Friday, July 31, 2009

July 2009 Portfolio Summary and Review

July 2009 can be classified as an interesting month, as there was some news flow from the companies I owned and there were also two annual reports to read and digest, namely from Tat Hong and Boustead. It was also another month of reversion to the mean in terms of valuation metrics, as Price-Earning Ratios (PER) started to normalize across the board, causing sharp increases in the market prices of most blue chips as well as second-liner companies. If one does a study of the average (mean) PER of companies trading on the Singapore Stock Exchange, one would realize that the period from Oct 2008 to March 2009 represented one of extremely depressed valuations representing a huge doomsday scenario. During such periods of time, if one can suitably identify investment opportunities in stable and solid companies, then it would be the best time to invest as margin of safety would be maximized.

On the matter of valuation adjustments, news flow came in the form of sharply increased economic activity in Singapore, as well as improved earnings in the USA which outperformed expectations; resulting in a sharp and sudden rise in price levels for shares listed on NYSE and NASDAQ as people’s expectations started to re-align. While some people may argue strenuously that nothing much has changed fundamentally and that the economy is still in shambles, the issue of the “worst being over” and is “unlikely to recur” would imply that things can only get better from now on; and higher valuations and expectations are predicated upon optimism and an improved macro as well as micro (corporate-level) outlook. Though this may take several more quarters to fully manifest and materialize, nonetheless investors and speculators have already begun bidding up prices of securities. The careful and cautious investor should remain prudent in his choice of appropriate companies to invest in to ensure margin of safety is not compromised, and that he still has sufficient upside while protecting his downside.

There were no opportunities open for me to add to existing positions, and my time was severely constrained in the area of searching for companies to invest in; thus I made no purchases or sales for this month. I realize time is a very valuable commodity for a value investor, as he cannot possibly analyze ALL possible leads and prospects. By focusing his attention to analyzing just one company, he may inadvertently leave out many other potential ones along the way. But such is the nature of the individual retail investor with limited resources on hand, and who wishes to embark on a do-it-yourself approach to investing. For me, it challenges, motivates and energizes me to see myself getting a decent return on my investment as a result of my hard work.

A detailed Tat Hong AGM review will be prepared soon after my maiden visit to Tat Hong’s offices to attend their AGM. Many questions were posed to the Management and the replies were documented by me either on paper or memory in order to serve as a record of my attendance, and to properly record down what transpired. In addition, the CEO Mr. Roland Ng also kindly gave all shareholders an update on the business and current and future prospects. It was a good learning experience for me and I hope to continually apply Phil Fisher’s “scuttlebutt” approach to speak to Management and stakeholders as part of my investment philosophy.

Moving forward, August 2009 will be a month to look forward to as corporate earnings for 2Q 2009 will be released for Swiber and China Fishery, as well as 1Q 2010 earnings for Tat Hong and Boustead. It will be good to get an update on the corporate situation and developments and to see if there are signs that credit is more easily available and if the recession is showing tentative signs of easing.


For July 2009, corporate updates and result announcements for my companies are as follow:-

1) Ezra Holdings Limited – Ezra released their 3Q 2009 financials on July 8, 2009 and can be viewed on SGXNet, so I will not go into details. More importantly, Ezra released information and slides on their next lap growth strategy on July 16, 2009. I had already prepared a post previously which discussed this, therefore I will not comment further in my portfolio review.

2) Boustead Holdings Limited – Boustead’s Annual Report 2009 made for a good read, and was very detailed in terms of their operations review. I personally feel that FY 2010 will be much worse than FY 2009, as they do not have a one-off gain from disposal of property (from GBI) to boost their bottom line, but since they are a cash-rich company, I would still expect a reasonable dividend payout for FY 2010. The shares go ex-dividend on August 4, 2009 and the final dividend of 2.5 cents/share will be paid on August 20, 2009.

