Keynes as an investor
by Chetan Parikh
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In a classic “Classics – An Investor’s Anthology”, there are some excerpts of Keynes writings.


“In May 1924 The Nation published an Insurance Supplement. Keynes provided one signed article on investment policy and one unsigned one on bonuses.




Investment Policy for Insurance Companies


The question of investment policy for life insurance companies has been much under discussion in the last year or two. The issues which have been raised are the result, not so much of new ideas, as of new facts. The problem of wise investment, as it has presented itself since the War, is largely a new one, and the life insurance world has been slowly feeling its way to new principles suited to the new conditions.


What was the pre-war field of investment? Leaving aside real prop­erty and reversions, advances on policies, and the like, the chief cate­gories were (1) mortgages, (2) a limited selection of trustee securities, of which Consols was the main British Government stock, (3) Ameri­can dollar securities, and (4) the better-class bonds of certain foreign governments and railways. If companies were to keep up their average interest earnings to a satisfactory level, compatible with not placing too much capital outside the first two classes mentioned above, there was not a very wide scope for varying the proportions invested in the differ­ent classes; and within each class there was not much scope for gaining advantage from moving from one security to another. Some companies, however, were finding it difficult to keep up a satisfactory interest yield, which sometimes induced them to put a proportion of their resources into second-class bonds of various kinds-investments which on the average have not turned out well.


During the War there was, of course, a big movement, both on public and private grounds, into the various new types of British Gov­ernment securities which were being issued. Many companies disposed of almost the whole of their dollar securities. Thus the end of the War found many companies with a far greater proportion of British Govern­ment securities in their hands than they had ever dreamt of holding in the past.


Not only is there now a much wider range of choice within the field of British trustee securities than there was before, but the comparative suitability of the pre-war classes of investment has greatly changed. The margin of yield between first-class mortgages and British Government securities has narrowed. The yield on American bonds no longer bears its old relation of superiority to the yield on sterling securities, apart from which doubts about the future course of exchange introduce a new and difficult factor. All our old ideas about the security of foreign government bonds have been entirely upset, and the element of political risk must now be given far greater weight than formerly. Even some British trustee stocks need a watchful eye, and doubts can reasonably be felt which before the war would have seemed unnecessary. Few investors, for example, care to hold a heavy amount of India stocks, and, as we have seen lately, circumstances can arise in which even colonial stocks do not seem perfectly safe.


Thus the question of security itself cannot be settled by the old rules of thumb which used to be deemed sufficient. The wise investor must now doubt all things, and constantly revise his ideas in accordance with changing events in the political world.


But not only do new risks require a more watchful eye. The range of choice within a given class of security gives new opportunities for obtain­ing an advantage through judicious transferences in accordance with the fluctuations which occur from time to time in relative prices. Above all, the choice between long- and short-dated British Government securities inevitably raises a problem of a constantly varying aspect. I suppose that in old days the choice between mortgages and Con sols had to be determined on much the same principles as the choice today between long- and short-dated securities. Essentially it is an eternal problem. But the range of choice actually available for investment, the shortest and longest dated securities and those of almost every intermediate date being available in large quantities, makes it practicable to act promptly on any considered opinion which may be reached.


Most companies compromise to a certain extent and never back any opinion, however plausible and well-founded it may seem, up to the full extent. Nevertheless, it is very unlikely that the same proportionate division of assets between long- and short-dated securities can always be right. It is bound to change in accordance with the fluctuations of the business world. Insurance companies have a special opportunity to take advantage of these fluctuations, because it seldom happens that they are under any necessity to diminish their aggregate holdings. An industrial firm which holds a portion of its liquid resources in gilt-edged securities, in order to enable it to finance its affairs in particularly brisk times, is inevitably a seller from time to time. In the same way banks are bound to vary the volume of their gilt-edged investments to balance corresponding variations in the opposite direction in the amount of their advances to their customers. When insurance companies sell, it is always to buy something else instead, which fact puts them in an extremely strong position for benefiting from the fluctuating demands of the rest of the market.


