Finance & Investments


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Retirement & Savings


Why are Bulgarians poor?


Poverty in Bulgaria has many faces, but the more poignant question is why the life of generations of Bulgarians is marked by destitution and lack of funds.

No, it is not because we’re stupid or lazy, as some would say. And it’s not because we can’t save.

Why, you ask? The short answer – we don’t invest. One would say – “well, not true, Peter has 4 condos in Student City district”. Sure, good for Peter, he has saved, he’s put his money in an asset, is definitely a good example for all, but his “investment” is so erroneous that it can be qualified as a speculation. More on the difference between the two a little later.

The long answer to the question “Why are Bulgarians poor?” is not hard, but we get to it by looking at the big picture.

 

What’s going on in our homeland?

 

According to NSI more than 1.5 million Bulgarians are under the poverty line, every fifth of us lives with less than 413 bgn per month. If we exclude social transfers (unemployment benefits, maternity benefits, heating, public housing, etc.) the percentage grows to 42.2%. This is half the population.

The most affected are the unemployed with 58.9% living under the poverty line and close second, of course, are retirees – 34.3%.

The picture gets scarier when we look at the data for those at-risk of poverty, people with incomes close to the poverty line. In 2019 (the latest available data) those Bulgarians are 2.278 mil or 32.5% of the population. Of those 56.9% are single person households with age over 65.

The bottom line?

Ubiquitous poverty. Lack of funds when we need them most and at a time when our ability to earn is smallest.

Meanwhile, the retiree of developed nations travel the world, enjoy hobbies, and live a worthy golden age.

I see those two grannies, their equivalent of course, every day. Walking tours in the center of Sofia comprised of those tourists (or at least before the pandemic) shows the difference between the two and it is shocking.

The topic of pension systems and social security is too long to get into here and will be discussed in a separate article, but the difference between Bulgarian and economically developed societies is how people invest outside of those government systems. They do it every month and as soon as they start working age.

 

Why don’t Bulgarians invest?

 

The answers are plenty but the most common denominator between all is fear.

The Bulgarians are afraid that they might lose their savings, and rightfully so. They have seen this happen numerous times in the last 85 years, where they have lost all – whether because of the state, an “expert” advice, or just because they had cash in a bank.

Here are some of the examples, which have been widely covered over the years but must be reminded:

 

State bankruptcies – a few of them

 

Little known, but widely researched topic lately, are the three bankruptcies of the Bulgarian state during the communist regime – the best kept secret in the 1945-1990 period. Most people remember the 89-92 crisis and fall of the communist party. But this is the third bankruptcy of the state.

The first comes in 1960, when after a decade of rapid development of the “social model” the Bulgarian state is left insolvent and BNB stops payments on all foreign debts. Biggest such debts are to USSR, who at the time hold our gold reserves, conveniently transferred to Moscow a few years prior.

The second bankruptcy comes in 1978. The reason for it is not only the unchecked development of industries, where we have no market advantage, but also the oil crisis of 1974. The foreign nominated debts balloon to the staggering 6 billion US dollars. Numerous negotiations with the same creditor and a few not-so-valiant gestures by Todor Zhivkov to Leonid Brezhnev lead to two bailout tranches that “patch up” the situation. This fix is a temporary fix as short seven years later the treasury is burdened with newer and larger loans. At the time state-owned enterprises lose market share and economic processes coincide with the call of the USSR. On March 31st 1990 Andrey Lukanov suspends payments on our foreign debts and with no prior notices to the lenders, which in turn crashes the Bulgarian lev and leads to an economic crisis.

Family archive

Each of those bankruptcies wipes out not only the treasury but also a large part of people’s savings. Each booming growth of the “people’s enterprises” were accompanied with bond issues, not all of which even carried interest. With the first emissions in 1952, 1954 and 1955 the state tapped the savings of millions to finance a utopic regime.
Before the 1978 state bankruptcy almost all state-owned enterprises had their own issue, which was sold to (most of the time) unwilling workers. Information from that time confirms that people were made to participate, which of course, strained even more their measly family budget.

The crisis of ‘97

 

The Bulgarian state did not declare bankruptcy at the time (did not stop payments on foreign and domestic debts) but did hit the proverbial bottom in economic development. This is the period, which saw the largest Bulgarian currency devaluation and the complete savings wipeout of two generations.

The state, any state, is a poor manager/owner and we should not rely solely on the government for pension or investment. The bonds from the picture are my family’s and I keep them as a reminder of expensive investment lessons.

