Friday, January 16, 2009

Personal Finance Part 11 – Financial Advisors

While reading through Benjamin Graham’s seminal book on investing “The Intelligent Investor”, I was drawn to the chapter 10 on “The Investor and His Advisers” in which Graham discussed the value of financial advice given by various groups of interested parties. He names 1) a relative or friend (presumably knowledgeable in securities), 2) a local (commercial) banker, 3) A brokerage firm or investment banking house, 4) A financial service or periodical and 5) an investment counselor. Interestingly, he notes that most of these parties are either incapable of giving sound financial advice, or have a vested interest to encourage speculation (as defined in his book) rather than to promote sound investing principles. I shall go through his examples point by point, and also include a sixth category for “Internet Research and Advice”.

It is always good to remember, through these discussions, that ultimately the money invested by yourself belongs to yourself, and thus only you have a significant and emotional interest in growing your money. Others may give advice or tell you how to invest, but they can never know the pain of losing this money or the joy of growing it as they have no ownership of it (unless, of course, some part of your gains or losses directly accrues to them !).

1) A relative or friend – This is probably considered the “nadir” in terms of quality of financial advice. Notwithstanding the fact that your relative or friend could be the next Warren Buffett (an extremely unlikely proposition in any case), this kind of emotionally tinged advice is best ignored and only under very convincing circumstances should it be taken seriously; and then still to be supplemented with one’s own rigorous research as well. The problem with listening to relatives and friends’ advice is that familiarity often means the advice tends to degrade in value, as most friends tend to share hot “tips” and gossip rather than engage in long, boring discussions on valuations of companies (which are more akin to a business meeting – not a scenario likely found among friends or relatives). Friends or relatives may wish to appear helpful and concerned and thus try to “tip” one off on possible investment opportunities. Thus, it is likely that the quantity of recommendations will exceed the quality; an investor will do himself a favour by sifting through the pile and only researching and acting on those which hold more promise.

2) A commercial banker – In these present times, only bank clients with a high net worth of more than S$1 million (sometimes even S$2 million) will be offered a “Relationship Manager” (RM) to manage his or her investments. Commercial bankers these days have the role of RM or Financial Advisors in private banking departments to manage clients with large amounts of money. Thus, it is unlikely that the normal man on the street can receive such personalized advice. That said, the advice given by most commercial private bankers are also predicated upon the recommendations given to them via other departments, which have presumably a team of researchers doing ongoing fundamental analysis on companies worthy of investment. Hence, it is more like an advisor advising an advisor to advise the final client (a case of information passing through more than one channel, and hence probably losing much of its original vigor).

3) A brokerage firm of investment banking house – I think enough has been mentioned in my previous postings about the intentions and ultimate aim of brokerage firms, which churn out reports on a daily basis even when there is no coherent reason to do so ! To summarize, trading is encouraged by brokerage firms as it enhances their commissions, thus encouraging investors to “invest” is sort of shooting themselves in the foot. Hence, most recommendations put forth by such firms are of a short-term nature (e.g. one-year price targets), while others are of a technical nature (prediction of market direction) to encourage frequent trading. Suffice to say such “interested” advice is destructive to the wealth-accumulation efforts of investors, as frictional costs often leave them much poorer.

4) Financial Service or Periodical – This involves many subscriptions to so-called market timing and forecasting publications which aim to keep investors “updated” on the latest events and to forecast market movements in the next week, month or year. A lot of these magazines and publications churn out predictions which are not compared to actual results and basically, anything goes. Investors who believe such predictions are more likely to buy high, sell low as most of these publications advocate doing trading, market timing and adopting cutting losses (I’ve read some of them). And, on a side note, they are no more accurate in forecasting the future than the ordinary man on the street OR the experts.

5) An investment Counselor – I guess this would mean a financial planner, as they are called these days. The role of financial planners has been extended past pure insurance these days to also include the selling of investment products such as ILP (investment-linked policies), endowment plans and unit trusts (mutual funds). Most of them are not professionally trained to give specific advice on investment, but just to give a summary of the investment products available, and how to tailor them to a client’s retirement plans. Thus, most investment “counselors” these days do not give much counsel on what to invest in, but just supply general advice on investments and insurance.

