My view is that investors should concentrate on only three areas when choosing investments: deposits, fixed interest and equities. Unless you know what you are doing and have a lot of experience, there is no reason to venture away from these three types of investment. One of the most important things in choosing your own investment portfolio is determining how long it will be invested for. The longer you have as an investment horizon, the greater the amount you should have in equities and the less you should have in fixed interest. The amount you keep on deposit is a matter of taste, but it should certainly be enough to cover your day-to-day needs and any purchases that are on the immediate horizon.

As for property, if you don’t own your own home, you might consider a small exposure to a property fund, but investors should not forget that the physical fabric of any property does depreciate from year-to-year, and the only way a property will appreciate in the long term is if the rental income which it produces can be increased. When I started writing this book, there was a glut of commercial property created by the crazy prices that people were willing to pay. A glut of property will always restrict landlords’ ability to increase rental incomes, so it was clear to me that the short-term outlook for property was terrible. The problem with property is that it is not easily realisable. If you want to sell a unit trust, a share or a fixed interest instrument, you can pick up the phone and sell it. A property by contrast can take many months and sometimes years to realise. If investors ever become nervous about property, the value of property funds can fall very quickly. The fund managers then struggle to sell their properties into a falling market. In these circumstances their only practical response is to restrict withdrawals by imposing penalties on those who try to cash in. Investors therefore find themselves locked into a fund that is going down in value with no firm idea when they are likely to receive settlement. All this is exactly what started happening in 2007.

I have no argument that property had provided excellent returns for investors over the prior ten years and may one day continue to do so. However property is best regarded as a long-term investment. Don't have it in your portfolio unless you are comfortable with not needing that part of your capital again for many years. Most people have all the exposure to property that they need in the shape of their own home. I would suggest that 10% of an investment portfolio is a maximum sensible exposure to property. We recommended one property fund many years ago. Fortunately few clients invested, but it still proved to be a disaster. That experience has coloured my attitude to the sector ever since. Today we only offer property funds to clients who have already decided they want to buy. We research them and have opinions on them but are loathe to recommend them ourselves. When our financial practitioners discuss property funds with clients, they are informed to advocate caution.

I like to say to investors: “Is it likely that a local stockbroker with virtually no research can manage your money better than a leading investment manager who does nothing else all day and can draw on the most expensive research available?” The answer is obviously no. Equity income unit trusts, in particular, have an unparalleled track record at creating an investment income in retirement. Stephen Lansdown and I have been faithful exponents of their merits from the start, and never had cause to regret the fact. The dividends from income unit trusts can be safely spent in your retirement in the knowledge that next year’s dividends are likely to increase often enough to match inflation. Over time the underlying value of the investment should also improve. Once you have secured enough income from your investment portfolio to meet your immediate needs, only then should you start to consider growth funds, where there is a bewilderingly large choice of candidates. The question of how to pick the best of these funds is one that we have – from necessity – spent most of our working lives studying and thinking about.

Why are equity income unit trusts such a favourite of ours? To understand that, you need to look at what equity income unit trusts do, which is invest in the shares of companies which pay dividends. The reason why this is such a good way to invest goes like this. All companies are in business to make profits and to grow those profits year-by-year. This means that a well run company should pay progressively better dividends over time. Obviously there will be periods of poor trading when dividends might not rise. In exceptional cases, when companies get into severe difficulties, dividends are sometimes cut. More often than not this leads to the departure of whoever is running the business at the time. Cutting the dividend is not something that boards of companies do lightly; and they will typically make great efforts never to have to take such a drastic step.

In general, therefore, it is natural to expect that good companies will be able to increase their dividends from year-to-year. It would not be an unreasonable strategy simply to buy shares in all the well-run companies that pay dividends. As companies go through economic cycles and the quality of management varies from period to period, you clearly stand to do better by applying specialist expertise in choosing which companies are most likely to increase their dividends and therefore see their share prices rise. This in effect is what the managers of equity income funds spend their time doing. An equity income unit trust exists to provide investors with a diversified selection of the best dividend-paying shares in the country.

There is an added bonus too that comes from making the dividend the key criterion in selecting which shares to own. This is that over time this approach often produces higher overall returns than picking shares which have what on the face of it look like superior growth prospects. The discipline involved in picking shares with the best dividends often also helps to find the shares that produce higher capital gains in the longer term. All shares go in and out of vogue. A first class income fund manager is constantly on the lookout for companies where the share price is depressed (and the corresponding rate of dividends is therefore high). They need to be patient and may need to hold a share for a long time while they wait for the rest of the market to recognise that the share price is too low. When it does eventually happen, the gains can be substantial. As the shares rise in price, the dividend as a percentage of the share price will start to fall, prompting the equity income fund managers to sell the share in favour of something that is now cheaper. By focusing on the dividend, income fund managers are subject to a built-in discipline that virtually forces them to buy what is cheap and sell what is expensive.

