Trigger Limit Method: Long term outperformance

Markets have been in gyration since Syria used chemical weapons a few weeks back. After US & British citizens, alongside most of the G20 nations expressed their disinclination over a direct attack, the US has since revised its approach to a diplomatic one (this of course, after being strong armed Russian style by Vladimir Putin).

What this basically means is that going forward, news from the Syrian issue will be less likely to affect markets and that the next big issue being anticipated is the Fed meeting on Thursday (Singapore time).

At any rate, I had earlier posted that a solid investment plan would involve waiting patiently for Blackswans and then buying into the decline (you can see the post here). This Syrian issue would certainly classify as one.

On hindsight however, how many of us were able to pick up the stock at the recent bottom (STI: 3,120)? I was aware of the opportunity but personally did not pick up any stock as i had mistakenly speculated that the US would go ahead with their missile strike causing markets to fall further. 

How will we then capitalise on a blackswan, after spotting it? Even with a Blackswan, when exactly is the right time to buy into it? I went on to identify peaks and the subsequently troughs over the period FY10 to YTD 13. 

I've always had this idea that if we bought into the market every day that it was red, we would outperform the market in the long run. But what if, each of us had a trigger limit, where we buy into the market after it has fallen a certain percentage from the previous peak?

The above table shows the average purchase price and the degree of market outperformance at various trigger limits. 

It suggests the following:

Greater Trigger Limit (vis-a-vis Smaller Trigger Limit) 

• Fewer opportunities to buy into the market
• Greater market outperformance

Implication:

• Greater Buying Concentration - To compensate for the smaller number of opportunities we will have to buy more at each occasion.
• Lower Transaction Costs - From buying at a smaller frequencies.
• Opportunity Cost - During periods between buying opportunities, you will have to stock pile cash with possibly negligible returns.
• Capital Gains Over Dividend - Dividend will be foregone for greater capital gain. 

Conclusion:
I arbitrarily chose my trigger limit to be 9%, which translates on an averaged basis, to purchase stocks once every 5 months.

For everyone else, pick a trigger limit that suits your style and preference, stick to it and make money in the long run.

Can you put you trust in the 'long run'?

Let's examine the LT graph of the S&P500, one of the world's leading market indices.

Segment 1 - The Traditional Market

The period from 1950 - 1995 was a period of consistent upward growth, with little and smallish corrections. The largest correction was in 1987 with a 23% correction, not very big by today's standards. Internationalization had yet to set in and markets were probably quite insular. Consistent growth in the market was probably due to technological advance, improvement in efficiency, basically real growth.

This was a period where you could truly say 'In the long term, markets are on an uptrend'.

Segment 2 - Today's Market

Are today's markets truly the same? 

Add in usage of computers, financial derivatives, market interdependence and the following occurs:

• Trading volume has increased
• Volatility has increased
• Magnitude of movement has increased
• Market cycles have shortened (Avg 8 years)
• Largest correction 47%

Implication

Can we really afford to blindly trust in the long run?

If an investor had bought into the market at point B1/2 or towards it, he would have waited 5 years to merely break even. 

Have you ever bought at the upper end of the market (towards point B) only to see the value of your stocks fall, then find yourself saying 'It's okay to have paper losses, because I'm a long term investor'? 

Well in theory you aren't wrong, markets still have their up cycles and you could probably make your money back if you have a long enough investment horizon. But we're not putting money into the stock markets just to break even right?

Action Plan

While we can still maintain a long term approach, we need to adjust our investment strategy to today's market. Look at where the market is today (Point B3) and decide for yourself if this is a secular bull run like what some people think, or whether the market will correct.

For me, i'm just building my investment fund and waiting for the right time to apply the Big Bucks Method.

Markets are like a see-saw (Predicting bottoms and the Big Bucks method)

Just to start off with a little reflection..

I admit my last market bet went wrong. For the full disastrous speculation you can read it here.  But to surmise, I was overly optimistic thinking that the market will in the short run, shrug off the news about the interest rates hike and run up somemore. I also did not do enough research and was presumptuous about there being no major news being released for the quarter, specifically, i did not foresee Bernake making that horrendous speech.

Anyway, economic results released lately have fallen short of expectation and markets have ironically gone up with expectation that the QE will continue for a longer period. However, i'll wait and see if the recent rise is sustainable. I have my suspicious it won't unless there is a clear move above the strong resistance at 3235.