Thus it comes about that the management of an insurance company is almost inevitably driven, whether it likes it or not, into what has been termed lately "an active investment policy;" which, after all, is merely another name for being alive to the fact that circumstances change. Unfortunately, it is not possible to make oneself permanently secure by any policy of inaction whatever. The idea which some people seem to entertain that an active policy involves taking more risks than an inactive policy is exactly the opposite of the truth. The inactive investor who takes up an obstinate attitude about his holdings and refuses to change his opinion merely because facts and circumstances have changed is the one who in the long run comes to grievous loss. Particularly in these days, no one is so wise that he can foresee the future far ahead. Anyone who obstinately takes up the view that over the next twenty years the rate of interest is bound to fall, or is bound to rise, is going beyond the evidence. If he is to be wisely guided he must take a shorter view and be prepared constantly to change it as the tide of events ebbs and flows.


It is equally false to believe that one form of investment involves taking a view and that another one does not. Every investment means committing oneself to one particular side of the market. The holder of long-dated securities lays himself open to losses, which may be very large, through the depreciation of his capital; whilst the holder of short ­dated securities equally lays himself open to earn a lower rate of interest than that on which he has calculated. No one can get both security of capital and security of income; yet it is a great mistake to think that an insurance company, which depends on both, can neglect either. It was the neglect of these principles in the period which elapsed between the era of cheap money in 1896 and 1897 and the beginning of the Great War, which involved the companies in the serious capital losses which were then shown both in their annual accounts and in their valuation results. Capital depreciation is the great enemy of life assurance, and an "active" investment policy has for its object the avoidance of capital loss at least as much as the making of capital profits.


The ideal policy for an insurance company is to put itself, so far as it can, into a situation where it is earning a respectable rate of interest on its funds, while securing at the same time that its risk of really serious depreciation in capital value is at a minimum. This, of course, is obvious. But it must be equally obvious that there is no golden rule for this, no invariable method. And this itself is the reason why constant vigilance, constant revision of preconceived ideas, constant reaction to changes in the external situation, in short "an active investment policy," seems to some of us an essential condition, and at the same time the most difficult and important branch, of the sound management of the great insurance societies and corporations which now administer so considerable a proportion of the national savings.




Perhaps the most interesting of Keynes's letters on the National Mutual were written in the aftermath of the 1937-8 recession. When the accounts for 1937 revealed a capital loss of £641,000, F. N. Curzon, acting chairman in Keynes's absence, initiated a discussion of investment pol­icy and urged further liquidations. Keynes was not at all happy with what followed and unsuccessfully tried in correspondence to restrain the board. On 13 March, Curzon sent Keynes a 14 page letter criticising the investment policy of previous months and suggesting further liquidations of doubtful shares. Keynes replied.




Dear Curzon,


Thank you for your very full letter. I was hoping to hear from you, and am glad to have this careful explanation of your general point of view. I admit that, being out of touch and not fully informed, some of my criticisms have been ill-directed.


My attitude is governed by the following general considerations, and I fancy that, whilst we do not see eye to eye, you do not disagree with some at least of these.


1)     I do not believe that selling at very low prices is a remedy for having failed to sell at high ones. The criticism, if any, to which we are open is not having sold more prior to last August. In the light of after events, it would clearly have been advantageous to do so. But even now, looking back, I think it would have required abnormal foresight to act otherwise. In my own case, I was of the opinion that the prices of sterling securities were fully high in the spring. But I was prevented from taking advantage of this, first of all by the gold scare, and then by the N.D.C.  scare, both of which I regarded as temporary influences for the wearing off of which one should wait. Then came the American collapse with a rapidity and on a scale which no one could possibly have foreseen, so that one had not got the time to act which one would have expected. However this may be, I don't feel that one is open to any criticism for not selling after the blow had fallen. As soon as prices had fallen below a reasonable estimate of intrinsic value and long-period probabilities, there was nothing more to be done. It was too late to remedy any defects in previous policy, and the right course was to stand pretty well where one was.