6) Internet Research and “Recommendations” – This is somewhat akin to periodicals as they often try to forecast market trends and short-term market direction. Some websites do give pertinent investment advice but this is often simple common advice which applies to most people and is not specifically tailored to one’s age or risk profile. Some blogs and forums do offer research on specific companies but as usual, one should not trust such sites implicitly without doing one’s research.

As can be seen, the six methods above are not cure-alls for investing and earning a decent return. Graham says that most investors are better off not researching and purchasing individual securities, but instead purchase an index fund which benchmarks market returns with a very low expense ratio.

I invite readers to share their experiences in the comments box if they had used any of the 6 methods described above as a basis for investment advice or for purchasing individual securities.


Ricky said...

My experience during the bull phase of 2007:

1) Make money
2) Not enough money
3) Depends on the house
4) Not subscribed
5) Lose money
6) Lose money

My experience during the bear phase of 2008:

1) Lose money
2) Still not enough money
3) Lose money
4) Lose money
5) Lose money
6) Lose money

Generally, in both 2007 and 2008, i lost money.

musicwhiz said...

Hi Ricky,

Oh, sorry to hear you lost money on 1, 3 thru 6. Perhaps the best advice would be to rely on oneself to invest rather than these other sources which purport to know more than the average person about divining the future.

All the best in your investments !


Ricky said...

Thanks MW, although i still lose money relying on my own judgement so far. This year seems like a bad year too, especially for our local economy. Just have to slowly nibble bit by bit.

Mr ICICI said...

any views on fslt cutting their dividend payout ratio? do u think this company's management did the right thing too by cutting dividends in the future and being 'conservative'? (like ezra being in 'conservative' mode, of all times they must choose to save cash now even though their gearing ratio is falling and asset prices r dropping...)

my first reaction was 'share price dividend is cut and not even certain...' what a double whammy....

frankly, im pretty disappointed with fslt mgt. i feel a tinge of betrayal, not sure abt others. i think they did everything wrong. if things r done better, the dividend policy wouldn't need to be changed. no doubt they r nice ppl, but just not competent enough...

anyone knows if this dividend payout ratio is up for shareholder voting? and they say they r keeping cash for acquisition. is this also passed up for approval via the board resolution? to make sure that the cash r indeed used for acquisition and not for other funny businesses or matters?


musicwhiz said...

Hi Ricky,

All the best to you ! I am saving up cash for now in order to find opportunities to deploy.

Take care,

musicwhiz said...


I personally feel Management was over-aggressive initially and under-estimated the extent of the global downturn, so now they are paying for this in the hardest way possible by having to lower their DPU and to swallow humble pie. When shareholders suggested at the EGM that they reduce the payout ratio instead of using DRIP, they rejected the idea at the time as they wanted to maintain 100% payout. Now they do an about-turn and decide to pay out 70-80% to retain cash ! I feel Management's flip-flop does not reflect well on them at all and unit-holders will suffer as a result.

While the Management cannot be blamed for the credit crisis per se, I think they should have started out more conservatively in the first place and amortized their loan like PST instead of paying out 100%. Looking back now, I realize aggressiveness will lead one to trouble once the tide turns. During good times, their strategy may have won them accolades, but in the current situation, it causes more harm than good.

As to the long-term survival of the Trust, I have my lingering doubts. They are in danger of breach of covenants, any one of their clients may yet go bankrupt, and they may not retain enough cash for paying down debt. Let's not even talk about future acquisitions because this is so remote we may as well forget it. It's more like survival mode now, and shareholders get dragged through the mud as well.

A mistake yes, a costly one yes, but a mistake we should all learn from.


Back2Nature said...

If there is a cure, then there won't be beggars :) because a cure meaning there is thing call 早知道.

Musicwhiz said...

Hi Back2Nature,

Well if people would put in more effort into educating themselves on personal finance then I feel there would be a lot less beggars on the streets!