president elect thereafter informed the American public of his economic recovery plan when he assured that:

“But we need action – and action now. That is why I have asked my economic team to develop an economic recovery plan for both Wall Street and Main Street that will help save or create at least two and a half million jobs, while rebuilding our infrastructure, improving our schools, reducing our dependence on oil, and saving billions of dollars.

“We won’t do it the old Washington way. We won’t just throw money at the problem. We’ll measure progress by the reforms we make and the results we achieve — by the jobs we create, by the energy we save, by whether America is more competitive in the world.

“Today, I am announcing a few key parts of my plan. First, we will launch a massive effort to make public buildings more energy-efficient. Our government now pays the highest energy bill in the world. We need to change that. We need to upgrade our federal buildings by replacing old heating systems and installing efficient light bulbs. That won’t just save you, the American taxpayer, billions of dollars each year. It will put people back to work.

The economic stimulus plan which is now known in some circle as the “Use it or Lose it” policy has as part of the plans the creation of millions of jobs by making the single largest new investment in America’s national infrastructure since the creation of the federal highway system in the 1950s:

“We’ll invest your precious tax dollars in new and smarter ways, and we’ll set a simple rule – use it or lose it. If a state doesn’t act quickly to invest in roads and bridges in their communities, they’ll lose the money.”

It is, however, in the president elect economic recovery plan to launch sweeping effort to modernize and upgrade school buildings and to repair broken schools by making them energy-efficient, and putting new computers in the classrooms that Nigerians stand to benefit in the immediate.

An official of Saigant Technologies, an organization that was established by a US based Nigerian, said a review of the US president elect radio broadcast of December 6, 2008, provided an immediate answer to the limitation to owning lap tops and desk top computers by Nigerian students.

“You should recall that the Mr. Obama talked about renewing American schools and highways, and about renewing information superhighway. For the president elect, it is unacceptable that the United States ranks 15th in the world in broadband adoption. He argued that in the country that invented the internet, every child should have the chance to get online, and promised that they’ll get that chance when he becomes President – because that’s how he wished to strengthen America’s competitiveness in the world. Now for us in Nigeria, the specific highlight of information technology overhaul as part of the economic stimulus plan of the president elect presented a begging opportunity to imagine what the incoming American government would do with those computers, lap tops and those IT accessories the government would be replacing in order to galvanize the American domestic economy.”

“We realized that the US government would have problems disposing off these equipment which, if compared to our standard of usage here in Nigeria, would look relatively new and in the light of the limited access to computer sets and lap tops in Nigeria, the simple logic was to approach the likely channel through which we could connect with the president elect to present our proposal of moving the American used laptops and computers to those that would need them in Nigeria.” The Saigant source said.

“We made a direct offer to the president elect through Change.Gov website of the president elect and the response is quite assuring. There is a commitment to accessing about 200,000 computer sets and laptops free of charge over the next two years that Mr. Obama would be implementing the first leg of the economic stimulus programme. Our responsibility will only be limited to footing the transportation and clearing cost of the laptops and computer sets here in Nigeria.” The source further affirmed.

“This will be the first major impact of the Obama presidency on the average Nigerian; our intention is to use the opportunity to present the 200,000 plus laptops and computer sets to Nigerians at a no price rate, to boost the nation’s capacity for information technology.”

BILLIONAIRE GLOBAL INVESTMENT MANAGERS TURN PAUPERS

Investors of all hues and economic standing across the world have continued to count their losses in the aftermath of the sudden turn of booming and upward trending stock markets activities to snarling bearish enclaves of continuous falling stock prices across the world. Small to medium size investors, in Nigeria, especially, have been so scared that some, in frustration had sworn not to have anything to do with the stock market again.

However, the emerging scenario, when a comparative analysis is done, of losses recorded by investors across economic standing reveals that the global stock market crash would seems to have made mince meat of the very high priests of stock market investment. The men that have made billions of dollars playing the stock market have by recent calculations of their wealth positions have been reduced to near paupers. Some of these are reviewed here.