2)     I feel no shame at being found still owning a share when the bottom of the market comes. I do not think it is the business, far less the duty, of an institutional or any other serious investor to be constantly considering whether he should cut and run on a falling market, or to feel himself open to blame if shares depreciate on his hands. I would go much further than that. I should say that it is from time to time the duty of a serious investor to accept the depreciation of his holdings with equanimity and without reproaching himself. Any other policy is anti­social, destructive of confidence, and incompatible with the working of the economic system. An investor is aiming, or should be aiming primarily at long-period results, and should be solely judged by these. The fact of holding shares which have fallen in a general decline of the market proves nothing and should not be a subject of reproach. It should certainly not be an argument for unloading when the market is least able to support such action. The idea that we should all be selling out to the other fellow and should all be finding ourselves with nothing but cash at the bottom of the market is not merely fantastic, but destructive of the whole system. I do not believe you differ from me on this. But I repeat it because it is profoundly the basis of my general attitude.


3)     I do not agree that we have in fact done particularly badly. I have been carrying on for my own benefit a post mortem into results and making such comparison with other institutions as are open to me. Recknell, who has helped me with these investigations, would agree, I think, that, whilst we do not come out particularly well, we do not come out particularly badly. As far as I can judge, there is extremely little difference between our results and those of other people. If we take the Prudential, for example, with its very large holdings of ordinary shares, I should say that, though they may have done just a trifle better than we have, there is extremely little in it. Moreover, if our results are compared with those of the Index, for a period, they are extremely good. We have done a very great deal better than the Index, and have in that way shown power of management and have justified the capacity of insurance offices to undertake constructive investment. If we deal in equities, it is inevitable that there should be large fluctuations. Some part of paper profits is certain to disappear in bad times. Results must be judged by what one does on the round journey. On that test we have come out successfully. If, on the other hand, we do not hold equities, we must either be content with earning a definitely lower rate of interest, or we shall be tempted, in my judgment, into risks which, while they may be less apparent and take longer to mature, are really much more serious than those of equity holders.


As I began by saying, I think it is easy to exaggerate the extent of the divergences of our opinions. I feel sure that you agree with a great deal of the above, and on several occasions you have shown yourself a supporter in practice of a steady policy as against some other members of the Board. One main difference lies, I fancy, in your taking a less favourable view as to our experience over the whole swing of recent years. And I believe that, if full comparisons were available, you would find yourself greatly comforted.




In fact the chief lesson I draw from the above results is the opposite of what I set out to show when, what is now nearly 20 years ago, I first persuaded the College to invest in ordinary shares. At that time I believed that profit could be made by what was called a credit cycle policy, namely by holding such shares in slumps and disposing of them in booms; and we purchased an industrial index including a small holding in an outstanding share in each leading industry. Since that time there may have been more numerous and more violent general fluctuations than at any previous period. We have indeed done well by purchasing particular shares at times when their prices were greatly depressed; but we have not proved able to take much advantage of a general systematic movement out of and into ordinary shares as a whole at different phases of the trade cycle. In the past nine years, for example, there have been two occasions when the whole body of our holding of such investments has depreciated by 20 to 25 per cent within a few months and we have not been able to escape the movement. Yet on both occasions I foresaw correctly to a certain extent what was ahead. Nevertheless these temporary severe losses and the inability to take substantial advantage of these fluctuations have not interfered with successful results.


As the result of these experiences I am clear that the idea of whole­sale shifts is for various reasons impracticable and indeed undesirable. Most of those who attempt it sell too late and buy too late, and do both too often, incurring heavy expenses and developing too unsettled and speculative a state of mind, which, if it is widespread, has besides the grave social disadvantage of aggravating the scale of the fluctuations. I believe now that successful investment depends on three principles:


1)     a careful selection of a few investments (or a few types of investment) having regard to their cheapness in relation to their probable actual and potential intrinsic value over a period of years ahead and in relation to alternative investments at the time;


2)     a steadfast holding of these in fairly large units through thick and thin, perhaps for several years, until either they have fulfilled their promise or it is evident that they were purchased on a mistake;


3)     a balanced investment position, i.e., a variety of risks in spite of individual holdings being large, and if possible opposed risks (e.g., a holding of gold shares amongst other equities, since they are likely to move in opposite directions when there are general fluctuations).