3) Swiber Holdings Limited – There was no significant news from Swiber for July 2009. My concern is that their current order book of contracts may be drying up as the end of FY 2009 approaches, and there is only a US$50 million CUEL contract which is recurring for 5 years. Without the clinching of any more significant contracts, their order book will likely shrink significantly and valuations will be downgraded. It is imperative for Management to come up with a well-defined growth plan on how to tackle the immediate future and to chart growth for the next 2-3 years. Capital was raised at 88 cents per share on June 8, 2009 but to date, there is still no news on how the proceeds will be utilized, and also no indication that the monies were used to grow the business. I await more confirmation and clarity from Management and for now, view this company as the highest risk among the companies I own due to the lack of a defined growth plan, slowing order book, high debt and lack of dividend policy.

4) Suntec REIT – Suntec REIT announced their 2Q 2009 results on July 30, 2009. A dividend per share of 2.977 Singapore cents was declared, and was an improvement over 2Q 2008. Occupancy rate stood at a high 98.4% and they have no immediate need for refinancing. As I own only a small proportion of Suntec in relation to my entire portfolio, I will not comment further on this. The presentation slides on SGXNet explain everything quite clearly for those who are interested in this REIT. My annualized yield based on purchase price of $1.11 is 10.73%.

5) China Fishery Group Limited – There was no significant news from the Company during July 2009.

6) First Ship Lease Trust – 2Q 2009 results were released on July 21, 2009 and FSLT stuck to their forecast of US 2.45 cents per unit, but moving forward they will retain up to 50% of their cash flows for voluntary repayment of debt and hence cut their DPU to just US 1.50 cents per unit from 3Q 2009. Suffice to say that this should have been done a long time ago as the high payout ratio of 100% was not sustainable! I remember making this clear to FSLT Management at their EGM some time back but was rejected by saying that FSLT wanted to maximize payment to unit-holders and thus did not wish to cut back on DPU. Now they do an about-turn and announce the cut-back; so my impression of Management has been dented by this and I feel that they lack focus for the long-term and were instead just trying to maximize cash distributions in the short-term. With the new adjusted payout ratio, there is now a better chance of the Trust being able to survive past 2012, and this is subject to them converting some of their debt to an amortizing loan instead of the current bullet repayment structure. Though I am disappointed with Management’s flip-flopping, I believe the current payout ratio makes the Trust more viable and since cash inflows are steady and expected to continue, I will not consider divesting my stake.

7) Tat Hong Holdings Limited – On July 28, 2009, Tat Hong announced the disposal of KTM Mining Engineering Pte Ltd for a consideration of S$1.099 million, as part of their efforts to streamline operations and dispose of non-core companies. As a result of this disposal, they will recognize a gain of S$863,786 which will be used for the Group’s working capital. The shares are still trading cum-dividend; the ex-dividend date is also August 4, 2009 and the dividend of 1.5 cents per share will be paid on August 18, 2009. Stay tuned for the detailed AGM write-up for Tat Hong.

Portfolio Comments – July 2009

July 2009’s portfolio value saw a sharp rise compared to June 2009, as valuations normalized for most of the companies I own. It has risen from a total gain of 11.3% to a total gain of 27.4% as sentiment improved drastically without a proper explanation. Dividend yields continue to remain healthy and higher than inflation rate.

Moving forward, I will be studying the financial statements of the companies I own in order to review if there are any problems cropping up, and to get a better idea of their long-term prospects. My reading up and study of the property market continues and so far my wealth-building journey has been somewhat successful, with my cash holdings building up nicely in anticipation for deployment into equities and my companies giving me a more than decent dividend yield which is higher than inflation.

My next portfolio review will be on Monday, August 31, 2009.

