Am I Gambling or Speculating Intelligently?

As I observe the market movements of certain stocks listed on our Bursa Malaysia, I begin to discern that the ups and downs of the market are highly erratic and somewhat illogical. In fact, there are times when I wonder whether I have entered into a gambling den where my gains or losses are based on the whims of Lady Luck rather than on my analysis of the fundamentals of these companies.

For instance, look at the shares of Genting Berhad below. The share price has almost doubled within the span of three months from March to June 2009 i.e. RM3 per share to RM6 per share.



However, when one takes a long hard look at the financial results, you will find that there’s really nothing optimistic about Genting that can justify the doubling of its’ share price. In fact, the results are quite disappointing. Why then has the price gone up?



Should you have bought Genting’s shares in March 2009? You would have made almost a 100% gain within three short months.

STOP!

As an investor, I feel that there is nothing more dangerous than venturing from intelligent speculation to outright gambling.

So, what’s the difference? Just stop and ask yourself this one critical question:

Are there any good reasons to buy the shares in Genting at RM3 three months ago?

Gambling?
If there is none, you are merely gambling away in the Bursa Casino. Yes, in hindsight the price has gone up. But don’t forget, the price of Genting shares could have gone down significantly as well.

Speculating Intelligently?
If yes, take a long hard look at your reasons. Are they based on good and fundamental reasons? Even if you hear rumors that the company will secure a large project, consider the reliability of the information first. More importantly, take a long hard look at the share price of the company for the last few days. Somebody might have already purchased the shares in that counter and are looking to sell it to some naïve investors. Don’t be one of them!

Internal Benchmarks
A more reasonable approach is to use look at the PE ratio or dividend yield of these companies. If the PE ratio is less than 10x or dividend yield is 8% or more, it may be a good investment. Further, do your own homework and assess the liquidity and gearing of such companies before investing in them.

Conclusion:
Try not to buy shares of companies just because its’ prices are going up. And don’t sell shares you hold, just because the prices are going down. Following the crowd will get you nowhere except losing your hard earned money. Make sure you have good solid reasons for investing in the first place and equally good reasons before selling the shares that you own.

Fundamentals of Investing - Part VII

RISK, RETURN AND LIQUIDITY

There are numerous investment vehicles [i.e. things!] that you can use your money to invest in. However, there are three important dimensions when considering what to invest in:

1. Risk
There are two dimensions of risk:

(a) Capital Preservation: What is the volatility of your investment vehicle maintaining the Ringgit value spent buying it?
The less volatile the investment vehicle, the less risky it is and vice versa. In other words, if you bought shares in Bear Stearns at USD100 per share a year ago, how likely is it that it will depreciate in value? Recent events have resulted in shares in Bear Stearns worth only USD10 per share, so investing in shares is a risky investment.

(b) Certainty in Rate of Return: What is the level of comfort that you will obtain the expected return on your investments?
The more certain the rate of return from your investment, the less risky the investment and vice versa. For example, if you invested RM10K in a fixed deposit with a local bank @ 3.70% per annum, it's virtually certain that you will obtain an interest of RM370 per annum. So there is a very high level of comfort on the rate of return.

2. Returns
Return is the combination of:

(a) Capital Appreciation
This means the increase in value of the investment class (excluding the recurring income generated). For example, if you bought a house for RM200K and rented it out, you would obtain rental income. However, you may find buyers approaching you to buy the house from you at RM250K. Therefore, your capital gain [IF YOU SOLD YOUR HOUSE!], would be RM50K.

(b) Recurring Income
Recurring income are the returns generated by the investment class on its' own.
Example: Interest Income from Fixed Deposits, Dividend Income from Shares.

3. Liquidity
Liquidity merely means how fast you can convert your investment into COLD HARD CASH. For example: Your house is a relatively illiquid asset as you need time to sell it. Conversely, investment in shares are highly liquid as you can easily sell your shares on the Bursa Malaysia.

So, what is the best investment vehicles to invest in?

Let me ask you, who is one of the three richest person in the world today, excluding Bill Gates?
WARREN BUFFETT!