E STANLEY O’NEAL is the former Chief Executive Officer of Merril Lynch, one of the loudest investment banking firm on Wall Street, before it was consumed by the five months old global market meltdown, Merril Lynch was celebrated across national economic capitals for its outstanding investment maneuvers. The swan song has, however, been rendered for Merril Lynch, it has gone under, so had the wealth of its former CEO O’Neal who net worth in January 2007 was $127.7 million. As of two weeks ago, the wealth rating of O’Neal had been reduced to an abysmal $40.2 million.

RICHARD S FULD went down with Lehman Brothers an investment banking institution in the United States of America that captured the imagination of Wall Street and the investment communities of Europe with its exotic investment packages. When the market was up and running, Lehman Brothers was in the top five bracket of players just as when the market took a plunge, it was one of the first four to capitulate and so did Fuld’s net worth which raced down from $827.1 million in January last year to a bankrupt $2.3 million

MAURICE R. GREENBERG had retired from the American International Group, the expansive all purpose United States of America’s insurance behemoth that was mainly responsible for providing the insurance arm of the sub-prime investment corridor. Greenberg was worth $1.25 billion in January 2007 but with the cascading of the sub-prime reversed pyramid, Greenberg as of Friday 24 October, 2008 was worth a meager $49.6 million 

CHARLES O PRINCE III was Chief Executive Officer of the much respected Citigroup. Though Citiigroup still thrives during this tumultuous financial market period, Prince III’s net worth standing is, indeed, in turmoil. Rated to be worth $89 million in January 2007, his investment position is calculated to have been slashed by more than 60 per cent to $33.2 million.

 MARTIN J SULLIVAN had also administered the American International Group as its Chief Executive Officer and was worth $3.2 million in January 2007. The financial market meltdown has removed Sullivan from the list of millionaires to the large rank of “thousandnaires” with a calculated net worth of $173 thousand

HENRY M. PAULSON JR is the current United States of America’s Treasury Secretary, the equivalent of a finance minister. He was at a time the Chief Executive Officer of Goldman Sachs an investment and financial firm respected for its strategic investment capabilities based on incisive and what experts call pinpoint research and analytical competence. Despite all these attributions, Paulson lost $286 million dollars to the melt down. With net worth ranking at $809.5 million in January 2007, by 24 October, 2008, Paulson is calculated to be worth $523.5 million.

JAMES E CAYNE was, some years ago, in various investment and financial markets publication described as the postal boy of investment in America. Bear Stern, the investment bank where he was Chief Executive was known for its daring and ambition in the investment world. During the days when Bear Stearn bided and acquired companies just to straighten them out to resell at gain in a short period, Cayne’s financial standing was rated at $1.06 billion but now, his net worth had broken all the downside barriers to stand $61.2 million.     

LLOYD C BLANKFEIN is the Chief Executive Officer of Goldman Sachs, the investment bank, in fact, first raised the first alarm over the precarious state of the Nigerian stock exchange. Goldman Sachs had predicted earlier in the year that the Nigerian stock market would have to take an inevitable plunge to correct itself because Goldman Sachs research returned the verdict that the market was over valued. It would, however, seem that Goldman Sachs was only preoccupied with the Nigerian market to the detriment of the American markets. Blankfein’s investment portfolio is calculated to be worth $291 million down from $405.6 million in January 2007. 

VIKRAN S PANDIT is the Chief Executive Officer of Citigroup, in December 2007 he was calculated be worth $31.7 million but by October 24 2008, his net worth had plummeted to $22.6million

KENNETH D LEWIS is the Chief Executive Officer of the Bank of America and is rated as one of the savviest investors on Wall Street, yet his portfolio changed value from $153.7 million in January 2007 to $111.6 million in October 2008.

