The best is yet to be - My adventures at ACS Independent

 

It is good that investment trainers to do some pro-bono by visiting secondary schools and presenting to students. If you're lucky, some students will get the message and you'll get to shape some lives, but it is also good for the trainer because you get practice to see whether you ideas can find traction in young minds. It is always challenging when the audience did not pay for your time or may not have the inclination to listen to lecture.

So I was delighted when the Entrepreneurship society of ACS Independent invite me to speak to their students for an hour and spent the afternoon in their campus premises. This is actually he first time I'm presenting in school premises as my slides have only been deployed in RI over Zoom for the past 3 years.

The talk was fine, but I felt that the material, honed over two years at RI, could not fully resonate with ACSI audience but I was mostly able to maintain the attention of these teenagers when I spoke of my personal story - about how outsourcing work can lead to suicides in the workplace and the scholar-farmer divide in the government sector is alienating to those labelled farmers. But I think I won the crowd eventually when I spoke about how the effects of compounding wealth over the years is literally the reason why "the best is yet to be". 

Why do I know it works? Because I love triggering RI students about how compounding of wealth is embedded in their rival's school motto, and relying just on brains and not capital is a loser's game. 

[ In such situations, I see myself as a cross between Magneto and Professor Snape. ]

Anyway, I was actually disappointed that kids have moved on their personal interests. I tried sharing my own personal interests on one slide but no one perked up. I think that's fair, you can't really tell young people about Pink Floyd or David Bowie ( but my son loves Rick Astley ). I also suspect my slides, being keyed to League of Legends, may not actually be played by teens today.

Naturally, I broke the news of speaking in ACSI after the fact, then my FB was flooded by extremely negative people who claim that ACSI does not need any help in financial management and some already come from billionaire families. One joker even said that ACS is so wealthy that my audience were probably all paid body doubles. 

Maybe it's cool to demonize the wealth of ACS twenty years ago, but I find the kids in my class very ordinary. 

The most intelligent question I was asked yesterday was whether I felt it was fair for policy makers to give 2.5%/4% for CPF when invested returns far exceed that amount. I was not very inclined to catalyse the birth of the next Chee Soon Juan, so I told him that while returns are low, the risk or standard deviation is zero, so CPF is actually a very attractive savings instrument.  Furthermore, Singaporeans actually rushed to contribute to CPF during the pandemic so I am not inclined to disagree with current returns are puny.

Anyway, for the blog reader, what is the moral of the story ?

Harsh truth - ACSI has a very dedicated team of teachers who supported their CCA by inviting an investment trainer into campus.  RI even has a dedicated segment for students who aspire to be future investment bankers. In every case, when I worked with our elite schools, no one burdened me with humiliating checks over my course materials and attempts at censorship. 

Fact is people pay thousands of dollars to hear me speak.   

The saddest story is that I took so much pains to volunteer to teach personal finance in my own secondary school and so far I've not managed to gain any ground over this as communications get dropped and people just wander off to take on other projects.

So in the future if ACSI and RI groomed more billionaires or generates the greatest number of jobs for Singaporeans, don't be salty, ask yourselves how much red tape the neighbourhood schools are saddled with before demonize others for their prosperity.

Keep discretionary expenses to things that suit your personality

 

Nick Maggiulli's Just Keep Buying was highly recommended by friends and some readers of this blog and I enjoyed the book immensely. While the book does not change my approach towards personal finance, it had a great financial perspective. Imagine a mathematics textbook that had the same answers to every standard problem but had such a novel working that it's worth a read.

I'm going to share only point which is gold on selecting the right kind of expenses. Nick Maggiulli really got me when he said that he's not really satisfied with the idea that we should simply buy experiences instead of physical goods. Advice like this cannot possibly apply to the entire population and it is more likely to be biased towards extroverts and ignore the 30% of the population that are introverts who may prefer sleeping in bed than travelling to another country. So he proposes that we splurge on things that is consistent with our own personality makeup.

That's basically all there is from the book. 

But the quest for thought leadership cannot stop at just a raw reading of a non-fictional work. The book has a wonderful reference to a paper by Matz, Gladstone and Stillwell from the University of Cambridge entitled Money buys happiness when spending fits our personality.  

This paper is the true treasure from the book.