A few days back i started a conversation with a friend about the market which soon became us discussing what a long time investor is. The conversation quickly revealed that we had a different idea of 'long term', when it came down to:

(1) The investment style - how to exploit the long term

(2) The duration - How long really is long term

My friend basically likes the combination of high dividend, fundamentally sound stocks and averaging down. While i can't disagree that that's a solid plan, this is where our action planned differed.

Friend's long term plan

Believes in buying regularly to smoothen out the market and when it crashes buy slightly more than usual.

My long term plan

Wait for the bottom and buy aggressively with accumulated cash.

My opinion is that while it's true that we can't predict the bottom, we can definitely wait for a period near the bottom.

What then is this bottom? 

The bottom well.. in this context means The bottom. When the corrections are really major. And while you might wonder when this so called 'bottom' might come,  well, you can take a look at this chart i prepared:

7 Major corrections occurred over the last 27 years which translate to an average of 3.85 years. A little long yes, but each upside from the bottom ranges from 30% - 200% +.

Moreover, even if you entered at a false bottom, if you had exercised some wisdom and caution, there's a good chance the false bottom will be below the market average anyway which will deliver you returns greater than the market average. 

Isn't the chart just based on historic figures?

Yes, but you must admit that black swans do happen all the time and will happen in future. No one predicted 911, the extent of the SARS epidemic or the severity of easy credit which led to the housing bubble and subsequently the GFC. It's these black swans that give us the opportunity to make a killing. There are some investors, just a handful, that actually carry it out and make big bucks from opportunities like these.

What is the next black swan that could happen?
Well i don't know. It's precisely why it's a black swan, it could come from anywhere. But in terms of economic play, i guess the main theme right now and for a while more to go would be the playoff between QE and economic growth and perhaps for asian markets, the tightening of the money lending in the chinese economy. You can read more about that here.

If we can't predict the black swan how can we execute a plan?

Well, we can certainly be patient and try to keep a look out for the bottom by staying in tune with the market and at the same time accumulate cash to get ready for it.

If we look at the charts, entering the market at the bottom period, I'd say a month before and after the absolute bottom will put you in a position to reap healthy gains.

Which investment style is actually superior?

Well, it really depends on person to person. While i make smaller bets from time to time my larger investment strategy is tentatively the aforementioned one. (Buying at bottoms). Personally i feel my friend's strategy isn't wrong. His idea of buying now and then to average the lows and the highs will ultimately reap well.. a decent gain. The risk there is that what if for a multitude of reasons he ends up averaging up or averaging at the higher end of the market? This is very possible if you consider that markets can be on a general uptrend of a year what more years. Moreover, the more we 'average', the more we are likely to end up buying and selling which in effect becomes trading.

I also understand that my strategy of making that single huge buy on a 'low' might also go wrong. But understand that from that one big buy we can possibly make bigger bucks than constantly trying to outperform the market (averaging down).

So in the end, decide for yourself if you like to get small returns from small money or big bucks from big money.

Wealth from within

Today won't be my usual post with an investment centric theme. Rather I'd like to talk about wealth.

As i got off the bus and was walking home today, a cat meowed at me and followed me. I soon realised it was because of the pepperoni pizza in a plastic bag that i held. The cat tailed me uncomfortably close for a distance of about 15m, it made long purrs and i could sense its desire. It was almost saying 'I'm really hungry and desperate'. Desperate was really the word. Upon, closer scrutiny it was aged somewhere between a kitten and an adult cat, but the most noticeable thing was that it was visibly really skinny, so much so that it's body was long and thin, almost like a daschund dog. I was tired, hungry, with my mind still buzzing from work. In my mind i had a fleeting thought that the cat would attack me out of hunger so i quickly walked and at the same time thought this hungry cat was none of my concern. So eventually, the cat stopped and continued its purrs as our distance widened. 

Over dinner, there were some thoughts that came into my mind about the issue and it didn't make me feel that good. So i went back with a bun hoping to give the cat some food but it was gone.

The whole situation reminded me of the poor and destitute. And I just want to remind myself by logging this down that, one day in future, if i do become rich, and no matter if i'm busy, tired, i should never forget about the less fortunate, especially those around me and try to help them. Whether in the form of time, voluntary work, or monetary aid.

