12/25/2008

Investing $billions or $millions

The key questions in everyone's mind today is risk in investment. How much risk to take and capital protection. Would the investment lead to a total wipe out of the capital put in. In the minibond case, many were looking at long term bond or fixed deposit equivalent that have very little risk of losing their capital. They are looking for a little better than the pathetic interest rates for fixed deposits with minimal risk or no risk at all. Then in the case of Madoff's ponzi scheme, many of the investors went in for a consistent and respectable return for their money on the track records of Madoff's company and Madoff's reputation. A lot of assumptions were taken for granted eg SEC regulations, audit checks were expected to be in order and no fraud was expected. There were risks but none of the investors would have considered them or have sleepless night over them. They could lose some money if the investment climate changed but neither would they ever thought of losing it all. Then again investing in an institution like Madoff's and in a normal situation would be like walking into a bank to buy unit trust, a long term investment that could not go too much wrong. When a financial crisis is brewing, when a major financial institution is in financial trouble, or any big corporations in need of fund to survive, the need for due diligence is much heightened. Putting money into a crisis organisation is like putting in good money after bad money. How bad is the situation and how high is the risk must be the major considerations before committing millions or billions into it. And when millions and billions are concerned, capital protection must be vital. This is not placing bets in a casino where one is prepared to lose the whole bet. This is investment, investing huge sums of money with calculated risks and knowing how much to lose. Going into such high risk investments in a risky situation is different from investing in a Madoff fund or even a minibond equivalent. Here the risk is very high and very real, an organisation about to turn turtle. People cannot go into such critical investments using huge sums of money without protecting their investments and risk losing everything. We have pumped billions of public money into distressed banks and financial institutions recently. Were the risks carefully evaluated and the capital protected by some conditions or agreements without having to lose all or a major part of it? Or were the people deciding on these investments prepared to lose everything without protecting the capital? We are losing a lot of money, public money, and some bets could end up losing everything. High risk high return is as good as gambling in the casino. Investing is not about losing but managing loss and maximising returns. If losing everything is not a factor in the decision making, then it is a highly dangerous adventure. Maybe the risk of losing is computed from the total sum of funds under management. If one is managing $100 billion, taking a calculated risk to lose $10 billion in a single investment is risking 10% of the whole and acceptable. This may be what some fund managers would think. But think again. If the funds are public money, and the 10% is in the billions, it is not a peanut monopoly game. It is risking real money, substantial amount of money. I believe all the supertalents who are paid supertalent salaries must have weighed all these factors carefully before they made the decisions. They are paid good money and are expected to do their due diligence.

5 comments:

Anonymous said...

My sores "Foreign students in Australia being exploited for profit: Report

By Roger Maynard, Australia Correspondent" http://www.asiaone.com/News/Education/Story/A1Story20081223-109907.html

FFT

Anonymous said...

i like your argument, but i think there were indeed protections built into "those" big investments. yes, no matter how dumb it may look afterwards, investment is a high risk business afterall, nobody can really be faulted; what bewilders in our case is not the decision to invest in distressed assets, which is a textbook strategy anyway, but the earliness of the decision. at the commencement of the new down cycle, we seems way too early, excited and bold to shoot off the block; warren buffet is the just opposite.

Anonymous said...

after this exciting year of speculations, we shud set up pet soup kitchens so that our pets need not go hungry next year.

Anonymous said...

For long term they will tell you, but just how much we could have saved if we had not gone in so early when the crisis was just developing. But of course they answer to nobody and they are just turning a deaf ear to our complaints. Well, we elected them and we have to live with them. Just let it be. Life is short and uncertain lah.

redbean said...

hi FTT, welcome to the blog.

not only the students are exploited. the whole education system is sick. it is commercialisation all the way.

as for our investment, for laymen to rush in it is forgiveable. but when you demand to be paid as a super professional, you can't run away from making a really bad call. the more the asking the price, the bigger the expectation and responsibility.

in these recent cases, it is bad call if the capital were not protected in some way. it is professionally unacceptable for this kind of losses in the hands of experts.