Researchers actually paid Amazon Mechanical Turk to imagine what kind of person would buy something, allowing a Big5 personality profile to be mapped to a consumer good. Then researchers found out that folks who buy goods mapped to their personality type had higher levels of personal satisfaction. 

I shall reproduce the mapping here : 

So basically, if you know your personality, you can use this table to guide you on what consumer products would give you the highest personal satisfaction. Buy enough to make yourself happy, then you can invest the rest. So extraverts should be happy attending a music concert with friends. Introverts are happy getting a bonsai plant. So unless the book you are giving is 50 Shades of Grey, expect your extroverted pal to keep it in his KIV list for decades, you might be better off signing him up with a club for swingers.

For me, my toys and hobbies come from my openness to new experiences and now I know that given that I'm not a very agreeable person, doing charity does not really hit the right spot for me, but I can contribute to society by making more videos and speaking to secondary schools since I am an extrovert. 

But try not to read too much into this table - it seems that neurotics should engage in gambling to be happy, and disagreeble assholes have an affinity with traffic fines. 

Maybe if you have two purchases of equal price and you want to make a comparison, buy something that is more consistent with your personality.

   

Thinking and lifestyle design using real options and annuities

This post came about because of MissFITFI's podcast with the owner of Saturday Kids. You can listen to the podcast here.

I want to focus on one important idea mentioned in the podcast which is the idea of placing little bets in life that have a small probability of success but can pay off in a large way. This idea can be broadened quite significantly on this blog.

Consider the term life insurance. This is basically a put option on your human capital. If you die, the insurance pays off a fraction of the loss of your human capital to your family. If you outlive the insurance, it expires worthless. 

There is a class of life strategies that exploit a myriad of real options that behave like term life insurance. Advanced education qualification is a call option on your human capital. If there is a strong market demand for people with such advanced degrees, you can enjoy a higher salary or a boost in your human capital. If your advanced degree is in something that society does not value, it can remain dormant or "out of the money" until there is a shift in industry trends. Options gain value when the underlying security goes up in value or even when the situation is very unpredictable or volatility is very high. 

If you are a fan of Nicholas Taleb's Antifragility, living an anti-fragile life is all about embedding real options in your life. 

Now we consider the opposite of term life insurance, the annuity. An annuity hedges against longevity risk. If you live too long, the annuity pays a monthly stipend every month until you die. 

If we consider term life insurance and annuity as a spectrum, then our lifestyle design based on real options is incomplete. While we need to make many tiny bets to get ahead in life, we need systems that pay out a predictable amount every regular time interval, at least to survive. The importance of having a steady job, some royalty payments, and dividends which are uncorrelated to market cycles are vital to survival in modern society. 

Lifestyle design is all about having both real options and regular cash flows to suit your personal needs. 

One way of approaching lifestyle design with this insight can be as follows:

a) You need to know your absolute base essential lifestyle and find ways to match this using earned and passive income. When doing this, you need to think like a landlord. Ideally, if you need to work harder to do this using passive income, do it as the payoff of getting time freedom is extremely high if you can meet this threshold.

b) Once basic needs are covered by earned or passive income, you can start to think about tiny bets that pay off in a big way. This way you can think like a VC. You can earn a qualification that will be valuable in the future, or put in some capital into a startup. In this example, it is better to do position sizing and make uncorrelated bets so that one big win would cover all your losses elsewhere.

c) Income-generating assets and real options should be interchangeable. Maybe some dividends are used to signup with a new Skillsfuture course or advanced degree. Once the advanced degree gets you a higher salary, you can farm extra proceeds into a bigger dividends portfolio. Balancing the two is an art and you can decide how to allocate your capital based on your own capabilities and personal situation.

Some readers will note that in a discussion that straddles between real options and cash flows, where do capital gains that are analogous to growth stocks stand in this spectrum? Stocks belong at the centre of this continuum. Some stocks pay a dividend and it has an option to grow if their valuation goes up. 

( For the absolutely pedantic, stocks are also a written put option, it can drop in value when the underlying business loses money )

Why you will fail at Value Investing - part 3

 

Having established that the company has a high business and management quality. The final step is to determine whether the price is cheap enough to justify a market entry. 

It is this process that I find the hardest to execute.

The author does initially seem to employ a simple metric to determine whether the entry is worthwhile. He starts with the earnings yield numbers which is 1 divided by the PE ratio of the company.

But it is the next step that resembles sorcery more than science. 