Historical experience and academic research both support the view that a dividend-based investment approach is likely to produce superior returns in the long run. In many periods, as well as offering rising dividend income, income unit trusts also produce better capital performance than funds which are invested purely for capital growth. That in turn means that equity income funds can be valuable investments not just for those, such as people in retirement, who need income, but other investors as well. Those who don’t need an income immediately always have the option to “roll up” (that is, reinvest) the income into their funds and thereby increase the capital performance whilst they don’t need the income, and revert to taking the dividends when they do. It has always been our belief that no investment portfolio is complete without at least some income unit trusts in it.

It is easier to say what makes an unsuccessful investor than it is to define what makes a successful one. The most unsuccessful investors in my experience are the ones who try to time the markets. In other words they aim to move their money in and out of the market at just the right time – in when markets are cheap, and out when they are expensive. It sounds simple, but there is also a simple reason why it is so difficult to pull off. In practice nobody knows when the market is too low or too high; that is something you only find out with the benefit of hindsight. I have known investors who have been waiting for the market to hit its low point for the best part of 20 years. Whenever the market has gone down substantially, they have always been convinced it would go down further. When it starts to climb again, they have thought it was a false dawn and that the market would sink again. A few months later they realise they have missed it, repeat the process and miss it again. Such behaviour is understandable, but it is not the way to increase your wealth. It is also a great argument for regular savings. Anyone who has saved regularly throughout their lives and puts a proportion of their savings each year into the stock market is likely to enjoy excellent investment results. Sometimes they will buy at the market peaks, but for most of the time they will be investing at more opportune moments, and the results over time will almost invariably be good.

As I have already mentioned, another mistake to which many investors are prone is chasing past performance, forgetting that what matters is the future, not the past. It seems impossible to stop investors every January from buying whatever investment has given the best returns in the previous 12 months. The practice is as old as the hills, and foolhardy in the extreme. I am thankful today that the newspapers make less of a song and dance than they once did about which investment was last year’s top performer. It was unhelpful information that merely tempted investors to the wrong thing. While it is a mistake to pick the best performing sector of the past year, it does not follow however that you will automatically do better by picking the year’s worst performing sector either. In fact you should never pick a sector purely because it has underperformed the rest of the market. To take one example, commodities were the worst performing sector in world stock markets for more than a decade, starting in the mid 1980s. That changed when India and China led the developing world on a mad dash for economic growth. But if you had decided to bet on commodities solely on the basis of their earlier underperformance, it would have been easy to take the plunge far too soon.

Our many years of experience and involvement with marketing investments helps us to avoid such mistakes, though the temptation to promote the easy sell is one that all investment advisers face. We have seen thousands of investments that seemed to be dream investments from a marketing perspective, by which I mean that we could have sold huge quantities of them, had we wished. If you are running a long-term investment business however, you have to stand back and say “it may be saleable, but is it going to be good for the client?” It would be stupid to deny that we have not had a 100% record in always finding great investments. We trust that our experience, research and due diligence work will help us to avoid poor ones in the future. Nobody will ever have a 100% track record of success in this business. The research team we have developed and trained over the years know, however, that our priority is always to find the investments that are going to perform best in the future, not the ones that we will find easiest to sell. The analytical methods we have developed over the years are invaluable in helping us sort the wheat from the chaff. Knowing that an investment is good on the basis of analysis and experience is not itself enough. We have long since discovered that even the best ideas won’t always capture the imagination of investors.

Our problem is that it can be very difficult to persuade clients to take an interest in the things we like. Sometimes they are simply too close to their home market. If they think they know that something is wrong with the UK economy, for example, they will happily rush off to seek opportunities in markets which seem more exciting, regardless of the fact that they know much less about them. We have seen countless occasions when investors have piled into overseas markets, especially in the Far East, only to see their investments plunge later. There have been times when European stock markets have fallen to bargain basement levels, yet because the news is dominated by headlines about unemployment, riots, bureaucratic corruption and industrial action, investors have turned up their noses at these phenomenal opportunities. A little knowledge, or a cursory reading of the newspapers, can be dangerous when it comes to picking stocks or markets in which to invest.

It is often said that a stock market climbs a wall of worry. In other words stock markets seem to defy gravity by continuing to rise even when the news is bad. There is an important reason why this can happen. This is that most of the time stock markets reflect all the best information available at the time. The information they are focusing on is forward-looking. Markets reflect what analysts think the economic situation will be in two or three years time, not what it is today. Everything that is happening at the moment, or is likely to happen in the short term, has already been factored into market prices. Worrying events don’t therefore affect the market unless they have not already been foreseen by the combined brainpower of all the professional investors who are trying to work out where markets are going. Most of the UK’s best brains now work in the City of London and many of the best brains from abroad also gravitate there. A top engineer can earn more working in the City analysing engineering companies than he can by engineering products. (I have never got my mind round whether it is good or bad). Faced with such intensive competition, the chances that an individual investor can outsmart the market are small. That is one reason why the City of London has never got a general election wrong. If you want to know who has won a general election you only need to go into the wine bars in the City of London on the eve of Election Day before the votes are counted. Champagne will mean a Conservative victory.