Let me ask you another question: What investment vehicles does Warren Buffett usually invest in?
SHARES IN PUBLIC AND PRIVATE LISTED COMPANIES

Now, why do you think one of the world's richest person prefers to invest in shares?

Well, let's consider three different Investment Vehicles:
_________1. Fixed Deposits_______2. House________3. Shares in Public Listed Companies
Risk:_______Minimal_____________Medium_____________High [Medium risk with skill & experience]
Return: ____Minimal_____________Medium______________High
Liquidity:___High________________Low_________________High

Between the three investment vehicles:

(a) Fixed Deposit is the safest but with the lowest rate of return. The current FD rate might not be sufficient to offset the inflation rate now!

(b) Investing in a house is less risky but requires a huge capital outlay [i.e. a lot of money]. Sometimes, you might make a bad decision and it might be your last. Take for example, if you bought a house in Rawang in 1997 in the expectation that area will be developed extensively [rumours of Putrajaya and Proton City being located there]. Currently, there is a lack of development and you might make a loss on your house if you sold it now. You can't even rent it out for a good price to cover your loan interest. So, there is a moderate risk in investing in houses.

(c) Shares
You could make handsome gains in a year without doing anything. There's a good chance of capital appreciation [increase in share price] whilst you get dividend income from your shares. It's highly liquid and you can cash out anytime. The income is also TAX FREE. What more could you want?

Unfortunately, it's RISKY! Yes. You need to put in the effort to analyze and research into the Companies before buying them. Otherwise, like one of my readers mentioned, you could be fooled by the RED HERRINGS [aka shitty companies in the stock market].

Imagine a USD100 stock dropping to USD10 in less than a week. Now imagine your retirement fund of USD1MIL dropping to USD100K in a week. Scary? Darn right, it's scary. That's why you need to be very careful when investing in shares.

How to tell the SHITTY companies from the GOOD ones? Well, that's the topic my future post: An introduction to Value Investing.

Fundamentals of Investing - Part VI

IMPLICATION OF THE BLACK SWANS CONCEPT

Yesterday, I talked briefly about the Black Swans Concept introduced by Nicholas Taleb. Today, we shall review the implications of this simple, yet often overlooked fact of life. Simply put, NOTHING IS CERTAIN IN LIFE.

It’s strange; sometimes our lives are so routine and mundane, it seems that every day will be just like the day before. Just like the Turkey, we tend to think that just because something has happened for the umpteenth time previously; it’ll be the same today. Ah-hah, maybe today will be the day you’ll be led to the slaughterhouse, just like our Turkey.

In the world of investing, this has astounding implications. For instance just before the stock market crash in 1998 in Malaysia, I believe almost all of the so-called experts, investment analysts, brokers, stock market punters etc. were raving about the Malaysian Stock Market and how it would go higher, Higher and HIGHER! Well, in 1998 the Malaysian Stock Market did move all right… Just in the OPPOSITE direction, it moved DOWNWARDS :( and went lower, Lower and LOWER!!!

Black Swan events such as the Tsunami that hit Aceh on 26 December 2004 can happen instantly without warning. These can have severe implications on your investments, so you need to have contingency plans for your investments. Otherwise, you may be caught flat-footed. So, what can you do about it?

KEY INVESTMENT STRATEGY: ALWAYS CASH OUT AND RECOUP YOUR CAPITAL
When the stock market is booming, there is always the tendency to be GREEDY. Once you are hit with the fever, you might sell off all the assets you own, including your house and borrow to the hilt to invest in the stock market. After all, it is easy money right? Invest RM100K and see it grow by 30% the next day. All that without even lifting a finger!

Well, that’s true. Don’t forget however, that the converse is also true. You could just easily lose the RM100K in the blink of an eye. Think about Enron and Bear Stearns. Shares worth over USD90 per share can become almost worthless overnight (see the charts above).

I am not saying, sell all your shares once you make a 5% gain. What I am saying is, please review your investments periodically. If you make a capital gain of approximately 30%, why don’t you sell half of those shares and lock in your gain and recoup part of your capital.