 

Bank failures

 

Even if one decides to be conservative and hold cash in the bank, after all “Cash is King”, they can still lose it all. Numerous banks, which were considered stable at the time, failed miserably in the nineties. Then history repeated itself in 2014 with the spectacular failure of the fourth largest bank, KTB (Corporate Commercial Bank).

 

Shady investment funds

 

Life Chose and other pyramid schemes with sophisticated names lured “investors” with the promise of riches.

Some would say I’m mocking our parents or our firsts steps in investing but is not so. Schemes and cheats are present today:

 

Everyone’s favorite cryptocurrencies – from the ICO’s to Dr. Ruja

 

The popularity of blockchain the cryptocurrencies flourished as stories of riches marked the first adopters in the market/sector. Pictures of mansions and Lamborghinis sparked the imaginations of many who started bidding up prices of each newly minted crypto coin. The initial offerings of those new cryptocurrencies was named ICO (Initial Coin Offering) not by accident – as it very much mirrors the IPO (Initial Public Offering), the first sale of stock on an exchange – a concept well known by the general public. Those ICOs were oversubscribed by “investors” who wanted to become overnight millionaires. Unsurprisingly of course, most of those issues were scams (over 80% according to CoinTelegraph, and over 90% according to CoinDesk). Less than 10% had an actual idea and a team building a blockchain, but almost all of those failed within a year. The results show that over 99% of all “investors” lost all their money.

And let’s not forget our contribution to this madness – OneCoin. A blatant scam, concocted by Dr. Ruja Ignatova, that piggy bagged on the crypto hype. The result? More than 3 mil people scammed out of the staggering 3.5 Billion US dollars. Yes, with a B.

There are of course many cases where people scam themselves

 

We bet on everything from football games to roulette

 

There isn’t much reliable data on how many know the probabilities of them winning a football bet, slots or roulette bet, but whatever it is it will forever remain a mystery to me how an individual would keep betting when he barely wins. Online casinos have created a very creative coefficient, which shows how much a player wins. It is called Return to Player (RTP) and shows the percentage of “winnings”.

With slots the coefficient is between 96% and 99%, which sounds like free money. What RTP shows is that how close the player wins are to those of the casino. In other words, it shows the advantage (the edge) the casino holds over the player. If RTP is 100% that means a player wins as much as the casino, i.e. 50/50 chance each game (turn). In reality, an RTP of 96% leads to 4% edge of the casino over the player, or 56% of the games will be won by the casino and 44% by the player. In this case, the more one plays, the probability of losing all his money edges closer to 100% with each turn.

I’m not even going to waste time with football betting.

 

We “play” the market

 

Some of you are way ahead of most. You have a brokerage account and access to international markets. That’s great! But you don’t invest long-term. Nooo, you “play” the currency and stock market. If we just pause here and think of the term those people use, we can immediately realize these “payers” have lost before they even begin. This situation is remarkably similar to the casino example, but without a published coefficient to show how fast we will lose. Sure, there are winners in this game, but they are about just as many as in the casino. The topic deserves an article of its own, but here are two quick examples:

  1. Traditionally, brokers earn from commissions and would prefer we trade a lot. That’s the reason they have education courses, easy to use platforms with countless “resources” that “help” the trader be successful. Many years ago, just like the casinos, the brokers were making the market for their clients, and when they receive an order, they take the other side (instead of routing this order to the exchange). They know that the probability of most clients being correct in their assumptions on the direction of the price to be small. So essentially, they bet against their clients. When the trader decides to close their positions, the brokers closes theirs. Sometimes brokers lost on their bet, but rarely and with small amounts. These days government regulations do not allow this, so the brokers get creative – they introduce the CFD or Contract for Difference. With this product the broker officially takes the other side of the trade. Essentially this is a bet on where the price of a certain market would go. Brokers offer such CFDs on everything from individual stocks, to indexes, to cryptocurrencies. And brokers can’t wait to bet against you. Why? The answer is published on their websites (because of regulations) – with the top 10 European brokers that offer CFDs between 73% and 82% of all client accounts lost money. You don’t believe me? Check for yourself.
  2. The amateur trader has no edge in the market. To be successful in any venture one must have an advantage against other participants in the market/sector/game. Trading is no different. The big funds and their professional traders have every advantage in the world against you – the know more, they hear the news first, the analyze better, they are faster with order execution, they have access to your orders, , etc. Trading against them is like playing football against Messi and Ronaldo for money, while blindfolded and with your feet tied together. Whoever thinks they can win in such a situation, they must seriously reconsider their life choices… or be ready to pay dearly for the lesson.

None of the aforementioned stories of “investments” would be terrible, if the people involved invested only part of their savings, if didn’t mortgage their own and their parent’s homes to participate. And we know how those stories ended.