The reason for this is that investments are not like packaged goods. Most types of investment have a finite fundamental return. No matter how much you slice and dice them, no matter how glossy the packaging you put on them, they are only capable of producing so much by way of a return. The trouble is that investors don't know what that limit is. And so there are always buyers for the proposition that appears to offer them more – the something for nothing syndrome. High yielding investments are a case in point.

Since we set up shop in 1981 there has been a sea change in the level of interest rates both in the UK and internationally. After the inflationary disasters of the 1970s, when oil prices quadrupled and the world economy sank into a grim recession, interest rates were very high – at one point well into double digits. This was a new experience for almost everyone: you have to go back to the Napoleonic wars to find the last time that had happened. Since then, however, a combination of tough action by the world's central bankers, aided but not always abetted by governments, and the globalisation of the world's financial markets has helped to drive interest rates all the way back down to the levels that were last seen by our parents in the 1950s. For most of the last ten years, inflation in the UK has been running at around 2%-3% per annum whereas in the 1970s it was as high as 25% per annum. Interest rates have inevitably therefore come down a long way too: which in turn means that the income yields on all types of investment have also fallen steadily to record lows.

The problem is that investors' expectations have not come down in line with the dramatic changes in interest rates and investment returns. Most people still hanker after the much higher income returns that they were used to 10 or 20 years ago, not realising that they can only be achieved these days by taking risks with your capital. The 10% yields that were common in the early days of Mrs Thatcher’s government are a thing of the past. Investors who had money on deposit became used to these high yields. Yet that has not stopped providers throughout my career dreaming up new ways to offer people high returns with often painful results. What follows are some examples. They all feature products that offered, often with “guarantees” attached, income returns of 10% per annum. All provide education for investors.

This meant that some amazing returns were available: and because they were backed by a Government bond, they were very popular. The clearing banks shovelled in billions of pounds of their clients’ money. The life companies made some unbelievable profits and one or two firms were able to make a living purely on the basis of the commission they earned on this one product. Even insurance brokers who knew nothing about investment sold them. The fact that every four years advisers could recycle their clients' money into the next bond in the series made them an ideal product for earning commission. The high-yielding four-year bonds also proved to be good guaranteed products for investors. The only criticism that can be levied at them was that their success was one of the main reasons for the Government deciding to remove life assurance premium relief. Even that turned out not to be a disaster for investors. The yields investors could achieve from guaranteed income bonds were little different to what they had been before the 15% life assurance premium relief had been removed, strongly suggesting that there was plenty of “fat” in the life company returns.

To many investors it was these shares that looked the tastiest as the initial dividend yield was just above 10%. If you bought these shares, however, your capital was at risk. There was only enough capital in the trust initially to pay out the zero dividend preference shares. To make it possible to give investors the “guaranteed” growth on the zeros, the stock market had first to go up, as the holders of the zero dividend preference shares had first call on the trust's assets. For the holders of the income shares to get their money back as well, the stock market had to go up a lot more. It was only after the holders of the zeros had been repaid that the income shareholders could hope to get any of their capital back. Soon after many of these types of trust were launched, the stock market started to fall and many of those who bought the sexy-looking income shares received their 10% income all right, but ended up losing part of their capital as well.

Another famous deal with a 10% yield was Foreign & Colonial's (F&C) High Income product. The only way you could receive the advertised income yield of 10% was to hold it within the tax-free environment of a PEP. The fund was an extremely clever concept and used some clever derivatives to turn the potential future growth of the stock market into current income. Remembering the little man in Times Square, we took special care to investigate it because we knew it would capture our clients’ imagination. F&C had a computer model that purported to show how the fund would have performed had it been launched several years before. Stephen and another member of the firm spent several days at F&C’s offices carrying out due diligence. When they examined the back-tested results of the fund, the concept seemed to work well.

The proof of the pudding was sadly very different. While the fund continued to throw off the 10% income it had advertised, the value of the investor's capital soon began to erode. Eventually, F&C was forced to reduce the fund's target yield. The fund still exists today. At the time of writing it produces an income yield of 6.4%. Those who invested at the outset, when the yield was 9%-10%, will have lost about 15% of their capital. Because of the income it has returned, the investment certainly hasn’t been a disaster, but had people invested in an ordinary equity income fund instead, they would be considerably happier.