Friday, July 24, 2009

Ezra – Diversification into Deepwater Subsea Operations

Ezra had announced, on July 16, 2009, its next lap growth strategy which involves growing organically through the provision of deepwater subsea services to existing and new customers. This division will be headed by Mr. Paul McKim, a veteran with 36 years of experience in the oil and gas industry. This expansion plan is based on the asset profile which Ezra had committed to date, including the 2 new MFSV and a new heavy lift construction vessel coming on board by FY 2010. Detailed slides were provided to enable readers and shareholders to better understand the wider range of services being provided by this new division, which is an extension of their current Energy Services Division. This new growth strategy and thrust is supposed to take place over the next 5 years, and benefits are said to accrue from 2H FY 2010 onwards.

An analysis of the slides given (which are quite technical unless you are working on the ground in the oil and gas industry) as well as the press release suggest that this is a new strategic direction which Ezra is heading for; and is different from what the Company has previously used to grow from 2003 (time of listing) till the present. To recap, Ezra had been growing their vessel fleet aggressively from IPO till now, by using a mixture of share placements (equity), floating their subsidiary on Oslo Bors (EOC, now their 48.9%-owned associate company), debt (bank financing over the years) as well as sale-and-leaseback arrangements. These methods, for better or for worse, have enabled the Company to grow their revenue base tremendously, and core earnings have also correspondingly climbed over the years. Of late, however, this strategy has been crimped in part because of the global financial crisis, which has led to debt financing nearly drying up, as well as dehydrating the availability of easy funds from the stock market through institutional placements. Their strategy has also weighed heavily on their Balance Sheet as gearing has been consistently high and was expected to go over 1x if not for the cancellation of their 3 MFSV (2 with Karmsund and 1 with Keppel Singmarine). As a result, cracks have been spotted with Ezra’s old business growth model and it was time for Management to plan something alternative which would continue to spur growth.

The proposed new strategy takes into account trends in the subsea market, which is the “hottest” sub-segment within the oil and gas industry as proposed capex for this segment will increase as demand for new wells is expected to increase by 80% till 2012. Douglas Westwood has also forecast that global spending on subsea equipment, drilling and completion is expected to exceed US$80 billion over 2009-2013. In a sense, one can argue that Ezra had been positioning themselves for this new trend as they had placed orders for MFSV which are able to carry out a multitude of functions, which include well maintenance and de-commissioning, amongst others. The fact that their fleet is young and deepwater-enabled also stands them in good stead to grow organically, and their built-up track record for large multi-national clients such as ConocoPhilips and Shell also mean that they should have the support they require to embark on this ambitious growth frontier.

The important thing to note is that Ezra is not planning to achieve this growth through more leveraging; but instead will use its existing asset base to cater to a new market segment. Its committed capex of US$350 million remains the same, and includes the new vessels coming on board as well as to build up their Vietnam yards (HCMC and Vung Tau) and to setup a training centre. The key here is whether such services being offered can complement their existing services to achieve good synergy and thus lead to better margins; and right now that is still a question mark. From studying the Company’s current business model, offshore chartering offers the best margins and this is where the bulk of Ezra’s earnings come from. Fabrication and construction have gross margins of only about 13% and is an integral part of the entire value-added chain of services which the Group plans to provide; though growth from this particular segment (involving their Vietnam yards) would probably be steady due to the low margins and current capacity constraints (their Vung Tau yard is still not operational).

One could then safely conjecture that assuming Ezra is able to package its services in a value-added fashion to customers, they could become Asia’s first Company to offer a “one-stop shop” for oil and gas majors. This would not only boost their chances of clinching contracts, but would also imply that higher value contracts would be awarded as well. With increased economies of scale as a result of the merging and integration of Ezra’s three divisions, gross margins would also be improved and the Group would have better pricing power as opposed to its competitors who can only offer one specialized service. This is the main thrust of the announcement and the part which I feel Ezra’s Management Team is hoping to leverage on to grow the Company.