The big picture shows endless stories of fraud, schemes, self-deception, lack of basic knowledge, which result in fear and distrust.

In most of those cases people have trusted the state, certain “experts” or tried to get rich quick. Well. It doesn’t work that way, because there is huuuuge difference between speculation and investing.

Not that speculation is bad thing, on the contrary – it is a job like any other. And as such it is something one does all day every day, the speculator studies diligently the product and the market. If professional speculators took part in the pyramid schemes they would have started with a small amount and would observe the behavior of their investment, other participants, and the organizers of the scheme. They would have read the legislation concerning the products and would have, most probably, realized in a few days that this is a scam. On top of that they would have probably made money on this, as most people that take money out early in those schemes are winners, after all someone has to win in order for the scheme organizers to promote their “investment”. All other people that took part in those are regular people, they have other jobs, careers, and interest in life. Those people need to stop speculating and start investing!

What is investing? Investing is every purchase of an asset with aim of return. Investing is comprehensive distribution of capital in different assets with the goal of maximum return with minimal volatility (movement in the prices of those assets).

The great investors invests their capital for a long period of time in multiple working companies with an actual product or a service, with stable financials, operating in different sectors and countries; invests in bonds from different developed countries and in exchange traded commodities with high economic impact. The companies will grow their business and profits over the years and will distribute their profits. Countries will grow their GDP and will easily pay their debt holders. And along with exchange traded commodities they all will balance the risk and return of the entire investment portfolio. The investor knows he or she will not ger rich quick but will also know that over time the well diversified portfolio will grow and not lose a lev (if the investment period is long enough).

Here what we should all aim for:

„Come on, man, do you think we are slow?”, you would say, “stocks jump and crash every day, public companies fail all the time, then there are crises, wars…”. That’s true but there are two key words I used – investing long-term and in multiple public companies (well, there are more than two but you get the point).

Investing long-term here means 10-15 years and investing in multiple companies means a lot. For the first we need discipline, the second is easy. These days with a single click we can buy an index fund (a fund that holds the companies comprising a market index in a predetermined proportion) and become investors in 500 of the biggest companies in the USA (S&P 500) or 100 of the biggest in the UK (FTSE 100) or the 50 largest in Europe (DAX).

Let’s first break down the definition of investing by key words:

An intelligent approach would be to invest long-term – 10-15 years at least. During this period an investor would only add to their investments and NEVER take capital out of the account, no matter where prices are. No one knows what will happen tomorrow, but with an investment period of more than 10 years the probability of a well-diversified portfolio to be over its initial investment is 99%.

The smart investor buys multiple working public companies – diversification lowers the risk and volatility within an investment portfolio. Even if one, or a few, of the companies to fail it will not have a terminal effect on our portfolio.

Working and public companies – ones that have an actual product and have established themselves within a sector. Companies that are traded on an exchange. This means they are audited every year and followed by many investors and analysts. All this lowers the chances of investing in a scam.

Companies with stable financials – strong balance sheet and growing profits are key attributes of most growing and well-established companies that weathered a crisis or two.

Companies operating in different sectors and countries – again diversification across sectors and geographies. This lowers the risk of concentration in one place which can be affected by certain sector or country specific calamities. Take the current COVID-19 event – the leisure sector (hotels, airlines, restaurants, tourism in general) are more affected than the tech sector.

Bonds, government bonds of developed nations, are safest. And as such, their return is the lowest. Those are the assets that investors cannot get enough of during a crisis. I.e. their prices go up when the price of stocks goes down, they balance a portfolio during volatile times.

Exchange traded commodities such as gold, oil, wheat, copper, etc. are not correlated with other financial instruments and do well during a crisis. Like bonds, they also balance the portfolio by adding diversification.

That’s right Peter, diversification. Let me ask you, is your investment portfolio of 4 condos in Student City district diversified?

For some of you this material is boring because you already know all this and invest regularly without trying to be day traders. That’s awesome. You know that you have to invest in (rather than play) the market, you have a brokerage account and local or international brokers. You know that you must invest long term in the real companies and spend a lot of time trying to find the “right ones”. Some of you even know that you can’t do all this research in your free time and have entrusted your savings in mutual funds and their portfolio managers, professionals in their field. The first group (picking individual companies), looking for the “right” ones expect one this, but get the total opposite:

This group of investors lost their capital in time. At first slowly, and then quite fast. Slowly, because even picking individual stocks could bring capital gains at first, but the lack of diversification sooner or later fails every portfolio. Fast, because most people try to double down and take more risk trying to get out of the hole.