As tech companies invest in a lot of R&D, it is entirely possible that earnings after deduction for R&D will be low, so the analyst would have to moderate the earning yields. So the company may have an earnings yield of just 2%, but a smaller company in the same space may have less R&D and were able to conduct their business comfortably at an earnings yield of 10%, the earning yield, now relabelled as earnings power may be adjusted closer to 10% to reflect the market reality. 

The details do go a little deeper when you read the book, but I think it would be very hard for actual retail investors to be able to do this confidently without, once again, tricking themselves into falling in love with the company.  

The idea is that if you can find an earnings power of 5%, you can comfortably add the stock to your portfolio.

Ok, so I'm done with my review, how can we treat the book as a whole?

I'm actually not militantly against this latest version of value investing. While there is a subjective component in each step of the analysis, an investor who applies this consistently as a whole against one specific industry may be able to find some success using this framework. But the question for folks like me is whether superior returns when it does occur, come with higher volatility. Furthermore, can these superior strategies beat momentum-based trends following stock picks in an economic expansion which is where tech-stock picking is at its strongest?

Finally, I'd like to say that I won't review a book if I don't really see some value in it. But perhaps a better value investing toolbox can be a wider literature review of books in this space, which is exactly what you will find on my blog over the next few weeks.   

 

 

Why you will fail at Value Investing - part 2

 

If you think that Part 1 of this series makes Value Investing look impossible for retail investors, part 2 would be even worse, we will be looking at Management Quality in this installation.

Management Quality in this book is divided into two parts :

a) Does Management think and act like owners?

In this section, an investor needs to read management's minds. Somehow, you need to find out whether management acts for themselves or their shareholders. There are of course some hints at how to do so, one possibility is to see whether management owns the company shares and will benefit when the share price goes up. Another is to see whether there are any incentives to skew their behavior, like stock options. 

Notwithstanding, you need to be able to tell whether the manager is working for the shareholder or for himself, even though this may not be mutually exclusive. 

b) Do executives understand what drives business value?

This is even harder, as some retail investors may not understand what drives business value, but it is at this point where the book really starts paying for itself. The author likes company bosses this really sharp question, which is more important? (a)  growth in sales/profits or (b) return on capital ?

The correct answer is (b), because, with enough capital, you can generate any amounts of growth to your sales or profit. But high return on capital may evince a sustainable competitive advantage.

The best managers are, therefore, those which are most adept at managing capital. This means that speculative R&D projects with little pay-off need to be traded off for projects which can potentially bring value to the company.

Bringing this central idea to the local markets, I'm afraid that I am only aware of one local boss that meets the bill - Andy Luong of UMS, but this is after the fact. I have earned so much from his stock splits and generous dividend payouts, of course I have a great impression of him. I don't have clout to now enough bosses to know who else hits the bill. UMS is hardly a perfect value stock as it is bogged down by having just one major customer.

I also like Mohd Salleh of Second Chance but that's because of his candour and his public admission that, like me, he loves dividends, I would not say that I've made much from my Second Chance holdings.

[ All this being said, I noticed that Lim Chung Chun CEO of iFast seems to have the same psychological make-up as my business partners who I count as allies closer than friends. I also derive income from iFast these days. The question is whether is he an efficient capital allocator? Or I'm just biased because I make money from them? ] 

While it certainly sounds that management quality is a powerful determinant of investment success and may actually justify paying for active management skills, management itself can be subject to change. Some bosses grow old, fall sick, and make mistakes in secession planning, other's become obsolete and allocate capital as if things are 20 years ago. 

Worse, I've seen so many proponents of management quality generate such bad returns because it takes so much effort to understand management well, these analysts may become fixated with a stock due to the sheer effort put into analysis. If you see some "F" in their MBTI, I notice that emotions can hijack their portfolio decisions quite readily for folks who claim that they are great analysts. 

Companies are companies, you should be ready to move your capital out if your investment thesis is no longer valid. 

Companies are not your girlfriend, but MBTI folks with a "TJ" (folks who read this blog) would be happy to dump a girlfriend if a better person comes around. 

Is value investing a construct to create the illusion for "feelings" people to have credibility in the investing world?

God knows.

Letter to Batch 26 of the Early Retirement Masterclass

Dear Students of Batch 26,

It’s been a great honour and privilege to conduct a 5-Day Early Retirement Workshop for you.