Remember, the shares you hold are merely pieces of SCRAP PAPER. They are literally WORTHLESS unless someone else is willing to buy them for you. So, always have some CASH in the bank. Don’t put all your eggs in one basket, especially in the SHARE MARKET basket.

CONCLUSION:
ALWAYS CASH OUT SOME OF YOUR CAPITAL GAINS FROM THE STOCK MARKET ONCE YOU HAVE MADE A HANDSOME GAIN. REMEMBER – THERE ARE ALWAYS BLACK SWANS SWIMMING AROUND READY TO RELIEVE YOU OF YOUR MONEY! (AND TURN A BULL RUN INTO A BEAR DIP)

LEAVE SOME OF YOUR SHARES IN THE STOCK MARKET DURING A BULL RUN. IF THE STOCK MARKET KEEPS GOING UP, YOU’LL STILL PROFIT FROM IT SINCE YOU STILL HAVE SOME SHARES LEFT :)

Fundamentals of Investing - Part V

BEWARE OF THE BLACK SWANS!

The ideas in this post are based mainly on the book entitled "The Black Swan" by Nassim Nicholas Taleb, so feel free to check it out.

In short, the main idea in the book is that, there is NO SUCH THING AS A SURE THING! Sure, we would like to believe that we can predict the future, but that's a make believe world. So what has uncertainty to do with Black Swans, you ask?

The Fairy Tale:
Once upon a time, in a land very very far away, there lived a kingdom with many brave and courageous explorers. They journeyed far and wide to all manner of countries and exotic kingdoms. However, in all their journeys, these explorers noted that all swans were WHITE! Naturally, over time, all the people assumed that SWANS MUST ALWAYS BE WHITE! Why? Because collectively, over a period of several centuries, no one ever saw a Black Swan.

Unfortunately one day, there came a stranger who proclaimed he saw a Black Swan in a far far away kingdom. Imagine the laughted and derision he faced... "YOU MUST BE F*CKING CRAZY!" remarked one explorer from the Kingdom. Being astute, the stranger played to the gallery and bet all his money with the disbelievers. Now, several months later, they landed in a strange land called Australia!

HOLY COW BATMAN... I see (& I don't believe it!) BLACK SWANS! OF COURSE, THE STRANGER WALKED AWAY SEVERAL MILLION DOLLARS RICHER AFTER WINNING HIS BET :)

Morale of the story:
Just because you have observed something happen in a particular way for one million times, it doesn't mean that things will NOT turn out differently on the 1,000,001 time.

The Turkey Analogy
Another more interesting analogy is the Turkey Analogy (see chart above). You see, when the turkey gets hatched in January 2008 at the Turkey Farms, he has no idea where he is. He only knows that come each day, there are some benign beings called HUMANS that are there to feed him everyday.

So he becomes more and more contented everyday, since he's being fed every month. Why? Because these HUMANS have fed him so consistently so often, it's a certainty they will feed him tomorrow, right? So, just when he's at his happiest in mid October 2008, oh dear...the HUMAN says "OFF WITH HIS HEAD!". Next thing he knows, the Turkey is being sent to the slaughter house :(

Now, the owner of the Turkey Farms knows well what will happen, since he has all the relevant facts on hand. Unfortunately, the Turkey doesn't and won't realize what's going on until it's too late.

So who are you going to be? The Turkey or the one eating the Turkey?

CONCLUSION:
Beware of the Black Swans! They are the HIGHLY IMPROBABLE EVENTS which have a HUGE REPERCUSSIONS ON THE GLOBAL ECONOMY and on your investments. The September 11, 2001 New York attacks are one of them. My next post will analyze the impact of Black Swans and how to prepare for such contigencies in our investment strategies.

Fundamentals of Investing – Part IV

CAVEAT INVESTIRE (LET THE INVESTOR BEWARE!)

Leave it to the Experts!
Now that’s a phrase that’s becoming more common by the day. Just like peddlers of yore, that go from town to town selling snake oil, you have all manner of experts telling you how to invest your money.