On the other hand, it is a mistake to sell a £ 1 note for 15s. in the hope of buying it back for 12s. 6d., and a mistake to refuse to buy a £ 1 note for 15s. on the ground that it cannot really be a £1 note (for there is abundant experience that £1 notes can be bought for 15s. at a time when they are expected by many people to fall to 12s. 6d.).


Another important rule is the avoidance of second-class safe invest­ments, none of which can go up and a few of which are sure to go down. This is the main cause of the defeat of the average investor. The ideal investment portfolio is divided between the purchase of really secure future income (where future appreciation or depreciation will depend on the rate of interest) and equities which one believes to be capable of a large improvement to offset the fairly numerous cases which, with the best skill in the world, will go wrong.


The following is an illustration of how much more is to be made by picking the right shares than by wholesale shifts between market leaders and cash through a correct anticipation of the major swings. If the latter is aimed at then (if one is responsible altogether for a large body of investment) specialties which cannot be sold in quantity on a falling market must be avoided and the holding must be widely spread amongst the highly marketable leading shares, which means that the movements of the index numbers can be taken as a good guide to the actual movements of values relevant to such an investment policy. Now the index numbers. . . show (for Jan. 1) two peaks in 1929 and 1937 and two bottoms in 1932 or 1933 and 1938. British shares fell from 100 to 50, rose again to 90 and fell to 74; Americans fell from 149 to 46, rose to 88 and then fell to 55. These figures from Jan.1 are, of course, not the absolute tops and bottoms; but anyone who managed to sell all his British shares at an average of 100, reinvesting his money at 50, sold again at 90 and reinvested at 74 (and similarly with his American shares selling at 149, reinvesting at 46, selling again at 88 and reinvesting at 55) would have shown almost superhuman skill in predicting credit cycle movements. Now if he held half his money in sterling and half in dollar securities, allowing for loss of interest at 5 per cent during the periods when he was liquid, he would have raised the value of his investments from 100 to 182 in the nine years. In fact the Chest investments were raised during this period from 100 to 262, so that the appreciation (162 per cent) was almost exactly double that earned by the credit cycle genius (82 per cent).


In the main, therefore, slumps are experiences to be lived through and survived with as much equanimity and patience as possible. Advantages can be taken of them more because individual securities fall out of their reasonable parity with other securities on such occasions, than by attempts at wholesale shifts into and out of equities as a whole. One must not allow one's attitude to securities which have a daily market quotation to be disturbed by this fact or lose one's sense of proportion. Some Bursars will buy without a tremor unquoted and unmarket­able investments in real estate which, if they had a selling quotation for immediate cash available at each Audit, would turn their hair grey. The fact that you do not know how much its ready money quotation fluc­tuates does not, as is commonly supposed, make an investment a safe one. Until recently tithe was a much more dangerous investment than tin mines, and Worlaby-cum-Elsham has been, since we bought the property, a much more speculative as well as a much less profitable and more troublesome holding than the investments of the Chest in ordinary shares. But it is true, unfortunately, that the modern organisation of the capital market requires for the holder of quoted equities much more nerve, patience and fortitude than from the holder of wealth in other forms . Yet it is safer to be a speculator than an investor in the sense of the definition which I once gave the Committee that a speculator is one who runs risks of which he is aware and an investor is one who runs risks of which he is unaware. The management of stock exchange investments of any kind is a low pursuit, having very little social value and partaking (at its best) of the nature of a game of skill, from which it is a good thing for most members of our Society to be free; whereas the justification of Worlaby and Elsham lies in its being a constructive and socially beneficial enterprise, where we exercise a genuine entrepreneurial function, in which many of our body can be reasonably and usefully interested. I welcome the fact that the Estates Committee-to judge from their poker faces and imperturbable demeanour-do not take either gains or losses from the Stock Exchange too gravely-they are much more depressed or elated (as the case may be) by farming results. But it may be useful and wise nevertheless, to analyse from time to time what is being done and the principles of our policy.