For a while however, the flaws in the concept were not apparent and the single premium investment bond took off. For a period in the late 1990s, the with profit investment bond was the most successful investment product the life companies had ever produced. Billions of pounds poured in. In those days the rules on advertising and projections were more lax than they are today, and the life companies were able to feature fabulous headline rates of “growth” in their literature. The advertised growth rate on the original Sun Life bond, for example, was something like 14%. So well did these bonds catch on that even Standard Life and Scottish Widows, the two giants of the industry, who for many years had been vocal critics of the single premium with profit bond, were eventually forced to swallow their pride and produce their own versions. Their sales and marketing departments were doing no business and so were screaming for something new to sell. Any notes of caution that their actuaries may have sounded seemed to be swept aside.

There is no better illustration of the commercial pressures which drive so much of the investment business and which make it so important for investors to stay on their guard. It was only when you read the small print in the prospectus for the original with profits investment bond that you discovered that the headline growth rates being used to tempt investors into the fund depended entirely on Sun Life being able to maintain their bonus rates. In order to get round the risk that some investors in the with profits fund might profit at the expense of others when markets changed direction, the life companies introduced something known as an MVA. MVA stands for “market value adjuster” and a more innocuous euphemism you could not imagine. Essentially, it means that the life companies reserved the right to levy penalties on anyone who tried to take their money out of the fund at a time when markets had fallen. Naturally, as markets were rising strongly, nobody took much notice at the time.

If so, it proved to be an expensive oversight, for it was not long before nemesis arrived. One reason was that with marketing departments demanding bigger and bigger headline rates of return, the managers of with profit funds had started to invest more and more of their funds in higher risk equities. This was the only way that they had a chance of producing the higher returns they had offered in their promotional literature. It was also a reversal of traditional practice as the whole ethos of with profits until then had been to invest in a balance of cash, property, fixed interest and equities. The diversification meant less exciting returns but greater safety, a combination that had traditionally been the basis of the with profit concept's success. The actuaries had been right to warn that the idea of a single premium contribution to a with profits fund might be storing up trouble for the future.

Shortly after Standard Life had changed its mind and entered the market, the stock market went into freefall, falling 50% over a period of three years. Overnight the billions that had been invested in with profit fund bonds before the market peak became liabilities of the fund. The more the stock market fell, the greater those liabilities became. By the beginning of 2003, with the stock market still heading down, some life funds looked like becoming insolvent. In other words they no longer had sufficient assets in the fund to pay out the policyholders in full. Many were getting so close to that point that they were forced to start moving the funds out of equities and back into safer investments such as bonds. Unfortunately they were changing investment policy at just the wrong time. Early in 2003, the world's stock markets started to recover. Instead of capturing the gains that they had previously lost, the with profit funds were trapped in fixed interest investments that did nothing to help performance. Many companies were forced to wheel out their MVAs: in some cases, investors who tried to cash in their bonds found that the effect was to slice 15-20% off the headline value of their capital. In other words, when investors tried to take their money out of the bonds, they could only do so by taking a significant loss.

Even now therefore, although markets have partially recovered, the returns on profit investment bonds have continued to lag behind those of other investments. In my view it will be many years before with profit funds will once again be able to declare meaningful bonuses. Many investors are still locked in to their with profit bonds. Having been snubbed before, the actuaries who advise the life companies on their investment policies are hell-bent on restoring the reserves that were so badly depleted during the boom times. In my view the failings of the with profit investment bond has been instrumental in discrediting the whole with profits concept. Will it ever recover? I doubt it. If there is a future stock market crash and with profit bonds weather the storm better than other types of investment, maybe that will restore a little of investors' confidence. It will all depend on how much the reserves have been replenished.

The new capital gains taxation rates introduced by the Government in 2008 have, however, made these bonds look even less attractive from a tax perspective. Today investors are far more sophisticated than they were and these days can much more easily achieve their own diversification. They no longer need a life company to ride out the peaks and troughs of the stock market on their behalf.

It is important to emphasise that there is nothing wrong per se with the use of financial derivatives. In the right hands, they are a valuable tool for investment professionals – those that understand them at least. (The onset of the credit crisis in mid-2007 showed that the management of many of the world’s biggest banks were not amongst those who did understand how badly derivatives could go wrong. The banks have ended up with hundreds of millions of near worthless derivative securities on their books. Indeed derivatives were the downfall of the world’s largest insurance company AIG). Some fund managers have been very successful at using derivatives to protect the value of their funds in difficult or volatile market conditions. The trade off is that these types of funds tend not to perform as well when the market goes up. You can be sure that, for good and ill, we shall see a lot more of these funds appear over the next few years. Hedge funds and absolute return funds are two examples of funds that use derivatives to help them manage their exposures to different kinds of risk. Just as with any other type of investment, they need to be researched thoroughly. Many are geared; in other words in good periods their returns go up faster, but in bad periods they fall in value further. You really have to understand how they work.