There are so-called Certified Financial Planners, Chartered Wealth Managers, Chartered Financial Consultants, Chartered Financial Analyst, Insurance Agents, Unit Trust Agents and etc. etc. Let's call them "Investment Agents", for the moment.

Whose interests do they serve?
STOP! Think for a minute! If these Investment Agents are so good at investing other people's money, why don’t they invest their own money in the products they are selling to you? If they are as good as Warren Buffett, do you think they'll even waste their time talking to you? In other words, why don’t they put their money where their mouth is?

These Investment Agents don’t care whether your investments make money or not. For them, once they sell you the product, they immediately make a handsome commission based on the amount you have invested with them. Sure, they will tell you that this instrument is EXPECTED to make, say 40% return per annum. Ask them: Is it guaranteed? You may get a blank stare or a non-committal answer.

God helps those who help themselves!
In today’s time, PROFESSIONALISM isn’t what it used to be. In the past, professionals such as Doctors, Accountants and Lawyers used to take pride in their work and ethics. In this age, there is a tendency for professionals to take liberties with their clients’ and use their superior knowledge to take advantage (or even swindle!) their client’s monies.

And most of the so-called Investment Agents are definitely not people with extensive investment experience and knowlege. Their certifications only mean they have spent some time learning on the subject. However, are they good enough for you to trust your money to them? Remember, they are only interested in selling you their product to get their commission! Do you think they are interested in you and your well being? If you lose all your capital in the investments they sold to you a few months ago, do you think they will reimburse you? Pluuueeezzzzeee! I am sure they couldn't care less!

Some of you might not have time to manage your own money. If you don’t have time to take care of your own money, then make sure you can get someone with UTMOST integrity that can assist you in investing. However, when it comes to money, it’s hard to trust anybody these days. So my advice is, MAKE TIME to learn about how to make good investments.

Conclusion:
Before you start investing, you need to do your own research and brush up your knowledge on what factors to consider when investing in various types of investment vehicles. Don’t leave your investment strategies to the experts. Experts want to use YOUR money to earn money for themselves. Never expect EXPERTS to take care of your money for you! That’s something you’ll have to do on your own.

Fundamentals of Investing – Part III

A FOOL AND HIS (OR HER) MONEY ARE SOON PARTED!

I’ll be brutally honest today! Our fixed deposit (FD) interest rates are PATHETIC. They SUCK! Period! Getting 3.70% interest per annum is not even sufficient to preserve your capital after taking into account that inflation is likely to be around 5%.

And because of this, most of us are approached by a plethora of people telling you:
INVEST IN MY PRODUCT! IT’S GUARANTEED TO GIVE YOU A RETURN HIGHER THAN THE FD RATES. WHY ARE YOU KEEPING YOUR MONEY IN THE BANK / EPF ETC?

And you think? Hmm… Why not?

STOP! That’s the sort of thinking that will get you into DEEP SH*T later on, especially if you haven’t got a clue of what these people are going to do with your money.

Before you trust your hard earned money to unit trust / insurance / Chartered Financial Planner agents, why don’t you trust YOURSELF to invest your own money? Yes, I hear some of you groaning – I don’t have the time!

Fine! Well, just think about it. If you don’t have time or couldn’t be bothered to look after your own money, what makes you think that other people will?

Look, it’s really SIMPLE! You need to take an active interest in managing your own money and investments and not let someone do it for you. I’m NOT saying – don’t invest in Unit Trusts etc. etc. What I am saying is – do your own research first! Make sure that your investment vehicle is something you are comfortable with.

If the unit trust agent is saying, this Fund will earn 15% per annum on average, challenge her. Is this return guaranteed? What’s the risk involved? Why? Because even though FD’s suck, your principal and the 3.70% interest per annum is GUARANTEED by the bank.

Other investments may not be so safe, especially those promising high returns. Sure, you may get 40% returns per annum OR you might see all your capital being WIPED OUT!