The full effects of this organic growth will only be felt from 2H FY 2010 onwards, and Management has given guidance for revenue (not profit) growth of 50-60% by 2015, which basically translates into average growth of 10% per annum for revenues. Assuming margins can be maintained or even improved upon, this would also translate into a conservative earnings growth of about 5-10% per annum. Most importantly, the fact that the Group has no need for further funding and financing would mean that they can start to generate more free cash flows, something which it has not been doing for the past few financial years as it embarked on its aggressive asset expansion exercise. The last dividend pay out was for 1H FY 2008 when it successfully listed EOC on Oslo Bors, paying a special dividend of 5 cents per share. Since then, due to cash flow constraints, the Group has not been paying any dividends. It is hoped that once their new operations kick in and begin to generate healthy operating cash flows for the Group, the dividends can also start to flow in from late FY 2010 through FY 2015.

Other aspects of the Group’s operations have been addressed in a DBS Vicker’s research report on Ezra dated July 17, 2009, of which I will pinpoint key issues and give my views on:-

1) Fleet Management Service Provision -> This is an opportunistic move, and if done properly by the Group could enhance current earnings and also enhance the total package offered to customers. The chartering of AHTS on a bareboat basis, however, are subject to the fluctuations in spot rates, and thus profitability is difficult to determine. If Ezra is able to charter these vessels, crew them and lock in a favourable long-term rate, then this would be an added boost; but I share the analyst’s view that this is more a possible bonus than an event which will crystallize with certainty.

2) Lewek Arunothai (Gas FPSO) -> The FPSO has already started gas exportation with PTTEP in June 2009 and billing should commence very soon, which means EOC would be able to recognize revenues starting from 4Q FY 2009. These revenues (and associated profits) will cascade down to Ezra Group through associates’ earnings and will add a small boost to the final FY 2009 numbers.

Another issue which was barely touched on but which has some importance is the second FPSO for Vietnam in which EOC is the front-runner. Due to EOC’s high gearing, it will be unlikely to secure debt financing to fund this massive project and so this will have to be put on hold at the moment.

The pre-emptive fund raising at S$1.185 hints that Ezra’s Management are on the lookout for opportunities to purchase either assets or companies on the cheap, and this placement was to boost their “war chest”. Currently, with limited info on the probable use of the funds (info may be proprietary and hence price-sensitive), we can only assume that the monies raised would be put to good and efficient use.

Ezra’s FY 2009 results will be due in mid-October 2009, so I am unlikely to do any further write-ups on the Company in the meantime unless more significant corporate news or events are announced.

Sunday, July 19, 2009

Passive Investing Versus Active Investing

As one grows older, one’s financial needs change and evolve. Many financial experts and planners have advocated different allocations for one’s funds according to one’s age bracket, and this post is to discuss the options available to one as one ages and nears retirement (assuming this word actually exists in Singapore !). My thoughts had centred on the concept of passive investing, as defined by Benjamin Graham as the “defensive” investor; versus active investing, or the “enterprising” investor. I shall elaborate on the two concepts below and discuss the salient points for each as well as deliberate on the pros and cons.

Passive investing involves methods such as purchasing into index funds or buying blue chips which are “guaranteed” to survive recessions, and in Singapore’s context some examples would be SingTel, DBS and UOB. There is a lot less thought and analysis to be put into such decisions and in effect you are just “buying the market”, or coming close to that effect. Passive investors do not have to take the time and effort to devote to careful analysis of individual companies, and they also do not need to bother about under or over-valuation as they simply need to pick an index fund which tracks the long-term returns offered by being vested in equities. The idea of “passivity” is further extended to not really needing to keep track of one’s portfolio as one should be reasonably certain of favourable long-term returns, assuming one has not committed oneself during periods of irrational exuberance. Perhaps there ought to be a disclaimer here: one can only be reasonably assured of a decent return on investment through the passive method if one purchases during a recession or sharp downturn (as we are in now), where general price levels and valuations are low. If one makes the mistake of buying into index funds during periods of irrational exuberance, then it may still take many years before one can break even on their investment; passive though this strategy may be. Therefore, it is critically important for a passive investor to have some rudimentary knowledge of economics and stock market dynamics; as well as some general feel of market psychology, in order to ascertain a proper and conservative entry point. Perhaps some indications can be derived from the sentiments of the general public, where the herd normally stampedes, one may find it wise to act in a contrarian fashion. Note though that this method does not necessarily work for the active investor, as I shall elaborate below.