RICHARD F SYRON had much of his investment tied to the Freddie Mac one of the two biggest mortgage operators in the United States of America. Freddie Mac is now history, swept away by the whirlwind of the tempestuous financial storm. So also has the fortune of Syron which is calculated at a lowly $130,000 in October 2008 from it January 2007 standing of $10.6 million.

JOHN J. MAC is the Chief Executive of Morgan Stanley another storied investment banking institution with influence across the global investment sector. Mac’s net worth has plunged by more than 50 percent from $224.6 million in January 2007 to $80.4 million in October 2008.

JOHN A. THAIN Chief Executive Officer of Merril Lynch is calculated to have lost $12.5 million between December 2007 and October 2008 when the value of his investment portfolio fell from $28.5 million to $16 million.

DANIEL H. MUDD former CEO of Fannie Mae’s fall in investment portfolio symbolizes the extent of the global melt down and its impact on individual investment portfolio. Mudd’s investment stands at a pauper’s $476,000 in October 2008 compared to his $26.5million in January 2007.

SANFORD I. WEILL, former Chief Executive Officer of Citigroup’s investment worth is down from $914.9 million to $342 million.

No curbs on Wall Street workers big pay despite meltdown

Now, can we do a snap shot on the foreign scene as the financial meltdown is still melting (that can describe ill temper of the international financial and stock market)

News has it that despite the Wall Street meltdown, United States of America’s biggest banks are preparing to pay their workers as much as last year or more, including bonuses tied to personal and company performance.

So far this year, nine of the largest U.S. banks, including some that have cut thousands of jobs, have seen total costs for salaries, benefits and bonuses grow by an average of three per cent from a year ago, according to an Associated Press review.

“Taxpayers have lost their life savings, and now they are being asked to bail out corporations,” New York Attorney General Andrew Cuomo said of the AP findings. “It’s adding insult to injury to continue to pay outsized bonuses and exorbitant compensation.”

Banks will decide what to pay out in bonuses in the coming months. Just because they’ve been accruing money for incentive pay doesn’t mean they will pay it out in full.

That there is a rise in pay, or at least not a pronounced dropoff, from 2007 is surprising because many of the same companies were doing some of their best business ever, at least in the first half of last year. In 2008, each quarter has been weaker than the last.

“There are, of course, expectations that the payouts should be going down,” David Schmidt, a senior compensation consultant at James F. Reda & Associates. “But we haven’t seen that show up yet.”

Some banks are setting aside large amounts. At Citigroup, which has cut 23,000 jobs this year amid the crisis, pay expenses for the first nine months of this year came to $25.9 billion, four per cent more than the same period last year.

Even if you subtract what the bank has shelled out in severance pay and other costs related to the job cuts, overall pay is only slightly lower this year.

Typically, about 60 per cent of Wall Street pay goes to salary and benefits, while about 40 per cent goes to end-of-the-year cash and stock bonuses that hinge on performance, both for the individual and the company, said Brad Hintz, a securities industry analyst at Sanford Bernstein and a former chief financial officer at Lehman Brothers.

“The fundamental goal of the compensation plan is to allow an employee to get wealthy,” Hintz said. He also pointed out that the workers’ pay is supposed to be “exposed to the risk of the parent company.”

This should be the year where that structure is tested. The financial crisis, brought about by mountains of bad mortgage-related assets, caused banks to falter or fail and lending to dry up and prompted Congress to pass a $700 billion bailout package. As part of that, government is pouring $125 billion through stock purchases into the nine large financial companies cited in AP’s review of compensation.

Besides Citigroup, those include Bank of New York Mellon, Goldman Sachs, Morgan Stanley (MS), JPMorgan Chase, Bank of America, Merrill Lynch, Wells Fargo & Co. (WFC), and State Street. Another $125 billion will be made available to other banks.

Those taking cash from Uncle Sam must follow guidelines limiting executive pay, including a ban on golden parachutes for departing executives. No restrictions are placed on across-the-board pay.

In total, those nine banks had pay-related costs of $108 billion for the first three quarters of the year. The average increase came to three per cent, according to AP figures.