It is important in conducting a post mortem to be sure what is one's test of success. One important test is the avoidance of 'stumers' with which many investment lists are disfigured.. I mean by this definite mistakes where the fall in value is due not merely to fluctuations, but to an intrinsic loss of capital. These are in an altogether different category from fluctuating securities, since there is no particular reason to expect a subsequent recovery. There is apt to be great confusion of mind between depreciation arising out of fluctuations and depreciation arising out of serious mistakes in the choice of individual securities.


On this test I think we can claim very good success. Our list includes a proportion of the above sort of mistake, but the amount of capital involved is not large. It is particularly useful for future guidance to make a list of these and remember how they arose. The following is my list, in which I have not attempted to include Americans since it is particularly difficult at the present time to analyse them accurately from this point of view: Omes; Petters Preference; British and Dominions Film; Carbo Plaster; Enfield Rolling Mills; Grand Union Canal; South African Torbanite; Universal Rubber Paviors; Mortgage Bank of Chile.


You will notice that these are practically all specialities and rather obscure concerns, mostly bought on private advice. Omes was due to Trouton; Carbo Plaster and South African Torbanite to Falk; Enfield Rolling Mills and Grand Union Canal to Brett. I am sure experience shows that private and personal recommendations of this class of security tend to turn out wrong in the long run. I am not quite sure whether Enfield Rolling Mills is justifiably included in that list, since it may succeed in getting over its preliminary difficulties. But perhaps our holding of Textiles bought on Hunter's advice ought also to be included, since one rather doubts whether they will recover fully, even when industry is again at a peak.


The other chief test must be, I would urge, against representative index numbers. A valuation at the bottom of the slump tends to bring out an unduly unfavourable result as against an investment policy which on the whole avoids equities; since it allows nothing for the nest egg in hand arising out of the fact that such a valuation is assuming in effect that one has purchased a large volume of equities at bottom prices. As long as you are beating the index number by a satisfactory percentage on the round journey there is, I am sure, not too much to worry about. For provided that you are avoiding stumers and beating the index number, you are bound to do brilliantly in the long run.


The modern habit of concentrating on calculations of appreciation and depreciation tends to interfere with what should be the proper habit of mind that the object of an investment policy is averaging through time. Insurance policy is, of course, doing that a little bit; but on the whole investment [insurance?] policy is averaging over a number of items which are in the same position in time, but in different positions in place. Investment policy which is successful in averaging through time will produce the same good results as insurance policy which is successful in averaging through place; and one must not be deflected from the sound principles of that kind of averaging any more than one must be deflected in an insurance policy by a heavy loss in a particular place.


I come next to the question of the percentage of aggregate funds which it is prudent to hold in different classes of investments. We certainly need minimum percentage in government securities and maximum percentage in ordinary shares. This is required partly for appearances; partly in the case of government securities to provide a satisfactory margin over our large volume of deposited securities, and in the case of ordinary shares to avoid the risk of excessive fluctuations exceeding our investment reserves.


But apart from these two general principles I am strongly opposed to rigidities in other respects. Fixed percentage-particularly within each group of industry, etc. - is surely altogether opposed to having an investment policy at all. The whole art is to vary the emphasis and the center of gravity of one's portfolio according to circumstances. Subject to a minimum in government securities and a maximum in ordinary shares I would strongly urge the desirability of the greatest possible flexibility.


Proceeding to details, I am in sympathy with your suggestion for some increase in our holding of British Government securities. At present we hold a rather larger percentage than the average of all the insurance companies measured as a percentage of total assets. (At the end of 1936 insurance companies as a whole held 23. 1 per cent in British Government securities as against our holding of 24.82 at the end of 1937 and 26.44 in March 1938.) Since, however, other offices held a much larger percentage of non-Stock Exchange assets their percentage of British Government securities measured as a percentage of Stock Exchange assets was higher than ours. There is, I agree, a good deal to be said for raising our percentage to some figure as you propose­ 33 per cent. An alternative way to look at it would be to include public boards and railway debentures and aim to 40 per cent in British Government securities, British public boards, municipal securities and railway debentures taken altogether.