The marketing of precipice bonds was extremely deceptive (not that it stopped them being sold in droves by commission hungry or incompetent brokers). In my view the manufacturers were the real culprits. Their literature was so misleading it bordered on deception. If you showed a man in the street a leaflet with a big headline that said “10% guaranteed income”, he would naturally expect to get back both the 10% per annum and his original capital. That wasn't, however, what the providers meant. The wording of precipice bond literature was carefully manipulated to give that impression but it wasn't the real position. While it was true that the income was guaranteed, the return of the investor's capital was not. Similar products are unfortunately still being sold today, and while they no longer advertise such huge headline rates of income, they are still poor products in my view. If you want to be in the stock market, you should be investing in a simple stock market instrument. If you buy a product using derivatives make sure you understand it and whether the derivatives are used to make it more risky or less risky.

As my episode with the “little man in Times Square” makes clear, you should always remember that when a return on any investment looks exceptionally attractive, this is the time to beware. Whatever the regulators may try to do to prevent abuse, there will always be somebody trying to take money from suckers. It is the nature of the world. As I wrote this chapter I was shown an investment with “indicative” yields of between 15% and 17%. It had all the features you would expect in an investment that was designed to sell well in 2007: property; the name gold (although what that had to do with it I have no idea); speculative; geared; lots of lovely photographs in a glossy brochure. Words like “barge pole”, “wouldn’t”, “with” and “touch” spring to mind.

Since writing this book but prior to publication this section has turned out to be exceedingly prophetic. The demise of the Icelandic banks revealed the folly of seeking the highest yield. No investor, nor for that matter the newspapers who showed the Icelandic banks’ deposit rates as the best buys ever, questioned the reason for those high rates of interest. At that time the financially strongest institutions were offering the lowest rates of interest on deposit and that is exactly where everyone should have been putting their money. Seeking what offers the highest yield is a dangerous strategy.

Although Mark’s track record is first class, we have always wanted to make sure we have as much evidence as possible before making our recommendations. With that in mind we have developed a powerful screening tool to help us pick the likely winners from the 3000 or so funds that are on offer to investors in the UK. With so many funds to choose from, you cannot hope to have much success without strong analytical methods. But you also need judgment and experience, what I prefer to call qualitative analysis. Any fool can look at which fund or market has performed best in the past, but that kind of research, based on historical information alone, is worse than useless. Originally the Financial Services Authority, the regulator of our industry, insisted that anything we write which relates to historical information has to carry a warning that “past performance may not be a guide to the future”. In my view, even that warning was too weak. Our view is that past performance is absolutely NO guide to the future. Fortunately the change has now been made and we now have to say “past performance is not a guide to the future”. One of our biggest challenges is trying to help clients not to do the seemingly obvious things that we know from experience are unwise.

Although our investment suggestions normally work out well, there is still the problem that even the best fund managers cannot outperform the market all the time. I have in the past, on occasions, received letters from clients criticising a fund that we have recommended regularly during our almost 30-year history, the Fidelity Special Situations fund, managed by Anthony Bolton. His fund periodically tended to go through poor patches. My advice on such occasions has invariably been to “double up”, in other words to buy some more of the fund, in the knowledge that the most exceptional fund managers often come back strongly from periods of underperformance. There are plenty of other cases where fund managers who seem to be top performers for a short period of time start to go through a bad patch and never perform well again. Faced with such examples, we realised that we needed more analytical tools to help us assess individual managers. One thing we quickly discovered was that so-called “style factors” are an important influence on which funds do better than others. Without an understanding of how styles affect fund performance, you have no chance of picking the winners and losers.

What does style in investment mean? The first important style factor is company size, and the second is the kind of stock that a fund manager picks. In any stock market you can rank shares by the size of the company involved – small, medium and large. Within each size category there are also two main types, value and growth stocks. Value stocks are shares which, for whatever reason, are currently priced below their historical average level. Value stocks are typically bought for income funds. These stocks pay excellent dividends. Value stocks come in and out of vogue as investors alternately seek and shun them. Growth stocks, in contrast, are companies which are in sectors or industries that are experiencing above average rates of growth. These companies are often capital intensive and pay little in the way of dividends, the management believing that any profits they create are better ploughed back into the company to finance future growth. As market cycles turn, sometimes growth stocks become too expensive and at other times they look good value. Similarly with value stocks, when the investment herd notices an undervalued stock, they all tend to buy it at the same time and push up its price to a point where it is no longer a value stock.