The second group, who trusted the experts and invested in actively managed mutual funds also expect one thing, but get a different result:

How come this group, who had diversified portfolios and invested for a long period of time still didn’t have the right approach? Let’s see the statistics in Bulgaria.

Looking at data compiled by  BNB  investment funds in local mutual funds has grown drastically, and as of 30.06.2020 their total amount is 4 645 230 000 bgn. This is four times more than in march 2007, when data begins. Congrats to the winners…. Ugh are there any?

Let look a little deeper in the assets comprising this graph.

The asset allocation (the percentage of each asset within the portfolios) has change quite a bit over the years but let’s look at its current distribution – the fields in the far right and from top to bottom.

As of 30.06.2020 we have the following allocation:
Deposits: 10.51%
Bonds: 35.66%
Equity (stocks): 41.49%
Investments in other mutual funds: 11.23 % and so on.
At first glance one would say that this looks like a decent allocation (if we disregard the large investments in other funds, more on that later).

Digging a bit deeper, however, we will see the real story. Let’s see what the distribution of those 41% equity looks like. Turns out jthat 80.4% of all stock investments, and 33.4% of all investments of all funds are in Bulgarian stocks. 9.4% of all equity investments are in EU stocks and 3.55% in US stocks. There is nothing wrong with supporting local business and economy, and if one’s goal is charity, surely there are better causes to support. Why so extreme? Let’s compare the returns of local and foreign stocks.

The SOFIX index is the benchmark of our local stock exchange. The value of the index on 1.03.2007 is 1278.19, and on 1.10.2020 is 427.07. That is 3 times less, or -8.09% per year.

The DAX is the German equivalent of large capitalization (biggest) companies on the Frankfurt Exchange.

The value of the index on 1.03.2007 is 6460.24, and on 1.10.2020 is 12730.07. That is double the value in the same period, or + 5.04% per year.

The S&P 500 is the wide index of large cap companies in the US. The value of the index on 1.03.2007 is 1403.19, and on 1.10.2020 is 3380.80. That is 2.5 times the value, or +7.0% per year.

Therefore, even the experts – all of them smart educated men and women, cannot provide a decent return for their clients. Especially when they have concentrated portfolio in the same asset and geography.

In the case of Bulgarian mutual funds there are two (other) factors that pull the turn lower. First are the investments in other funds. 10% of the assets of all funds is invested between them. This concentrates the portfolio even more, as the asset distribution is almost the same between funds. The second are investments in deposits, i.e. cash. 10 years ago, when rates on deposits were 6-8% it made sense to have part of your portfolio in cash. Today, however it is useless, as it earns nothing. As of 30.06.2020 “investments” in zero return deposits amounts to 10.51% of all assets. 164 million earning next to nothing – Insane!

Let’s dig in even deeper and look at statistics provided by the Bulgarian Association of Asset Management Companies (BAAMC). Of all 117 funds, only 55 have a positive annual return. Only 23 have returns over 3% (current inflation in Bulgaria). Over 5% annual return have only 6 funds and none of those six is more than 5 years old. Therefore, every that has invested in those funds for over 5 years has lost or earned next to nothing (if we account for inflation).

But let’s look at their American fund manager brethren. Over the past 10-15 years numerous research points to the same fact – 90% of mutual funds have underperformed the market (earned less return than an index like S&P500) when the investment period is longer than 15 years. Even the mythical hedge funds did fare much better – 80% of them underperformed the general market.

Fund managers in general, in Bulgaria and abroad, are extremely intelligent, smart and educated people, all professionals in their field. I have the honor of knowing some of them. The problem is that none of them can outperform the general market for an extended period. Its hard work.

What is the bottom line from all those pages of emotional outburst? Totally wrong approach to finances – saving cash under the mattress or in the bank earning nothing, investing too much in a single sector – like real estate. Or we have invested in a fund run by CFAs, MBAs and other managers with three letter designations, where for decades we earn nothing, or we don’t get the return of the market.

Yes, this sounds way too gloomy and discouraging, but it is not the final diagnosis and should not lead to hopelessness. Learning from the mistakes over so many years we can make a turn for the better. Many of us are already doing it. We live in a time where open borders allow us to have access to brokers and products from around the world. The competition between brokers and asset managers push prices lower allowing us to invest cost efficiently and long-term. If we save diligently and invest regularly, we can do this easily:

This is just an example showing how much more we would have if we invest regularly.

This is just an example showing how much more we would have if we invest regularly.

The best of all is that we can achieve this by ourselves – without experts, without the state, without much effort. We don’t need to be financial geniuses and we don’t need to look at graphs or financial statements all night long. All we need is just a little discipline and little hep.
So be prepared!