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How a jar of jellybeans can teach us an important rule about investing

Our approach to successful investing is more than just educated guesswork.

Trust in the wisdom of crowds

If you’ve ever been to a school fete, you’re bound to have come across that age-old favourite: ‘guess how many sweets are in the jellybean jar?’

Take a wild stab at the number inside and it’s likely to be well off. But wait a while, until a few more people have had their turn. More often than not, the average of those guesses will be closest to the actual figure.

It’s known as the ‘wisdom of crowds’ and was first recognised more than a century ago, by Francis Galton (a Victorian polymath and Charles Darwin’s cousin). He tested his theory at a livestock fair, where contestants attempted to work out how much an ox weighed. None of the individual answers were correct. But the average, from 787 guesses, was spot on.

What do the sweet jar – or the ox for that matter – have to do with investing? Quite a lot actually.

A guide to indexing

Galton’s theory contradicted the common belief that humans in herds act irrationally and emotionally. It showed that the crowd is much more likely to be right than the individual.

It explains why investing in an index like the FTSE 100 isn’t always the best choice. An index takes a tiny selection of companies - 100, in the case of the FTSE - and is similar to one person’s best guess at the fair. Globally, the stock market is estimated to be about 600,000 companies. So why tilt your portfolio in favour of just 100 companies trading on an island just off the European mainland? More on this later. 

That’s why we created the Navigate range. By investing in over 25,000 companies we can create a very close and cost-effective replication of those 600,000 global companies. 

Market capital weighting

Essentially, each investor votes where to put their money. Individually, those votes are fairly meaningless. But the sum total can point you to where the best place for your money is likely to be. The strategy is known as ‘market capital weighting’ because you are allowing the market, as a whole, to decide where your capital should be allocated. 

In this way, on a day-to-day basis, markets are a fairly effective pricing tool. Everybody has access to the same information, whether that’s sales figures, profits, or projected earnings. While some investors aim to ‘beat’ the market, the reality is no single fund manager (or even 1,000 of them) has the secret, definitive answer to doing this.

Our approach at Barnaby Cecil is to follow the money. The market is made up of constituent components and we keep track of the changing weightings. By making use of each investor’s best guesses, we’re able to crowdsource investor wisdom, and make better decisions on where your money should be.

Spreading the net further

There’s one important area where we can still see investors apparently ignoring this wisdom of crowds. That’s when it comes to which country to invest in.

We live in a global economy, but many UK portfolios still overwhelmingly favour domestic stocks. That’s despite the fact UK companies’ share of the global market is a fraction of what it was even a decade ago.

And home bias is a huge issue for investor returns. Research from FTSE Russell in 2019, showed that in 12 years since the global financial crisis, UK pension funds favoured domestic stocks by about six times the UK’s weighting in the FTSE All-World Index. In that time, UK equities trailed overseas peers, meaning the home bias was a ‘significant opportunity cost for UK-based investors’. 

Maybe investors are seeking familiarity – choosing to stick with company names they know, rather than ones in foreign markets they don’t? But too much caution in casting the net wider can mean placing unnecessary limits on your investment choices. 

For example, it means ignoring the US, a broad and deep market, home to some companies seeing phenomenal levels of growth in recent years. The UK, by comparison, has yet to produce a Tesla, Google, or Amazon. 

That’s why our portfolios are currently weighted 4.1% to the UK, compared with 55.9% to the US (with 2.9% in France, 5.4% China and 7.4% in Japan). One of the reasons Barnaby Cecil investments have done well in recent years* has been they’ve not been caught up with underperformance in the UK market. 

Thinking back to the jellybean jar. Our approach is about putting to one side any thoughts of a ‘gut feeling’, basing our investment decisions on several decades of empirical evidence and taking a considered look. Any other way? It would just be an educated guess.

*According to data provided by Morningstar and as at 05.07.2021 Navigate 60 has outperformed Vanguard LifeStrategy 60% by 13.9% over 7 years. We can also analyse Navigate performance against more than 50 UK wealth managers.

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