This has important implications for funds. Any fund manager who happens to own small company growth stocks at a time when the market is being driven by that kind of style will most likely find himself running a top performing fund for as long as those conditions endure. Merely being in the right place at the right time, in other words, is enough to propel his fund to the top of the performance tables. It may have nothing to do with the fund manager's skill. It could just be luck – from which it follows that this is not a fund that you really want to own. What a great fund manager does is add value over and above the style factors that are driving the market at any one time. For example most equity income funds will be predominantly invested in value stocks, as they are the ones that produce the highest dividends. A great income fund manager will consistently outperform other income funds, even though in years when value stocks are out of favour, the fund itself may not be among the best performing funds in the whole market. As a result private investors who just look at raw performance numbers might well not notice the good fund manager.

The powerful analytical search programs we have on our computer system are designed to strip out these style factors in order to distinguish between the good, the bad and the indifferent fund managers. We also take the analysis a step further because, just to make things more complicated, some fund managers invest in more than one style. For instance, some income fund managers use what is known as a barbell approach. They choose high yielding stocks to give them the dividends that they need, but invest the rest of the portfolio in growth stocks so as to produce some additional capital growth. It is very difficult to compare such a fund with a fund that owns nothing but value stocks. To assist us in the complex analysis required, in 2001 we embarked on the creation of a highly sophisticated computer programme built by two Greek mathematicians. (Because of Pythagoras, Euclid and so on, Greek universities throw out more mathematicians than they could possibly ever need in Greece!). The programme is so clever that it can predict how a fund manager is investing purely from the way that the price of the fund moves. It means that sometimes we can even tell fund managers that they are no longer investing in the style they claim to be! Over a period of years we are able to build up a complete picture of the way that a fund manager invests, something we can show graphically using bar charts.

The analytical computer system and program has also proved to be invaluable in the way that we run our multi-manager funds. A multi-manager fund is one that includes a number of individual unit trusts run by different fund managers. We have four – one that includes the best income fund managers, another that includes the best growth funds, a third that combines the best of each type to create a balanced fund and finally one which is managed for the cautious. When we decided that funds were our forte, we also felt that we should give clients the opportunity to let us manage their unit trust portfolios. The way we manage our multi-manager funds is not by trying to second guess which sectors are likely to best, but by trying to find the best manager in each sector. Since inception our multi-manager funds have been managed by Lee Gardhouse, who joined us as a graduate in 1995 and is the man responsible for recruiting the Greek mathematicians. We also enlisted the help of a professor who from time to time comes in to check the sampling and logic of our programme.

The reason we don't try to second guess the market is simply that we don't believe anyone can do that regularly. By picking the best fund manager in each sector, we think we are giving clients their best chance of meeting their investment objectives. Our multi-manager funds have performed well within their peer group without us having to make any big strategic calls about where the markets are going – something that experience suggests is next to impossible. Most other multi-manager funds take small bets in certain sectors. You may find, for example, that they are overweight in Japan and underweight in America. What that means is that if the consensus allocation among such funds is to have, say, 7% of the portfolio in Japan they might have as much as 12%, believing that Japan will perform better than other markets. This type of asset allocation is fantastic when the fund manager gets it right. But when he gets it wrong, it can seriously affect the fund’s performance. We believe that sticking to consensus allocations between different markets and spending all our time and effort instead on finding the best fund in each of these sectors is a less risky way to invest. The track record of our multi-manager funds supports that.

The general lesson for investors is that picking funds is a lot more complicated than it appears, just as beating the market is harder than you think. The way we run our multi-manager investment funds stems from the work carried out by Professor William Sharpe of Stanford University, who first pioneered the view that investment style has a huge effect on which funds perform best during particular periods. Style analysis, as we have seen, aims to identify the kind of stocks and shares that do well or badly at different points in time. The secret of picking funds successfully is to be clear about what style the manager of any fund you are thinking of buying is pursuing. If you look only at the way a fund has performed in the recent past, it can present a dangerously misleading picture. If you actually make all your investment decisions on the basis of that past performance, as sadly many investors do, you are virtually guaranteed to have below average results.

We see our job as trying to stop our clients from making that kind of mistake. We can do that in two ways. One is by offering advice that steers them away from funds that have done well in the past but are unlikely to do that well in the future. The second is to give them the chance to sub-contract the choice of funds to our specialist multi-manager team. You would be surprised how deeply ingrained in the human psyche is the idea that funds with above average returns must go on doing the same in future! Many psychologists have pointed out that the human brain is not wired to make good investment decisions; and my experience certainly bears out that this is true. You would be amazed by how much of a struggle it can be to persuade an investor that the funds that have made the most money in the past 12 months are not necessarily the ones they should be buying now. It is even more difficult to persuade an investor to cut his losses and sell a no hope fund with little potential of ever doing well. Private investors hate realising a loss. They prefer to sell their winners.