Worst still are Ponzi Schemes (aka Skim Cepat Kaya)! They might promise you 1000% returns within one week and sure enough, your first RM100/= yields RM1,000/= back within a week. Next thing you know, you dump your whole live savings into the Skim Cepat Kaya and poof! There goes your money!

So, think carefully before you start venturing into the world of investing. You’ll definitely be taking some risks with your money once you move it out of your FDs. So what! Life’s a calculated risk – so you should set aside some money to invest in instruments with higher rates of return than FDs. However, there are always Black Swans lurking around, so ALWAYS keep some money in your fixed deposits.

Conclusion: Keep your eyes wide open and be careful who you trust your hard earned money to! You know what they say about fools & their money... :)

Fundamentals of Investing – Part II

Ah, I just love the irony of money.

The more you have, the more you’ll get and the less you’ll need.
The less you have, the more you’ll spend and the less you’ll get.

Sounds cryptic? Let’s compare the two persons in the diagram above:

Do you see the crucial difference between Haji Bakhil and Bumbling Bill?

Haji Bakhil (aka THRIFTINESS personified)
(a) Haji Bakhil has RM100K in the bank (he has a lot of $$$).
(b) He’ll get more money as the money in the bank will generate more income for him (RM120K @ 10% interest = RM12K per annum)
(c) As he’s so thrifty in the first place, he doesn’t spend much. So every month, he saves an additional RM6K.
(d) This is a virtuous cycle. The more he saves, the more income he will earn and the less he’ll need. Heck, he probably can retire very soon at the rate he’s going.
(e) He has a lot of money and is going to spend even less (because he can use his interest income to pay for his expense) and is going to need less money (because he doesn’t have any interest payment to pay).

Bumbling Bill (aka BIG SPENDER)
(a) Bumbling Bill spends Ringgit that he earns and barely saves RM100 per month
(b) However, he needs his *toys* such as that luxurious Toyota Camry he has been eyeing and also the luxurious Bungalow in Damansara Heights. He borrows to the hilt to buy these big-ticket items.
(c) Unfortunately for him, he’s going to spend more on interest payments to the bank.
(d) He has very little, but has spent more (on interest payment) and is going to get less (interest income on his money).

Conclusion:
1. Increase your cash inflow (if you can – earning side income or through wise investments).
2. Reduce your cash outflow (by spending on things that are of value and you really want).
3, Preserve your savings and wait for the stock market to CRASH! (It’s only a matter of when, not IF). Then you can swoop on all those goodies!

Fundamentals of Investing – Part I

They say there’s a fool born every minute. I’m a person that has some faith in humanity. Still, sad to say, there are so many cases of people been swindled out of their life savings, you tend to think … hmmm…

There’s no such thing as a free lunch!

Why harp on the above? Simply because it’s true! Just because you didn’t pay for the lunch, someone else must have done so. There’s always a catch somewhere. Think about it. If you had free nasi lemak (coconut rice delicacy in Malaysia) today … is it really free?

(a) Someone must have planted the rice, harvested and processed it;
(b) The coconut extract must have been grown and extracted;
(c) The ikan bilis and ground nuts must have come from somewhere;
(d) Someone must have spent time and effort to prepare the food and place it in front of you; and
(e) The work to clean up your leftovers and wash the plates.

So what am I trying to get at?
My point is that there’s no such thing as getting something from nothing.
Example: such as making a profit from the stock market without doing any work. Sure, it this may seem to be the case but trust me, it’s not.

What is the morale of this story?

If you want to make money from investing, be prepared to put in time, money and effort into it. No one is going to do this for you (for free!).

I’m sure some of you are thinking, hey I can always rely on the analysts, brokers or unit trusts to invest for you… Again, I’d like to remind you, these people have vested interests.

Why would they want to make money for you? They just want to use your money to make money for themselves. They use other people’s money (OPM) to make money for them. That’s called leverage in fancy business jargon.

Even if you forget all the other rules of investing – just remember: Before you decide to put your hard earned money into some hare-brained scheme promising 100% return on your investment in one month…

“THERE’S NO SUCH THING AS A FREE LUNCH!”