Sarah Bullen
TAKING STOCK
Extensive restaurant menus tend to throw me into a panic. Decisions are not made on the spur of the moment but agonised over, in case someone orders something that looks better than my dish. Placing an order is a painfully long process that most often ends in me asking the waiter to pick something for me.
Fund managers, like waiters, are placed in the tricky position of picking what they think is best for the customer.
Fortunately, they often have pointers from which to make a more informed choice: the market index.
Benchmark, index and average: a single concept integral to the world of financial markets. They are endlessly quoted: the Dow Jones Industrial Average, S&P500, FTSE100, the Nikkei Dow, the all share, Alsi40, Hang Seng, the Nasdaq Composite … the list is endless.
But what is an index really?
The best-known market index, itself an icon of the 20th century, was started in 1884 by a New York editor named Charles Dow. At that time investors found it impossible to make out from the daily movement of individual shares, whether stocks generally were rising or falling.
Dow began his index in 1884 by choosing 11 firms listed on the New York Stock Exchange, most of them railroads, that he felt embodied the rising industrial age. The average made sense of the disparate market of individual shares a whole lot easier.
At first, the average was published fairly irregularly in Dow’s newsletter, but daily publication in the Wall Street Journal began in 1896. In 1916, the industrial average expanded to 20 stocks; the number was raised again, in 1928, to 30, where it still remains.
These 30 stocks represent about a fifth of the $8-trillion-plus market value of all United States stocks and about a fourth of the value of stocks listed on the New York Stock Exchange. It does not claim to predict the market, merely to make sense of it using a narrower lens.
A far broader index than the Dow is the Nasdaq Composite, which measures all stocks listed on the Nasdaq Stock Market. The Nasdaq Stock Market also has an index tracking its top 100 stocks but the Nasdaq Composite’s broad base – including over 5 000 companies – makes it one of the most widely followed and quoted major market indices.
Devising an index to make sense of a market’s movements is no easy task. Doubly so in the Wild West world of the new economy.
This week alone has sent the Nasdaq into whiplash mode. The US’s antitrust ruling against Microsoft has sent the firm down 20% in two days. On the second day the Nasdaq dropped 13% by midday, before racing back up to recover 11% and close the day with a mere 2% loss.
The sector is wracked with insecurity over its own future, old economy firms are countering with announcements of multibillion-dollar investments in technology and e-commerce.
Fund managers are standing out on a new frontier with none of their handy benchmarks. Well, not quite none.
In the midst of the new economy explosion in 1998, Wired Magazine launched an index of 40 stocks it has picked as embodying the new economy.
Wired is following in a firm tradition led by the Wall Street Journal and the Financial Times in forging a very tangible link between journalism and financial markets.
Wired said after the first year that the Wired Index (WIRX) component companies were not selected because the index designers thought they were going to outperform the broader market. “The companies were chosen because we thought they had the qualities needed to prosper in the new economy.”
The trick, if any, it said, is devising an index that is an informed guess at what the market will be. Wired also listed the three components of a good index as continuity, longevity and the ability to accurately reflect change.
In its first 12 months WIRX showed returns of 81%. Wired Magazine did not opt for high-tech dot.com firms, but included in its 40 stocks a broad range of blue-chip global technology players. Some 20,3% of the index is made up of card-carrying, new economy firms based in new media or the Internet. The highest percentage (29,6%) of the index is in the electronics and computer hardware sector and telecoms (16%); there is also sector representation in financial players (10%), retail and leisure (6,5%), transport and industrials.
The index that was devised two years ago now reads like a who’s who of the new economy. It has Cisco, Microsoft, AOL, Dell Computers, Wal Mart, Yahoo!, Intel, Sony, Cable & Wireless – vanguards of the new era.
Also on its books are classic old economy turned new economy firms like Enron. Enron started out as a natural gas pipeline operator that developed a trading capacity in a vast number of commodities. Enron has moved into laying down optic fibre cables on its underwater gas pipelines and has developed its own bandwidth capabilities, catapulting it into the new economy. Other component stocks include US semiconductor manufacturer Applied Materials, Asian insurance powerhouse AIG, German auto industry giant DaimlerChrysler, Rupert Murdoch’s media conglomerate News Corporation and steel miller Nucor.
The Investec Group has been given the exclusive licensing mandate to mirror the index and in December 1998 launched its first fund tracking the index in the US. Two more funds followed in Guernsey in August 1999 and this year in the United Kingdom.
The Guernsey account is the entry point for South African investors. Investec Guinness Flight’s Doug Blacher estimates that the three funds are currently worth some $410-million.
A South African investor who put $10 000 in the Guernsey fund when it opened in August 1999 would have, by the end of March 2000, seen his investment grow to $16 155 – a 61,55% return on investment in seven months.
There are, of course, other options for an investor wishing to buy into global technology funds. Old Mutual Unit Trusts MD Pieter van Niekerk is quick to point out that the Old Mutual Global Technology Fund showed a 130% return over the last year, growing to R1,4-billion over that period.
The Nasdaq has introduced its own index tracking fund, the Nasdaq100, which works like an index fund, but trades like a stock.
But, the very idea of trying to make sense of the crazy new frontier by devising a new index deserves a salute.