Shane Whelan

1
Actuarial Investments (FIN 3044)

• Shane Whelan

2
Actuarial Investments

• Course Objectives
• To give flavour of (institutional) investment
  in practice.
• To break the back of the professional courses
  CA11 and ST5 in the Faculty Institute of
  Actuaries. This course is not an exception
  course from the Faculty Institute of Actuaries
  examination.
• Course Syllabus
• Asset types their markets?asset valuation ?
  market behaviour ?indices ?performance
  measurement ?portfolio construction to meet set
  objectives ?risk control.

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Overview of Two Important Topics
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Two Important Topics

• One must be aware of the key ideas/results in
  financial economics
• Yet this course does not build, in any material
  way, on financial economics. It is assumed
  background knowledge.
• One must have a sound knowledge of the history of
  markets, how they delivered returns, what drives
  them, etc.
• I start by treating both these topics in a survey
  talk on each.

5
History of Capital Markets(and their returns)
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History not long enough

• First legal interest bearing loan in modernn
  times issued in City of London in 1545.
• First equity shares 1553 by London firm, Muscovy
  Company.
• General Limited Liability allowed 1811 in NY,
  since 1850s in UK.
• Interest rates, in the modern sense, since about
  1700.

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(Long) Rate of Interest, 1700-2000
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Irish Equity Market History

• The Irish Society, chartered 1613 with a capital
  of 40,000, arranged the plantation of Ulster and
  held Derry and Coleraine until the 20th Century.
• Adventurers for Lands in Ireland, 1642, to fund
  an army and be rewarded by seized lands (at the
  rate of about 8s-12s an acre in Leinster).
• But 1783 is really the earliest date we can say
  Irish capital markets existed as Bank of Ireland
  founded in that year.
• 1799 Dublin Stock Exchange opened - making it the
  6th longest surviving stock market it the world.

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Modest Beginnings
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Irish Long-Term Interest Rates, 1783 - 2000.
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Irish Inflation, 1783 - 2000.
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What is a Realistic Long-Term Return?
Real Returns on Irish Financial Markets to End
1999

• Years to Inflation Equities Gilts Cash
• 1999 p.a p.a. p.a. p.a.
• 50 6.4 8.2 1.5 1.5
• 70 5.4 7.1 1.4 0.5
• 100 4.5 6.7 1.0 0.7
• 200 2.1 6.5 2.5 2.4

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What are the Risks?

• Best Worst Decades in Each Market 1783-1999.
• Irish Market 10 Years Ending Return (
  p.a.)
• Equity 1986 28.7
• Equity 1835 0.6
• Gilt 1989 19.1
• Gilt 1974 -0.2
• Cash 1983 13.8
• Cash 1951 0.8

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Annualised Real Returns on Major Markets, 101
Years Ending 31st Dec. 2000
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Nightmares

• US
• 1929 Crash. Fall of 71 from start 1929 to start
  1933. (It took until 1952 to regain high).
• Depression, calling on pension fund assets.
• Japan
• Real return on equities 5.2 p.a in 1990s (i.e.,
  a cumulative fall of 41)
• Real return on bonds 7.0 p.a.
• From March 2000 to End 2002 World equity
  markets (FTSE World) fall over 50
• We are still living through the consequences

Source Market Volatility, Robert Schiller, 1989,
MIT Press, Chapter 26 for US ABN-AMRO LBS for
Japan.
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Irish Asset Classes Real Returns, 1900-2001
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Irish Inflation Nom. Return on EquitiesEach
Year over 20th Century
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Histogram Real Return on EquitiesEach Year over
20th Century
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Key Historical Statistics Irish Equity Returns
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Irish Inflation Nominal Return on GiltsEach
Year over 20th Century
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Histogram Real Return on GiltsEach Year over
20th Century
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Key Historical Statistics Irish Gilt Returns
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Irish Inflation Nominal Return on CashEach
Year over 20th Century
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Histogram Real Return on Cash Each Year over
20th Century
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Key Historical Statistics Irish Cash Returns
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Wage Inflation Price Inflation, 20th Century
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Histogram of Irish Wage Inflation in 20th Century
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Real Wage Inflation, to End 1999
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Further Reading Suggestions

• Whelan, S. (1999)
• From Canals to Computers The Friends First
  Guide to Long-Term Investment in Ireland.
• Friends First, Dublin. 56 pp.
• Now
• Whelan, S. (2002)
• Prudent Pension Planning
• Hibernian Investment Managers, Dublin. 43 pp.
• In Oct
• Whelan, S. (2001)
• Investing the National Pensions Reserve Fund.
• Irish Banking Review, Spring 2001, 31-48.
• Available to download free from www.ibf.ie
  (towards end of publications section)
• In Nov

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Specialist Readings

• Triumph of the Optimists 101 Years of Global
  Investment Returns
• Dimson, E., Marsh, P., Staunton, M.
• Princeton Unversity Press, 2002.
• In Library
• A History of Interest Rates (3rd Edition)
• Homer, S. Sylla, R.
• Rutgers University Press, 1996.

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Concludes our History of Capital Markets(and
their returns)