Batch 26 is one of the luckiest batches to graduate from the ERM programme, just a tad less lucky compared to Batch 12, which managed to buy right at the market bottom of the pandemic crisis. Batch 12 bought the stocks in March 2020 and constructed a dividend portfolio that generated 7% per year. At the time of writing, they still managed an XIRR of 16% when the rest of ERM was plugging along with an XIRR of just 4%.

This can be considered the wrong time to invest for many people. The US had just completed two consecutive quarters of negative GDP growth. China is bogged down by the demon of its own design, otherwise known as the Zero COVID policy. Russia is still trying to invade Ukraine. The Fed has declared a crusade against inflation, leading to rising interest rates worldwide. And now, the Hungry Ghost month has just started.

But it is always the darkest before the dawn. ERM remains resolute that there is no better time to invest than now. The equity risk premium we track has been going up three batches in a row. A downturn worldwide has always been suitable for low beta, high dividend portfolios that our programme has been known for.

This is also the batch where a lot of calculated risk-taking took place, with Dasin Retail Trust being chosen after Group 3 did a detailed investigation on the odds of being able to enjoy the 16% current yield that it offers. The team was cognisant that the business could fail but was persuaded when they saw some recent purchases by Aqua Wealth holdings from the SGX announcements. Alumni should feel free to omit the purchase of this counter if they are uncomfortable with the risks involved.

Lastly, I hope that Batch 26 will participate actively in the FB group. Sometime in Q3 2022, we should be meeting up for an online community webinar.

Hope to see you then!

 

Christopher Ng Wai Chung

Why you will fail at Value Investing - part 1

 

Over the next few weeks, I will be reviewing the latest literature on Value Investing. I've decided to do a three-part series on this blog before I summarise it into something more useful on the Dr Wealth blog. The first book I will be reviewing is Where the Money Is by Adam Seesel and I see this as a valiant attempt to update the principles of value investing in the digital era. 

The biggest conclusion I get from reading this book is that most of us would likely fail at value investing. 

If you look at the training provided by my peers in the training industry, a lot of younger trainers claim to be some kind of acolyte of Waren Buffett, but even Warren Buffett has evolved over the years. He started as a disciple of Benjamin Graham and adopted a deep value philosophy based on liquidation value, combining it with board control. Then Buffett pivoted under the influence of Charlie Munger and began to buy companies with powerful mindshare on TV. The latest incarnation of value investing subjectively imputes earning yields of digital companies by peer review. 

If I adopt this alleged form of value investing,  then value investing is effectively meaningless.  It becomes ambulatory with the times - it can be anything you want it to be. So long as investment performance is good. 

Nevertheless, I think there is great value in doing a thorough literature review and seeing what scraps can actually be used in Singapore. 

There are three parts to doing value investing for the digital age, I will discuss business quality. 

In the author's view, business quality is high if (1) the company has a low market share in a market that is very large and growing rapidly. (2) The company has a sustainable competitive advantage.

The moment we look at this definition of business quality, we will see logistical difficulties in finding such businesses. It is tough to generate a screen for low market share in a growing market. A retail investor would literally have to read the newspaper and find a company by pure luck. And weekly periodicals in Singapore put a very neutral spin on articles featuring local companies. No journalist would deliberately put in the article numbers on market share and the rate of growth of the industry at large - you need to find the exact article by chance.

Also, what are the odds of a Singapore company being able to compete globally? In many of these cases, authors of value investing companies will invoke Peter Lynch - buy what you know or follow your wife around when she goes shopping. 

The idea of sustainable competitive advantage is slightly more useful because we can isolate a factor in screening. Companies with a high ROIC are generally seen to have large moats. Now let's see the highest 5-year average ROIC companies in SGX.

[ Note that most value investing acolytes prefer to subjectively evaluate the moat of a company. I hated that ever since someone else in an investment panel argues that Old Chang Kee had great investment moats when any Mak Cik from Batam can come over and start selling sardine epok at MRT exits. If you still prefer this form of subjective evaluation then you should revise Porter's 5 forces model and steer clear of eating too many curry puffs. ]

So as a budding value investor, you will start with this list of 10 companies, and you want to go through each of them one by one to see (1) what is their size relative to their target market (2) whether their market is in fact growing. 

As in all cases, it helps if you are a full-time investor. You may also want a Bloomberg terminal.

This is just round (1) Business quality.