Active investing, as the name implies, literally means one has to get low-down and dirty in dissecting the numbers and analysing the facts, in order to delve deeper into the investment merits of individual companies. It’s a lot of hard work involving blood, sweat and tears; and the problem is after all the effort, one may still not be able to beat the indices and trump the “passive” method of investing. Thus, many argue – why bother to do all the analysis yourself when one can just get a market rate of return from buying an index fund ? Several reasons are offered for this:-

1) One’s age profile and time constraints - Index investing is suitable for those without too many family or personal commitments and who have time to visit companies to attend AGM, and also to pore through thick and boring annual reports to spot little known facts. If one has a family with 3 kids, suffice to say it may be better to rely on passive investing.

2) Knowledge and Analytical Skill – Let’s face it, some basic accounting knowledge is required to analyze financial statements; as well as skill in interpreting the numbers and having a holistic view of a company. Some people may not be properly equipped with such skills to undertake a rigorous study of a company; so they let analysts do this job. Passive investing may be more suitable if one does not have the proper skills.

3) Psychological Strain – Passive investing removes the emotions from investing as you just buy into an index fund or several well-established blue chip companies. Active investing requires some monitoring of the stock market to ensure one has a decent margin of safety and does not over-pay, and one also has to monitor in case one’s company becomes too over-valued, such that one may be compelled to sell and switch into another under-valued company. Such stock market monitoring would inadvertently place psychological strain on the active investor, and even though Benjamin Graham’s advice is to ignore Mr. Market, part of us which is human would still be unable to be completely detached from his emotional mood swings.

4) Satisfied with Market Return – For investors who are content with achieving a market rate of return, then they should be contented with passive investing as it achieves just that. Someone did mention that for an active investor, the reason why he is into active investing in the first place is the belief that he can achieve returns which are better than market averages. Otherwise, why bother?

With the arguments for and against passive and active investing, the question now is to ask oneself which method suits your skills, knowledge and temperament more. There is definitely no right or wrong and one has to select the style which suits him best. But please note that this discussion is just confined to investment in equities; I have not included other forms of investment such as unit trusts, bonds and derivatives.

For myself, as an active investor, it’s not just a matter of getting better returns than the market which drives me (and I have yet to demonstrably achieve this, by the way), it’s also the passion for analysis and my interest in reading up on companies which spurs me on. Investing is a constant journey of learning and it never stops till the day you pass on, which is why it makes for such an intruiging journey filled with ups and downs. Since I took up the value investing mantle, I have learnt so much more about companies and have increased my knowledge many times over compared to when I first started out in 2004 as a “newbie”.

Wednesday, July 15, 2009

Personal Finance Part 13 - Differentiating Between Needs and Wants

So much has been said about personal finance in my previous write-ups and postings, but the key issue which I had mulling about is how we, as humans, classify our possessions and services which we use. Each person has his or her own unique perspective and upbringing and therefore no one person will view “needs” and “wants” in a similar manner. That said, in affluent Singapore, which is one of the richest and most prosperous countries in South-East Asia, the distinction between needs and wants is slowly but surely blurring. This post is to explore underlying beliefs of mine as to what constitutes needs and wants, and how we can build a comfortable nest egg to achieve our retirement financial goals.

In a basic Maslow’s Hierarchy of Needs chart, needs are made up of basic security needs and food and water (subsistence), which half the world does not really have adequate amounts of. In Singapore, we are much luckier than the average human being in that we have plentiful amounts of food, drink and shelter; thus we can theoretically move on to a “higher plant” on Maslow’s hierarchy, exploring issues of esteem and self-actualization. Now that we have got past the basic issues in life, we tend to yearn for something extra to improve our quality of life, and this translates into possessions which used to be “wants”, but gradually became recognized as “needs” as society progressed.