As regards colonial government and foreign government securities, I should be quite ready to cut them out altogether as a normal policy, apart from investments made on quite special considerations and those required for the purpose of insurance deposits.


In the case of ordinary shares there ought to be a fairly wide margin of fluctuation in the percentage held: say between 20 and 30 per cent and without any fixed percentages as between different classes of ordinary shares. . . .


One final caveat: Compared with their predecessors, modern investors concentrate too much on annual, quarterly, or even monthly valuations of what they hold, and on capital appreciation and depreci­ation generally; and too little either on immediate yield or on future prospects and intrinsic worth.




There are very few investors, I should say, who eschew the attempt to snatch capital profits at an early date more than I do. I lay myself open to criticism because I am generally trying to look a long way ahead and am prepared to ignore immediate fluctuations, if I am satisfied that the assets and the earning power are there. My purpose is to buy securities where I am satisfied as to assets and ultimate earning power and where the market price seems cheap in relation to these. If I succeed in this, I shall simultaneously have achieved safety-first and capital profits. All stocks and shares go up and down so violently that a safety-first policy is practically certain, if it is successful, to result in capital profits. For when the safety, excellence and cheapness of a share is generally realised, its price is bound to go up. The Elder Dempster case is a very good example of this. I have no particular expectation of this share going up at any early date. I picked it because it seemed to me exceedingly safe and, apart from short-term fluctuations, unlikely to go down in the years ahead.


I am quite incapable of having adequate knowledge of more than a very limited range of investments. Time and opportunity do not allow more. Therefore, as the investible sums increase, the size of the unit must increase. I am in favour of having as large a unit as market conditions will allow and, apart from a small group of securities, this generally means a smaller unit than would be made necessary by the size of the investible fund.


As good examples of speculative attempts at capital profits I should instance South American shares and oil companies within the area of hostilities. I should not deny for a moment that such investments may result in capital profits. My objection is that I have no information on which to reach a good judgment, and the risks are clearly enormous. To suppose that safety-first consists in having a small gamble in a large number of different directions of the above kind, as compared with a substantial stake in a company where's one information is adequate, strikes me as a travesty of investment policy.


The units we actually work to in the Provincial represent a very expensive concession from what I personally think the counsel of per­fection.


There has been an extremely good experimental test of this in a comparison of results in the accounts of the Provincial and King's over the last twenty years. The spread of the King's investments between gilt­edged and others is much the same. The arguments against undue risk and in favour of stability of income are at least as great for a college as for an insurance company. Since I have been so closely concerned with both, the leading shares purchased by both have been very much the same in both cases. Where one institution has held a large stake in a particular direction in almost every instance the other one has also.


Nevertheless, King's has done immeasurably better than the Provincial. I am quite sure the reason for this is that our unit of invest­ment, which has been practically the same size as for the Provincial, though our investible funds are only about one-third as large, has been so much larger. We have been much more strictly limited to shares where I felt myself in a position to have a sound judgment. We have not lived up to this as much as we should. We should have done better still if we had lived up to it more. Looking back, I feel this applies particularly to purchases in the American market as distinct from the London market, though on the whole the American investments have worked out all right.


The other day we were looking at our back records with a view to conducting a little bit of a post mortem and to discover whence the satisfactory results came. The answer seemed to be that (with one or two minor exceptions in the American market) there had scarcely been a single case of any large-scale loss. There had been big fluctuations in market prices. But none of the main investments had, in the end, turned out otherwise than all right. Thus, against the profits which inevitably accumulate, there were comparatively few losses to offset. Virtually all our big holdings had come right.


Now that is what I call a safety-first policy as judged by results. Where King's has made profits the Provincial has nearly always made profits too. But they have not been an equally high proportion of the total invested funds.”