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Investment horizon – phrase or mathematics?

Investment horizon – phrase or mathematics?
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If you search the term investment horizon in the Internet, you can find various definitions such as: „Investment horizon is the term used to describe the total length of time that an investor expects to hold a security or a portfolio “, or “The investment horizon designates how long an investor plans to hold its portfolio of securities to realize a profit based on the accepted risk “. However based on these definitions, is it clear what does Investment horizon exactly mean? Is it a time, after which the portfolio achieves certain expected return, or performance minimum 0%, or its value does not fall under the defined maximum loss? Investor can define his investment horizon when fulfilling the investment questionnaire and when doing this, he certainly expects that investing will bring him a profit. The definition of investment horizon is not exactly defined. Therefore this term could be understood differently.

Mathematically the term investment horizon can be explained based on the value at risk approach. As an example I can use the real data of the fund with the medium level of risk, which average return for the last 5 years is 2% p.a. and volatility for this period is 3,5% p.a. These data are used for calculation of the expected figures for the future. In purpose of simplification I assume that observations are normally distributed. In chart 1 there are displayed the ranges of possible results in the respective years in the future with the probability of 90%. Expected return is the mean value of possible results. The highest dispersion we can observe in the first year of investing, as the time passes, ranges narrow and their limit values converge to the level of expected return. After the eighth year of investing the lower limit of range gets above zero, which can be interpreted in a way that with 95% probability the fund will achieve at least zero performance after eight years. The rest 5% probability includes the cases, when it is not possible to quantify the amount of possible loss. Usually this covers the turbulent times in markets, which are rather rare.

Note: Past performance is not indicative of future development.

Theoretical model shows that with the increasing time the probability of loss decreases and even after keeping the investment horizon it is not absolutely guaranteed that the fund will be in profit afterwards. So if market slumps, investor should consider carefully, whether he redeems immediately even though he has kept his investment horizon. The situation could be opposite, such as the portfolio achieves unusually high performance within shorter time than the recommended horizon. During investing the asset prices fluctuate and there are time slots with various positive or negative performances. Therefore the recommended investment horizon should not be understood as a fix time of holding the investment.

Let´s go back in time. In chart 2 there is percentage proportion of days, when one-year up to ten-year performance was positive based on the historical fund data from 31.12.2009 till 24.4.2019. One-year performance was positive in 68% of all days. Within two-year performance 75% of days were positive. The percentage share of positive days gradually grew. From six-year and longer performance all days in the tracked periods were in plus. This proves that longer investment period (above 6 years) delivered positive result to all unit holders staying in fund.

Note: Past performance is not indicative of future development.

What was the real behavior of unit holders? Their average investment horizon was 5,2 years, median 5,7 years. This is in line with the recommended investment horizon, which is usually stated in materials, such as Key Investor Information Document, Sale prospectus, monthly fact sheet.

Conclusion:

Investment horizon is a quantity that describes the degree of risk of investment. Together with expected return and volatility this parameter completes risk/return profile of the fund/portfolio. Longer investment horizon indicates higher risk of investment. It is a rough length of time to hold the investment, not the exact date in the future to sell the investment. The advantage of investing in mutual funds in most cases is a daily liquidity, but sometimes it is better not to check the value of investment every day. Keeping of investment horizon is important. In bad times it is worth to consider one´s decisions and rather extend the investment horizon.

Legal note:
Prognoses are no reliable indicator for future performance.

RESPOND TO THE ARTICLE

Legal disclaimer

This document is an advertisement. Unless indicated otherwise, source: Erste Asset Management GmbH. The language of communication of the sales offices is German and the languages of communication of the Management Company also include English.

The prospectus for UCITS funds (including any amendments) is prepared and published in accordance with the provisions of the InvFG 2011 as amended. Information for Investors pursuant to § 21 AIFMG is prepared for the alternative investment funds (AIF) administered by Erste Asset Management GmbH pursuant to the provisions of the AIFMG in conjunction with the InvFG 2011.

The currently valid versions of the prospectus, the Information for Investors pursuant to § 21 AIFMG, and the key information document can be found on the website www.erste-am.com under “Mandatory publications” and can be obtained free of charge by interested investors at the offices of the Management Company and at the offices of the depositary bank. The exact date of the most recent publication of the prospectus, the languages in which the key information document is available, and any other locations where the documents can be obtained are indicated on the website www.erste-am.com. A summary of the investor rights is available in German and English on the website www.erste-am.com/investor-rights and can also be obtained from the Management Company.

The Management Company can decide to suspend the provisions it has taken for the sale of unit certificates in other countries in accordance with the regulatory requirements.

Note: You are about to purchase a product that may be difficult to understand. We recommend that you read the indicated fund documents before making an investment decision. In addition to the locations listed above, you can obtain these documents free of charge at the offices of the referring Sparkassen bank and the offices of Erste Bank der oesterreichischen Sparkassen AG. You can also access these documents electronically at www.erste-am.com.

N.B.: The performance scenarios listed in the key information document are based on a calculation method that is specified in an EU regulation. The future market development cannot be accurately predicted. The depicted performance scenarios merely present potential earnings, but are based on the earnings in the recent past. The actual earnings may be lower than indicated. Our analyses and conclusions are general in nature and do not take into account the individual characteristics of our investors in terms of earnings, taxation, experience and knowledge, investment objective, financial position, capacity for loss, and risk tolerance.

Please note: Past performance is not a reliable indicator of the future performance of a fund. Investments in securities entail risks in addition to the opportunities presented here. The value of units and their earnings can rise and fall. Changes in exchange rates can also have a positive or negative effect on the value of an investment. For this reason, you may receive less than your originally invested amount when you redeem your units. Persons who are interested in purchasing units in investment funds are advised to read the current fund prospectus(es) and the Information for Investors pursuant to § 21 AIFMG, especially the risk notices they contain, before making an investment decision. If the fund currency is different than the investor’s home currency, changes in the relevant exchange rate can positively or negatively influence the value of the investment and the amount of the costs associated with the fund in the home currency.

We are not permitted to directly or indirectly offer, sell, transfer, or deliver this financial product to natural or legal persons whose place of residence or domicile is located in a country where this is legally prohibited. In this case, we may not provide any product information, either.

Please consult the corresponding information in the fund prospectus and the Information for Investors pursuant to § 21 AIFMG for restrictions on the sale of the fund to American or Russian citizens.

It is expressly noted that this communication does not provide any investment recommendations, but only expresses our current market assessment. Thus, this communication is not a substitute for investment advice, does not take into account the legal regulations aimed at promoting the independence of financial analyses, and is not subject to a prohibition on trading following the distribution of financial analyses.

This document does not represent a sales activity of the Management Company and therefore may not be construed as an offer for the purchase or sale of financial or investment instruments.

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Please also read the “Information about us and our securities services” published by your bank.

Subject to misprints and errors.

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