My Second Bear Market

As I write this post* to chronicle my continuing investment journey, the STI has just entered bear market territory, having fallen >20% from its peak close of 3,279.70 back on Jan 6, 2011. The reasons are obvious by now – Greece on the verge of a default which would send the whole Eurozone into a tailspin, and massive debt loads held by countries such as Portugal, Spain and Ireland. The crux of the issue is that a default would trigger bank runs all through Greece, and lead to a systematic collapse of confidence in the banking system throughout Europe. Ripples of these will then spread across the globe and drag the whole world into yet another global financial crisis, possibly eclipsing the previous one in 2008-2009.

*This post was written on October 4, 2011. At the time of publishing, the STI has still managed to avoid a bear market scenario with 4 successive days of rises.

Essentially, I realized that the roots of each crisis are pretty similar. While the 2008-2009 GFC was caused by sub-prime mortgages going bad in the USA and a collapse in confidence in banking giants Bear Stearnes and Lehman Brothers, this time the cause of the crisis is also due to excessive debt; and it belongs to a country not just a company. Thus, the solution may not be as apparent as it seems, and there may be no easy solution to this crisis of confidence. Therefore, as investors, we should prepare for a long and possibly arduous journey undertaken by the powers that may be to restore confidence and avert total economic collapse.

In the meantime, I thought I would do a quick comparison between my status during the previous bear market, and the current one; and highlight the changes between now and then and how I have grown and matured as an investor. I will also be providing some convenient numbers and statistics to be used as comparisons.

1. Portfolio Size – From my historical records (which I have kept religiously to remind myself of the previous downturn and bear market), my portfolio cost was $126,000 as at Oct 31, 2008 (during the period when the market plunged sharply) and STI closed at 1,794.20. Before the sharp plunge occurred, I was steadily accumulating shares up till the months of July through September 2008 (my portfolio cost increased from $80,000 to $125,000). As of Oct 31, 2008, the market value of my portfolio was $64,000 for a nearly 50% loss.

Fast forward to today, my portfolio size has grown to a cost base of $242,000 (inclusive of my recent purchase of Boustead on October 4, 2011), which is almost double of what it was during the dark days of Oct 2008. In fact, doing a same-level comparison when STI was hovering around 2,500 level back during September 22, 2008, my portfolio cost then was just $109,000.

Another important difference was that I only had a realized gain “buffer” of $9,500 as at Oct 31, 2008, while my current realized gains buffer stands at $67,400, which is nearly 7x the quantum three years ago. This indicates that at least it would be a lot tougher to experience a net combined loss (i.e. unrealized loss offsetting realized gains) as compared to the situation three years back.

Another interesting “fact” – my portfolio first went into the red back on Sep 11, 2008 when STI hit 2,541.15. As at the time of this writing (Oct 4, 2011), STI is hovering at 2,531.02 and my portfolio is up by +2.1%, so apparently my current portfolio is only marginally better than my previous one in terms of share price performance (but this is just for academic interest, of course).

2. Knowledge Base (of companies and how markets work) – Compared to 2008, my knowledge base with respect to companies and how they work has improve dramatically. Though I have to admit that I still have a long way to go to understand the fine inner workings of the operations of companies within certain industries, nevertheless I feel that I had gain much more in-depth knowledge as compared to three years ago. In addition, after observing a full bull-bear cycle in the stock markets, I also have a better understanding on how markets work and the sentiments and psychology which drive it; and these are all key to forming a more informed judgement on when and how to invest. Suffice to say the last three years have been “educational” – there is no better teacher than experience itself, and the months of ruminating over companies, their fundamentals, inner workings and plans/prospects have certainly equipped me with more maturity and also endowed me with a richer understanding of being a part-owner.

3. Investment Mistakes – During the transition from the previous bear market to the current downturn, I had the fortune (or some may call it “misfortune”) to make numerous mistakes, all of which have been meticulously documented along the way. Scattered across the pages of my blog were the mistakes committed for Ezra, Swiber, China Fishery and Tat Hong, just to name a few. These mistakes have since made me a much wiser investor and taught me what to look out for when it comes to assessing a potential investment, and I am thus thankful that I have made these mistakes and not suffered debilitating losses as a result.

4. Keener understanding and better awareness of behavioural finance – A key aspect which was missing from my knowledge base during the last bear market were the important concepts relating to the field of behavioural finance. I now enter this downturn and bear market armed with greater knowledge of the psychological biases which most investors (including myself) are afflicted with, including but not limited to expectation theory, loss aversion, over-confidence, over-reaction bias, confirmation bias, endowment effect, anchoring bias and other little tricks of the mind which are continually experienced by our brains (and detailed in a very good book by Jason Zweig called “Your Money and Your Brain”). But note that being armed with the knowledge is only the first step, the second is to conquer your innermost demons and be able to stand stoic in the face of great fear and unreasonable panic. As mentioned by Benjamin Graham, it requires great fortitude and confidence for an investor to trust in his own objective research and to ignore the madness of crowds. Certainly, I hope that with this knowledge into biases which investors are prone to make, I can avoid more of the pitfalls and perils which bedevil investors in general.

5. Portfolio Composition – A quick comparison between my portfolio composition back in Oct 2008 and now reveals many glaring differences. Back then, I entered the bear market owning companies such as Ezra, Swiber and China Fishery, companies which had significant amounts of debt in their Balance Sheets and which did not generate FCF. Their capex requirements were also very high and this meant raising funds continually from either bonds/banks (debt) or the market (secondary offerings and/or dual listings). Currently, the companies in my portfolio consist of companies which have strong free-cash-flows and balance sheets with either low debt or no debt (with the exception of MTQ). The only company which is the same in both my portfolios then and now is Boustead (not counting Suntec REIT as it is a REIT). I guess you can say that in essence, I had almost completely switched out of my weaker portfolio into my current stronger one, and the cash flows and dividend history should be able to sustain me should this bear market turn out to be protracted.

6. HDB Mortgage Loan Quantum – This may seem like a minor point, but the balance of my HDB mortgage loan does also have a psychological impact on my psyche and affect my moods and behaviour as I sit through a bear market. As a comparison, I entered the Oct 2008 bear market with a balance mortgage loan of $135,000. As at the date of this posting, the outstanding loan amount has been reduced to $75,000, for a reduction of $60,000 principal over three years. This fact, coupled with the knowledge that my portfolio size has grown significantly over the years (along with the quantum of realized gain acting as a “cushion”), has made me more relaxed and less prone to behaving like a nervous wreck. I am still on target to clear off the loan in the next 5 years by the time I hit age 40.

I would say that this second bear market is indeed going to be even more insightful for me, as I will be able to further refine my value investing techniques and my understanding of companies. As to whether I will be able to weather the storm successfully, my answer will probably be the same as when I encountered my first bear market – I do not know for sure. But what I do know is that I will continue to stick to my core principles of sound investment and continue to manage my affairs and personal finances prudently and conservatively.