Some examples of “wants” which are not viewed as “needs” include a personal computer (PC), handphone, iPod, iPhone and television. Some may even throw in a car as a necessity, even though Singapore is arguably one of the smallest countries around (we are referred to somewhat condescendingly as a “tiny red dot”). The reason for the upgrade in perception is because these items (mainly gadgets I may add) have elevated our lifestyles to such comfort and convenience that we have become accustomed to it; and once human beings reach a level of comfort, they are unlikely to want to give it up and revert to a “simpler” and more basic way of living. This fact is probably the single most pervasive reason why people tend to upgrade their lifestyle and not downgrade (unless compelled to for financial reasons). Another reason is Asian’s issue of “face”, whereby one would perceived to be looked down upon if one had to downgrade or live a life more devoid of possessions than someone else.

So as materialism and “affluenza” take over our culture, people are becoming increasingly obsessed with material and physical possessions. When gadgets become a need rather than a want, this translates into needless spending just to “keep up with the Joneses”, and it is a never-ending self-destructive cycle of envy, comparison and jealousy. The news reports on the latest version of the iPhone 3GS attracting hordes of ardent fans, and such blatant advertising for a glitzy phone just serves to feed the frenzy further. Some teenagers resort to changing a new phone every 6 months just to “keep up with the trend”, and their parents continue to indulge them in such wanton acts of wastage. Where necessity gives way to fashion and chic, that is when one loses sight of what constitutes a need and a want. Marketers are increasingly being accused of predatory advertising, especially on young, innocent and gullible children. Flashy, stylish ads are designed to make you feel that the advertised item is a necessity in your life, and is marketed as “something you cannot do without”; in addition emotional advertising is utilized to full effect by appealing to consumers’ emotional response to a product or service, rather than focus on its features and functionality. These subliminal messages are insidious and slowly alter the sub-conscious of a large swath of youth, slowly transforming them into semi-mindless zombies, always wanting more.

Personally, I’ve always felt that we should pursue the simple pleasures in life without burdening ourselves with too many material possessions, otherwise we will start to feel empty as human beings are after all, group creatures. It is relationships and human warmth which fill the soul and makes one feel satisfied. Take the example of a father who showers his child with gifts and toys to make up for his lack of time spent with his child as he always has to work till very late. The toys and gifts are not enough to make up for the quality parent-child bond which money cannot buy. In fact, the example serves to reinforce that those things which money are unable to buy are the most valuable. Attributes such as love, care, concern, listening, attentiveness etc all contribute more to warm the human heart than all the material possessions.

In case the above paragraph sounds a little too clich├ęd, let me reiterate that I had once gone through the materialism phase as well when I was much younger. The fantasy with new toys fades just a few weeks (sometimes even a few days !) after playing with them, and I start yearning for yet another toy. The same can be said for the prevalent “retail therapy” syndrome which seems to infect Singapore – the purchases do not increase satisfaction and happiness to a lasting degree. As humans, we will always covet and want more, and this is a natural tendency; but to let it get out of control would turn a natural human instinct into a cardinal sin.

Therefore, my advice to readers would be to properly assess if an item or service is a “want” or a “need” based on your financial profile and retirement needs. No use buying a car just for convenience when you cannot afford the instalment payments and petrol costs. I invite readers to share their perceptions of “needs” and “wants”, and also how you judge if a big-ticket item falls into one category or the other? How often do you allow yourself to be pampered even if the item is a “want”?

Friday, July 10, 2009

Why do birds suddenly appear, every time there is fear ?

Those who are into music (oldies to be exact) may recognize the title as a spoof of a song sung by The Carpenters called “Close To You”. As I was humming this tune innocently, the twist in the lyrics just came to me and I could not help penning it down as a posting; just please forgive the corny change in the original lyric which still manages to somehow rhyme ! For those who are curious, the original lyric is “Why do birds suddenly appear, every time you are near”.

