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The Long and the Short of It

John Kay, The Erasmus Press, 2009, 239 pages, £11.99.

First of all a confession: I am something of a John Kay groupie, having admired his work over many years now. When I worked at RBS, while RBS was still a respectable private sector bank, John was the favourite economist of our Group Chief Executive Sir George Mathewson. That gave me good cause to invite John up to Edinburgh (his home town) to speak for us on more than one occasion. More recently I have maintained contact while he has been a key member of the Scottish Government’s Council of Economic Advisers. Indeed John undertook a seminar (excellent it was) for the David Hume Institute only last autumn.

So I did not come to this new book of his as a wholly dispassionate observer of the Kay brand. I expected a great deal from his new offering; and I was not disappointed. This book is beautifully written and immensely readable. I started marking the bon mots, the succinct and apt phrases, but had to stop because there are so many – so much that can be quoted and cause the business economist to smile sweetly and nod sagely.

But economists are not the target audience for this book. The intended readership is ‘normally intelligent people’ with an interest in finance and investment. The book is a do-it-yourself guide to investment ‘for anyone who has money to spare’.

Kay’s starting point is that those operating as advisers in this market place aren’t much good, and that the expense of using such mediocre folk is hugely excessive. He assaults the efficient-market hypothesis as “illuminating but not true”, and tells his target audience that they must neither believe that markets are always efficient nor deny that they are mostly efficient.

At its most basic level the advice from Kay is for the conventional investor to use an on-line broking service to produce a portfolio for one’s own assets that mirrors that held by the average local-authority pension fund. He tells us how, with a sum as low as £10,000, such a portfolio of UK and foreign equities, bonds, property and other assets can be established with four clicks of a mouse and at very low initial and continuing cost. We can all save money.

But he wants us to be more ambitious, while remaining risk averse. He expounds three basic rules: pay less – eg as above – diversify more and be contrarian. The diversification point is critical and relates to his strong advice to judge every prospective asset in terms of its contribution to the total portfolio. He notes that taking on an apparently high-risk asset can in fact reduce the risk of the overall portfolio, if the risk in the new asset is not correlated with that in existing assets. Being contrarian involves being sceptical rather than perverse, and is a facet of his view that investors should always differ from most analysts by looking to fundamental value in judging companies – given that “sustainable comparative advantages are the only enduring source of superior returns.”

Of course there is much more, including much for the economist to enjoy. He discusses the credit crunch and the appropriate regulatory response – with a focus on protecting retail customers rather than trying to ensure good practice across all of this complex sector. He emphasises that risks can be assessed but uncertainties cannot, so the bell curve is not universal. He produces a powerful critique of the Capital Asset Pricing Model. All in all, a highly stimulating and potentially very valuable contribution.

Jeremy Peat

Director, The David Hume Institute

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