There can be some mileage in trying to spot changes in market and style leadership. Looking back it seems obvious that most world stock markets have tended to take their lead from the American stock market. Nevertheless there have been times when some individual markets have looked cheap or expensive in comparison. Within individual stock markets, different sectors also move at a different speed to the market as a whole. There are times for example when large companies as a group do better than average, and other times when smaller companies have taken the lead. Specialist sectors such as technology also go from being overvalued to undervalued, and back again. It follows that there will always be opportunities to add some value in a portfolio by spotting these trends and looking to capitalise on them. As with all types of investment, however, patience is an under-rated virtue. You may have to wait a long time for these trends to reverse; and if you are too early your results will suffer.

Growth stocks – these are ones where the management is invariably very aggressive. They also tend to be new high growth industries and typically they pay little or no dividend, the management feeling that they can make more for their shareholders by ploughing back the profits into growing the company more quickly. Typically growth stocks can be in any industry but they are more associated with new industries, new technologies and new business concepts.

Category one: Investments which are likely to do well that clients will buy.

Category two: Investments which are likely to do well that clients won’t buy.

Category three: Investments of dubious merit which clients will buy in droves.

Category four: Investments of dubious merit which even clients will reject.

Life would have been simple if all the investments that we were ever offered were in category one. For obvious reasons we have tried to concentrate on the top two categories. The one that you should really avoid is category three. They can make brokers an awful lot of money, but the gains are short-term, since it also risks leaving a huge proportion of their clients disappointed. A good example would be the precipice bonds I mentioned earlier. Barlow Clowes was also in that category, although it failed because the people at the top were crooks. Thankfully we avoided it. However despite our best efforts and considerable due diligence, we have also learnt that things can still go wrong. The most important thing about your business mistakes is to learn from them; and to make sure that whatever you do, your motives are genuine.

The Foreign & Colonial 10% product was one that caused us grief, as already explained. We were the only broker to spend a significant amount of time with F&C carrying out what is known as due diligence. We felt that we had done everything we should have done, but that didn’t stop the product not delivering what it offered. Nevertheless, as a broker that had promoted the fund, we received a lot more flak than the manufacturer, something which is all too common in our industry. Product providers often look to duck their responsibility by saying: “We only produce the product. It is up to the brokers to decide whether it is suitable or not.” That argument has never made any sense to me. If you go into a well-known supermarket and buy a branded packet of cornflakes and find a dead rat inside, who would you sue? Would you sue the supermarket for not noticing the rat, or would you sue the cornflake manufacturer? I think you would sue the cornflake manufacturer, but in the investment industry the blame always seems to lie with the retailer.

The internet boom, also know as the dot com bubble, is one that nobody in the industry will ever forget. I have had many letters regarding the technology debacle. I am still getting them even now, more than eight years later. Companies with no business, merely an idea, were suddenly raising capital on the stock market through initial public offerings. The share prices of these companies were quintupling or even more after flotation. We realised there was a huge appetite for technology funds, but we were cautious about their prospects. In our 1st January 2000 yearbook we gave some suggestions for funds that clients should consider buying for the PEP season, and included one technology fund amongst 20 other selected funds. By the end of January it had become quite clear that the only thing that clients wanted to know about was technology funds. Our switchboards were jammed with phone calls. We couldn’t answer all their questions, which is why we eventually decided to produce A Guide to Technology full of words of caution.

We have regularly been accused of not conveying the risks. I reply by pointing to the introduction to the technology guide, where we listed a huge number of cautionary messages. For example, we said that technology companies would have to improve their profits radically in order to warrant their high share prices. My standard response is to send anyone who complains the lead article in the guide with every word of caution highlighted. I then challenge them to send the article back with all the words that might have suggested they should buy it. Of course, at the time all our words of caution were completely disregarded and investors piled in to technology like there was no tomorrow. Most of the internet companies and funds went into a horrible decline. In 2008, seven years later, none of them were back in profit.

On this occasion, at least, the product providers were also castigated. Was it opportunism or were they negligent? The question has never been tested in the courts. It never will be in all probability. The question we have asked ourselves since the debacle unfolded was whether we were right to produce our technology guide in the first place. Should we have said nothing, it is unlikely that the result would have been any different. Were we better to put out a guide with a massive voice of caution? At the time I think we were one of the few voices urging caution. On a personal note I did buy one technology stock. Years before when we chose our computer system, the fileserver we bought was made by an American firm called 3com. The server was so good that in true Victor Kiam style I bought the shares. At the beginning of the technology boom I sold them at a massive profit, or so I thought. Having paid £15,000 for the shares, I sold them for £45,000. Had I still owned them at the top of the technology boom, they would have been worth more than £1 million! It was an indication of how extreme valuations had become.