That is wealth from within. Not just numbers in the account, but real wealth.

3rd quarter investment strategy (Telco/Reit/Commodities/Market outlook)

Over the last couple of weeks, the market has been in decline wiping out its returns for the year. Frankly a technical correction has been due for about a month or so now, so no surprise that the market fell on talks about cutting back on the quantitative easing. 

I think most long term investors are questioning whether it is good to enter the market again. And here are my personal observations so far:

(1) The index is currently sitting on its 200 day moving average. This, along with the job figures recently released could spur another short term bull run. 

(2) 

While the fed's cutting back is an event fundamental in nature, the market has corrected to an extent which can only be considered technical. The next thing we should notice from the 5 year graph is that fundamental corrections such as those in 2009 to 2011 are large compared to technical corrections.

(3) I often find that markets usually react to news at 2 points in time, one in the expectation of how an event would impact the market, and second at the point of the event. Since the market has already corrected on speculation that the fed would cut down on its bond buying (1st event), we can probably expect more correction upon the actual cutting back (2nd event). At this point in time, economist seem to think that the second event could occur as early as September, to later in the year.

(4) Reits have demonstrated their sensitivity to interest rate change. If the mere expectation of a rise in interest rates could cause the recent 8% fall in average values then what would the actual rise of interest rates and its subsequent effect cause? 

(5) The Telcos sector with its high yields also seem to be like reits, affected by interest rate news and have fallen down greatly.

(5) Most commodity prices whether gold, palm oil, coal, or iron ore have fallen due to a supply glut. Commodity producers are trying to cut down on costs to squeeze out more value per unit of good sold. 

Analysis:

What product?

With the upside of reits limited and downside risks huge, it will be best to limit exposure to the sector. 

Commodities though attractive with a long term horizon (3 - 5 years) will probably trade sideways or slightly downwards further. A more appropriate time to buy it would be when the market is in the next consolidation phase. 

Economic outlook/News will be the basis of my investment strategy going forward and the best product for broad market exposure would be the the ETFs. 

Why?

News from the usual quarterly results will be firm specific while interest rates will remain the main theme over the medium term. ETFs will allow you to stay in the market without any significant exposure to weak/risky sectors.  

When?

Although the market is currently sitting on its support, the release of the recent US job data revealed that unemployment had risen slightly. This had allayed fears that the fed would cut back on its open market operations and boosted the US markets on Friday. STI should take cue from this and rise on Monday.

My take is that with the low likelihood of any major news being released at least till September and the long term market trend intact, the market will continue to trend upwards technically with an upside of about 10%.

As such, entering the market over the next 2 weeks by buying ETFs would be best strategy for 3rd quarter. 

Make 5 year plans for your retirement, S$100k min TNW at age 30 (within 5 years)

A month ago i decided to embark on a mini project with the goal of ultimately having sufficient cash flow when i retire. I threw around some ideas and figures in my head, and this is what i came up with so far.

1. Life expectancy

Just last week the Straits Times had mentioned that life expectancy was 80 for a male and 85 for a female. This meant that an average male at 60 in 2012, could expect to live for another 20 years. I like to have some buffer in my estimations and ended up with a life expectancy of 95. 

I also chose a retirement age of 65 because firstly, it gives more time to build up an adequate retirement fund and secondly, it is currently the upper end of the retirement age. According to the Retirement and Re-employment Act, the statutory minimum retirement age is 62 with employers required to offer re-employment on a contract basis up to age 65.

2. Income yearly at retirement

On top of having to pay the usual food and utilities, a retiree would also have to consider the higher medical costs. While modern medicine prolongs our lives, it fails to cure medical conditions such as diabetes, heart disease etc. Aside from these necessities, the ideal life would include having a car, a maid and the ability to go on holiday several times a year.

I thus arbitrarily picked having a yearly income of S$100k, which meant a target of S$3.0m at age 65.

3. A dollar today isn't the same as a dollar tomorrow

At the age of 25, a person would still have 40 years to go and assuming an inflation of 3% per year, he would need an even bigger sum of S$9.78m at 65! 

We also have to note that at the age of 65 we will still have to put a portion of the sum into investment and FDs to offset inflation and maintain a constant cashflow of equivalent value.

4. 5 Year Plan

Faced with having to build up such a sizeable sum, the next logical thing to do is to see how far your income can take you. As it gets hard to predict your salary many years down the road, i consider a 5 year projection feasible (like the old Soviet 5 year plans).

