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Learning From Brazil

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Let's take a journey back in time to 2005. Your broker calls you with exciting news. His firm has just issued a comprehensive report concluding that Brazil is likely to become one of the fastest-growing economies in the world over the next five to 10 years. His logic is compelling. At that time, Brazil had the fifth-largest economy in the world, with a gross domestic product of $796 billion and a burgeoning population of 181 million. It had an attractive regulatory environment and was a preferred venue for foreign investment. English was the foreign language commonly used by the business community. The middle class was growing and increasing its spending on consumer goods. The list went on, but you were still cautious. You told him you wanted to think about it.

Fast forward to October 2006. You get another call from your broker. He is over the top with enthusiasm. A massive oil field had been discovered off the coast of Rio de Janeiro. It was thought to be the largest oil discovery in the Western Hemisphere over the past 30 years. Brazil was now poised to be a major exporter of oil, in addition to its rich supply of other commodities.

You are convinced. But how could you maximize your returns if Brazil did take off, as your broker believed? No problem. You would start a program of investing in Brazilian initial public offerings. You would focus on oil and gas, since that was almost a "sure thing." After all, you would be owning a piece of what could turn out to be one of the fastest-growing economies in the world. Everyone knows the world has an insatiable appetite for oil and gas.

The growth of the economy in Brazil exceeded your expectations. It averaged a four to five percent increase in GDP per year from 2005-2010. Exports of commodities increased multifold, especially to China. In 2010, Brazil's economy grew at an astounding rate of 7.5 percent, representing the fastest pace in 24 years, close to growth rates of China and India.

Credit to your broker. His prediction was right. Brazil was certainly the place to be during that time. So how did your IPO investments perform? They were a disaster.

According to a study by Credit Suisse, most Brazilian IPOs since 2005 have lost money, yielding overall a negative 15.2 percent. Your returns were worse. Oil IPOs posted negative returns of 51 percent. Overall, according to a Reuters report, "37 of the 117 IPOs since the start of 2005 have yielded returns above the benchmark CDI interbank lending rate."

There is a lesson for investors in this sad saga. There is a difference between gambling and investing. What goes on in many brokerage firms is more akin to gambling. It's an effort to pick sectors or stocks or mutual funds that will outperform the markets, by doing "research" and generating an "analysis" that may or may not be accurate. The problem is that even if your broker turns out to be correct in his or her predictions, markets don't always behave logically. Remember when the credit rating on U.S. debt was lowered and interest rates went down?

Rather than engaging in what amounts to speculation and guesswork, your focus should be on your asset allocation; how much you allocate to small, large, value and growth stocks; and the appropriate use of fixed income in your portfolio. Only then will you become a responsible and intelligent investor.

Dan Solin is the director of investor advocacy for the BAM ALLIANCE and a wealth adviser with Buckingham Asset Management. He is a New York Times best-selling author of the Smartest series of books. His next book, The Smartest Sales Book You'll Ever Read, will be published March 3, 2014.

The views of the author are his alone and may not represent the views of his affiliated firms. Any data, information and content on this blog is for information purposes only and should not be construed as an offer of advisory services.