Another event that caused us grief was the aftermath of 9/11, the violent terrorist attacks on Manhattan Island on 11th September 2001. I had just been to see the school where I was to send my daughter. On the way back my wife dragged me into an antique shop where the staff were watching a portable television. There was a news report showing the damage done by the first plane to hit the World Trade Center. At first until the second plane hit the other tower, everyone thought it was an accident. I sensed immediately the second plane hit that it would be a disaster for world stock markets. The American people would shun public places, which meant that the retailing boom would grind to a halt. Because of the terrorists' connection with the Middle East, it seemed likely that the oil price would rise. I guessed there would be a flight to quality investments, including government bonds, and that some people would be so terrified there would be a flight to gold. (Perhaps I should have told Gordon Brown my thoughts, as he had just sold the UK's gold reserves in order to balance the budget at a quarter of the price he could have got seven years later). We sat in the office and agonised over what to do. We knew it was a dangerous thing to put out an investment note so soon after such a tragedy. The newspapers the next day showed horrific pictures of people hurling themselves out of the World Trade Center to avoid the heat. Having decided to put together a brief mailing to send to all our clients on the afternoon of the terrorist act, we made the decision to print the following morning and sent them out the following day.

It proved to have unwelcome consequences. On the basis of just 12 complaints, the Advertising Standards Authority saw fit to castigate us. One journalist whose own newspaper had been full of gruesome pictures suggested we were “coffin chasing”. Had he read the note that we sent out, he would have realised that what we said was not designed to make us money, which was the implication of his comments. What we did was advise people to reduce the amount they had invested in equities – we make no money when people sell unit trusts, only when they buy them do we increase our income. The columnist cited another broker who had sent him an extremely long email suggesting caution. Perhaps he felt that every broker in the land should have been sending him emails rather than talking to their clients! I remain convinced that we did the right thing in alerting our clients to the investment implications of the 9/11 attack. Many clients took our advice to reduce their equity holdings and congratulated us for the advice. Nevertheless, we were still pilloried by the media. My view is that while you are never going to make the right decisions all the time, as long as you can hold your head up high and say you acted with your clients’ best interests in mind, and for no other reason, it is easy to take the brickbats that will inevitably come your way.

The craze to invest in property in 2006-07 has some echoes with what happened during the internet bubble. Low interest rates had driven property to values that would have been considered unbelievable a decade before. We have been cautious about property funds, except for a small proportion of clients’ portfolios. In the event many funds rose in value and investors, as they always do, clamoured for more of the same. Did that make us wrong? I don’t think so. For one thing the stock market performed better than property during that period. If property proves to perform better than equities in the future, I dare say that some investors will complain to us that they have been cheated. Only time will tell whether taking the high ground in this way has been the right decision. The property markets turned down and investors seeking to sell their property funds en masse could spell disaster because property, by its nature, is not an easy asset to sell. In those circumstances property funds could end up going the same way as with profits funds. Investors will find that they cannot get their money out easily. At the time of writing this is pretty much exactly what has happened.

People are so obsessed with wealth and the crazy salaries that some professional sportsmen command that it distorts their judgment. It annoys me that whenever Bill Gates is interviewed in the UK, the first question the interviewers ask is almost always about his wealth. In fact the least interesting thing about Bill Gates is his wealth. Some say he was lucky and in the right place when he was given the job to write the operating program for the original IBM PC. It was certainly a big error on IBM’s part to give away what became one of the most valuable commodities the world has ever seen. Although he became very rich in a short period of time Gates didn’t do what many people might have done, which was sit on his laurels. Instead he turned his good fortune into one of the world’s most successful companies, fighting tooth and nail with the American antitrust laws along the way in his efforts to keep Microsoft at the forefront of world software. He has gone down several blind alleys and made mistakes, not least when he wrote off the internet. Having realised his mistake, he was honest enough to admit it and turned the considerable power of Microsoft on to the project. The toys that are associated with wealth are clearly not what motivates him, and he seems a happy and fulfilled individual as a result.

Ironically his business partner, Paul Allen, of whom we hear much less but who is almost as fabulously wealthy, does have a thing about the toys of success. It seems he owns three of the biggest ten privately owned yachts in the world. I know one very wealthy man who enjoys spending money and does it spectacularly well. He has a fabulous holiday home, his own fishing stretch in Hampshire and many of the other things that you would associate with wealth. Yet I know another very wealthy man who never spends a penny and is just as content. It may be a mystery to some why people who have no desire for the trappings of wealth can nevertheless create successful and profitable businesses. I include myself in that category. Until I went into business, I had never really achieved anything of note. I wasn’t artistic or musical, and I certainly wasn’t academic. I didn’t get into the school teams for football or cricket, I enjoyed my sport when I was younger, including the crazy sport of fell running, but I was never going to win a race. I was a reasonably competent club squash player but I enjoyed it purely for the exercise and the social life that went with it. I must be one of the world’s worst golfers not having the concentration span or patience for the game. Therefore to find something at which I excelled was a wonderful experience.