The title actually refers to my observation that stock markets in general tend to rebound sharply and suddenly after a prolonged period of fear, trepidation and uncertainty. After some thought and some additional reading from investment and market psychology books, I have come to realize that this effect is actually rooted in expectancy and anticipation. Both are contributory factors which determine the tenor of the market and whether there is irrational exuberance or misplaced fear. I shall touch on the former first, move on to the latter then attempt to gel the two together to make a coherent argument as to why the mixture of the two has such a dramatic impact on the stock market.

Expectancy refers to expectations of certain events and their likelihood of occurrence will determine the magnitude of the psychological reaction. A good example would be expectations of a 50% jump in profits for Company A, based on Company A’s track record of good growth and also prudent and steady Management. Expectations would be high for the Company to grow its profits by more than the long-term average of 10-20% due to external factors as well, such as a booming economy, favourable economic policies or strong interest in that industry. This is an example of expectations being pushed high as a result of a myriad of factors. The result is that if the Company reports a 30-35% increase in earnings, the result is a drastic sell-down in the Company’s shares as expectations were not met. This is also known as the “expectation gap”. The magnitude of a psychological reaction to an expectation gap depends on the strength of belief in the outcome, as well as the depth of difference between the perceived outcome and the actual result. The converse is also true for expectations of poor performance, but the reader should note that the resultant positive reaction is largely more muted than one composed of negative surprise. This is due to the previously mentioned over-reaction bias inherent in all humans, who tend to over-accentuate the negative and discount the positive.

For anticipation, this usually relates to market participants anticipating some positive news such as M&A deals, contract wins or other related corporate news which is unrelated to periodic results announcements (which are mandatory). Though one may argue that they are one and the same, anticipation from an unplanned event may actually have an even greater impact on market psychology than a positive expectation from an earnings surprise. This is in part due to the fact that earnings are a quarterly event and their timing can be reasonably ascertained; hence the only unknown is the magnitude of the drop or rise in earnings. Whereas in the case of corporate events or contract wins, though there is usually some anticipation built in, the news may still come as a complete surprise. This usually provokes a much bigger reaction as the unexpectedness of the news catches everyone by surprise and like lemmings, everyone rushes to jump on the bandwagon. The flip side of such anticipation is that without the associated newsflow to support such anticipation, the initial reaction will gradually fizzle out and cause a deflation in market sentiment and lead to a share price collapse. This is why I often state that one should purchase companies when expectations are low rather than high, because prices will be bidded down much more when expectations are low and there is greater margin of safety as long as you know and are confident that the underlying business remains sound. If one purchases based on high anticipation or high expectation, one can expect to be disappointed if things do not turn out as planned.

The mixture of expectation theory and anticipation of certain corporate events creates a heady and unpredictable mix of uncertainty which causes companies to be mis-priced. It is precisely these emotions which Mr. Market exhibits which result in companies trading at sometimes ridiculous valuations, and the job of the astute investor is to pounce on juicy opportunities when they present themselves, and to steadfastly ignore companies which have too much expectations priced in. A recent example is Midas Holdings, which has made a total of 4 contract win announcements over a period of 3 weeks. Impressive though this may seem, I suspect this news was largely priced in because analysts and investors had already been anticipating these events some time before their occurrence. Thus, the high valuations accorded to Midas by these analysts have already incorporated their bullish predictions; thus a margin of safety cannot be present with such inflated expectations. Don’t get me wrong though – I am in no way implying that the Company is a bad one, but there is always a price to pay for earnings and cash flows, and to me the risk-reward ratio does not seem favourable in the long run should one purchase at lofty valuations.

Benjamin Graham, widely recognized as the Father of value investing, says: “Today’s investor is so concerned with anticipating the future that he is already paying handsomely for it in advance. Thus, what he has projected with so much study and care may actually happen and still not bring him any profit. If it should fail to materialize to the degree expected he may in fact be faced with a serious temporary and perhaps even permanent loss”.

