Fernando MonteiroTwo Stories of Unsophisticated Investors
June 17th 2009 16:39
Investing, definitely, is fraught with danger. If not, consider the recent cases of the Brisconnections stapled securities with undetected compulsory inbuilt future payments and the case of the people who trusted Storm Financial enough to mortgage their homes and get a margin loan from them.
The Brisconnections investors fell into it like angels. They were said not to be sophisticated. But, on hindsight, mostly anyone would have fallen because it was hard to find out that these stapled securities were not fully paid. If you consider that, after it became a scandal and brokers were required to warn prospective investors of that fact in writing, then maybe they were not so unsophisticated.
How did the Brisconnections investors got out of that? Mostly by accepting an offer from Macquarie Group, underwriter to the issue with Deutch Bank, to buy their shares for nothing. This may look surprising but what was in question was the future two payments of one dollar per security, amounting to many hundreds of thousands of dollars per investor, which they were not going to be able to meet. Many were contemplating loosing their homes if Brisconnections sued. Macquarie took that responsibility away from them and assumed the loss of more than $230 million that they represented. They were very lucky.
If the Brisconnections case make you laugh, then think of Storm Financial. Storm Financial, on top of the market in 2007, advised its clients to mortgage their home sweet home, paid off with so much blood, sweat and tears, and obtain from them a margin loan whose proceeds they were told to invest in index funds. Ridicule rarely gets this far.
They did not know that index funds move with the market, that is, that when the general market goes up, as in a bull market, their money goes up with it. But when the market goes down, as in the current bear market, their money also goes down with the bloody index fund valuation. And if so, which is the case, they get a margin call, that is, they have to put up collateral. If they cannot put up collateral their house goes on fire.
In the end Commonwealth Bank assumed Storm Financial business and allowed each dribbled investor to live in their houses until they pass away, only then executing the mortgage. Quite noble of CBA in the end.
What these two cases show to evidence is that investor unsophistication is rampant. There are a lot of people trading in securities who do not know the basics of finance and that do no have enough pertinent information. And that there are a lot of people trying to make an unethical gain on the unpreparedness of this so many hopefuls of finance.
Let’s not delude ourselves: buying and selling homes in any housing boom is intuitive for most people, but trading in the stock market requires some education and a lot of preparation. The stock market is a lot more subtle, a lot richer and a lot more surprising. Continuous education and monitoring are paramount.
Someone, besides the ASX and its recommendable courses and seminars for investors, should be forming the sophisticated mass stock market investors of tomorrow. Besides the empathetic considerations, a stock market hundreds of times greater than it is today would be a good thing for all.
The Brisconnections investors fell into it like angels. They were said not to be sophisticated. But, on hindsight, mostly anyone would have fallen because it was hard to find out that these stapled securities were not fully paid. If you consider that, after it became a scandal and brokers were required to warn prospective investors of that fact in writing, then maybe they were not so unsophisticated.
How did the Brisconnections investors got out of that? Mostly by accepting an offer from Macquarie Group, underwriter to the issue with Deutch Bank, to buy their shares for nothing. This may look surprising but what was in question was the future two payments of one dollar per security, amounting to many hundreds of thousands of dollars per investor, which they were not going to be able to meet. Many were contemplating loosing their homes if Brisconnections sued. Macquarie took that responsibility away from them and assumed the loss of more than $230 million that they represented. They were very lucky.
If the Brisconnections case make you laugh, then think of Storm Financial. Storm Financial, on top of the market in 2007, advised its clients to mortgage their home sweet home, paid off with so much blood, sweat and tears, and obtain from them a margin loan whose proceeds they were told to invest in index funds. Ridicule rarely gets this far.
They did not know that index funds move with the market, that is, that when the general market goes up, as in a bull market, their money goes up with it. But when the market goes down, as in the current bear market, their money also goes down with the bloody index fund valuation. And if so, which is the case, they get a margin call, that is, they have to put up collateral. If they cannot put up collateral their house goes on fire.
In the end Commonwealth Bank assumed Storm Financial business and allowed each dribbled investor to live in their houses until they pass away, only then executing the mortgage. Quite noble of CBA in the end.
What these two cases show to evidence is that investor unsophistication is rampant. There are a lot of people trading in securities who do not know the basics of finance and that do no have enough pertinent information. And that there are a lot of people trying to make an unethical gain on the unpreparedness of this so many hopefuls of finance.
Let’s not delude ourselves: buying and selling homes in any housing boom is intuitive for most people, but trading in the stock market requires some education and a lot of preparation. The stock market is a lot more subtle, a lot richer and a lot more surprising. Continuous education and monitoring are paramount.
Someone, besides the ASX and its recommendable courses and seminars for investors, should be forming the sophisticated mass stock market investors of tomorrow. Besides the empathetic considerations, a stock market hundreds of times greater than it is today would be a good thing for all.
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