Let's assume a person called John has a salary of S$3k per month at 25. To be on the conservative side, i discounted the CPF contribution and deducted S$50 for tax purposes to get S$2.35k.

To continue, John works in the same firm from 25 - 30 and gets a 2 month bonus every year. He also gets a 3% annual increment, except at 27 and 29 where he gets promoted and gets an 8% increment instead. 

5. Savings/Expenditure/Investment

Once you project your salary you need set goals on how much you will spend, invest and save and most importantly be realistic about it.

John being in his 20s will most likely spend on food, entertainment, utilities and travelling. He also makes an occasional splurge to reward himself for hardwork. As he only makes S$2.35k after CPF, he spends 60% of his pay and tries his best to invest 30% and save the remaining 10%.

6. Investment return spread
You next need to target an achievable investment return over the next 5 years based on your own abilities and track record. I stress that it needs to be achievable so that in the event you outperform the yearly target, you will be encouraged to do even better the next year and ultimately make returns that exceed expectation over the 5 year period.

Once, you have a number in mind, whether its 5%, 15%, or better than Warren Buffet's 22% return, you next need to do an investment return spread which will clearly define your yearly goals.

While John has a degree in finance along withsome practical experience in investing, he feels that his investment skills can improve further and sets a modest target of 12%, just slightly above the annualised long term market return of about 10%. He also sets the spread range from 4% to 15% with the rationale as follows:

7. The 5 year plan

With the income projected and investment targets set, we will now have to combine them both together and add in 10% yearly savings to obtain Year end TNW figures that will serve as your financial guide over the next 5 years. Of course, we will also have to differentiate the TNW at each level of invest returns. The following shows the 5 year plan at each level of John's spread:

If John's expenditure ratio remains the same over the next 5 years, he will have obtained a minimum S$100k TNW at an annual investment return of 4% (Not including CPF).

While this may seem like a large sum to some, it may be like pocket change to others. However, the point here is not to duplicate John's plan but to create your own based on your own expectations and abilities.

8. The Grand Plan

Is a 5 year plan enough? Of course it's good to have a medium term target. But we do want to focus on the long term retirement target and as such, we will need to incorporate this 5 year plan into a bigger scheme - The Grand Plan.

As you can see John's grand plan to obtain the ultimate goal of S$9.79m at retirement is still not planned out fully yet. This doesn't mean that it should be left uncompleted. As John progresses in his investment journey, he will get new ideas, better estimates that will contribute to the model.

9. What's next?

While retirement may be a good 40 years away for some of us, a long term model, despite its inherent flaws, will force us to think and plan ahead for different periods of our lives. In the process of doing so, we will figure out what we want. It is really essentially a self discovery thing as you go through your dreams, put it down in paper and finally into numbers. This plan will sets a platform for you to achieve those targets and guide you along the way. It doesn't have to have the most precise numbers, but hey, at least you'll have a rough target that you know you put some good thought into and that you can work towards.

Geographic Impact on Peer Comparables

Geographic Impact on Peer Comparables

If we were to compare peers in the same industry across the globe, we would see a range of ratios (i.e. P/E etc). This does not necessarily mean that the a firm with a lower ratio in one country is of better value compared to a firm with a higher ratio in another country. 

One reason could be that most investors, especially retail investors, have a greater preference for investing in markets closer to where they are situated. For example, a middle class salaried man working in Singapore will more likely place his money in the Singapore exchange rather than say the NYSE. 

This is not surprising given the availability bias where the stocks have greater coverage with information easily coming across on a regular basis through the news, papers, or online articles.  Thus, with all the information on hand, the salaried man will naturally be more informed and deem himself more saavy on the local market, thereby making investment decisions from there. 

Illustration:

Genting Singapore P/E: 36.83x 

Wynn Macau Ltd P/E: 20.0x

Galaxy Entertainment Group P/E: 21.99x

If we consider that Genting Singapore (unlike its Macau peers) does not have the junket operation that mitigates casino losses and also that brings in clients, then why is this stock from a P/E point of view this stock so expensive? In my opinion, i guess it could be partially explained by this geographic bias where since Genting is pretty much the only gaming stock on the market, prices are supported by our local investors who want a gaming industry share in their portfolio but doesn't go about considering shares abroad.