Sunday, July 05, 2009

Time In The Market, or Timing The Market

The topic above has probably been debated to death, and there are many studies and so-called research and material dug out from the historical annals of the stock market which can either support one theory or the other. In case readers may not understand the meaning of the title above, let me give a little background. Time in the market simply means “Buy and Hold” as it implies you are spending time staying vested in the stock market (i.e. the companies whose shares you purchased). Timing the market, on the other hand, is the practise of trying to enter and exit periodically and maximizing one’s gains through this method.

This post is more to compare and contrast the two methods rather than to pass judgement on which method is “right” or “wrong”. Of course, this is a value investment blog and I am a practitioner and advocate of value investment, which belongs to the “buy and hold” camp. Still, keeping an open mind is important and I recognize that this style may not be suitable for everyone as one’s investment style is intensely personal. Basically, as long as a particular style suits you, then whether it is time in the market or timing the markets, one should be able to profit consistently from it over the long-term.

Proponents of timing the market are of the opinion that as long as a long-term trend can be established, it is relatively safe and low-risk to enter the market and either ride it up or down. Others may also rely on charts, graphs and trendlines to determine support and resistance areas, and use these as price points for determining their entry and exit. I would assume that obviously if one thinks that they can time the market successfully, that they would be able to do so consistently and profitably. What one must always remember by using this method is that frequent trading will erode profits and magnify losses as frictional costs such as brokerage come in. Even if one were to trade, the trade should be infrequent and one should maximize the gains while cutting the losses short. This strategy requires, of course, much discipline and fortitude and is much easier said than done. The reasons why 95% of traders lose money is not due to the lack of a system of cutting loss or taking profit; in fact it is actually due to the inability to properly control their emotions of fear and greed. A trader who does not adhere strictly to this system will likely not be able to enjoy long-term success, so do not be fooled by the myriad advertisements in the newspaper claiming easy profits through trading “systems”. Trading is as intensely personal as investing, and each person should have their own style and risk tolerance level, as well as way of observing the stock market and reading charts. There is no one size fits all, and I will explain how this applies to investing as well.

Investing is more of an art than a science, which is what I concluded after being invested in the Singapore Stock Market for the last 5 years. Why do I say so ? This is because aside from the numbers, financials, tangible products and one’s concrete understanding of a business, there are still a lot of “grey” areas which make up a business and determine its attractiveness. Aspects such as corporate governance, quality and integrity of Management, goodwill, brand equity are impossible to quantify and measure; and risk factors such as those associated with S-Shares in the past few months are but some of the factors to consider when making an investment decision. I can almost consider myself lucky that none of the companies I own have seen anything dishonest associated with them (touch wood !), but continuing to remain vigilant is important and one must also ensure one does not harbour blind faith in the Company and ignore any warning signs.

Having said that, time in the market means one should control their emotions of greed and fear as well, similar to what traders have to go through. The problem with being vested throughout is that one must mentally tune out the noise and rubbish which filters through the news every day, in order to make sense of what’s important. The news is responsible for propagating half-truths, as the media tends to expound on certain news which is more prominent, while neglecting other aspects. This gives one a very skewed perspective of the “truth” and may make one either panic or get too greedy (depending on the nature of the news). Investing is not just emotional control, but consists of intense objective analysis of companies too, which is why it is not easy to get consistent returns.

I guess I may have veered a little off-topic, so let’s get back to the issue of time, versus timing. Timing is a fine strategy as long as one is emotionally disciplined, and has a very strict and rigid set of rules for cutting losses/taking profits. This also requires one to be in tune with the markets, economic news and the psychology of the market. Though I have yet to see someone I know personally consistently make money through timing, I have no doubt that there are such people out there (they simply choose to keep quiet about it). As for time in the market, this is a strategy which is more suited to my temperament and character; as well as utilizes my analytical abilities.

So dear reader, please use whichever method is more comfortable for you; but for this blog, I can only give advice on “time in the markets”, and not “timing the markets”.