Patience Is A Virtue

The following article from Business Times is an excellent report and I shared the same view. When you walk around city area or onboard a train, you will see adverts saying something like stock prices are low, hidden opportunity, this and that has strong fundamentals etc. I always laugh at it. It was all crap to me but I don’t blame the fund managers. This is because if people stop buying the funds and pull out their money, then the fund managers and analysts will be out of job soon.

The following is a good article especially to those with the idea of rushing into the market to buy while it is cheap. As always, how do you define “cheap”? Remember; always to take cue from global/local economy for your investment decision. The economic indicators are the leading indicators.

===================================

Business Times - 02 Oct 2008

Time to buy? No - patience is a virtue

By R SIVANITHY

WHENEVER stock markets behave as they are now, it's tempting to ask whether it's time to 'bargain hunt'. Indeed, as each passing day brings a new low - be it 24, 25 or 26 months for the Straits Times Index - the temptation to buy probably grows stronger, aided no doubt by a steady stream of 'buy' calls from brokers, all and sundry.

So will it soon be time to buy? Maybe it will? And perhaps for the Straits Times Index, the fact that the 2,300 level has held twice in the past fortnight suggests this may be where there is strong support?

Our take, though, is that there is no need to rush and that patience is a virtue. Brokers and independent researchers have consistently under-estimated risks to the downside for the past year, so their 'buy' calls should be taken not with a pinch of salt but a bucket.

Analyst credibility aside, a major reason for saying this is that despite America's woes, and despite it triggering the biggest financial meltdown ever, US stocks have not capitulated yet. Even after Monday's 7 per cent collapse, the Dow Jones Industrial Average was down only 22 per cent this year and the S&P 500 down 25 per cent - much less than the 35-50 per cent falls suffered by other markets.

From its all-time high, the Dow's loss to 10,365 was 27 per cent and the S&P's loss 28 per cent - over almost a year, compared with the 20 per cent crash in one day on 'Black Monday' Oct 19, 1987.

Seen in this light, the current losses on Wall Street could justifiably be taken to be part and parcel of a normal bear market and not really that much cause for concern.

Why has Wall Street not fallen as much as other markets? One possibility is the huge amount of liquidity the US Federal Reserve has pumped into the system. But more likely, it's the still-lingering hope of a government-led bailout, despite the initial proposal being rejected.

If a modified proposal is cobbled together before the end of this week and if this is again rejected, the full-scale removal of a 'bailout premium' will see US stocks start to reflect their true fundamental values.

Furthermore, it is debatable whether any US Treasury-led bailout would have any effect at all. Recall that on Monday, markets went into a tailspin many hours before the US Congress voted on the plan. So, even if a second plan is pushed through and even if this does push stocks up, it can only be a matter of time before reality sets in with regard to the US market and its fundamentals. And once this happens, investors might just cotton on to the fact that US stocks are grossly over-valued.

Bloomberg's analytic service gives the S&P 500 as trading at a historic earnings per share consensus analyst estimate of US$51 and a forecast figure of US$83. With banks disappearing, unemployment rising, consumer spending shrinking, no growth to look forward to, no bottom yet in housing and a possibly vicious recession just around the corner, how likely is it that US corporations will report such a big jump in earnings?

As for the local market, Citi Investment Research warned last week that it is possible for the STI to fall to 1,800 - a warning many investors reckon is too pessimistic. But if the index were to drop to 1,800, that would only take it to a four-year low which, given the huge risks to growth posed by America's problems and the unpre-cedented nature of the present bank failures, is arguably within reason.

The upshot of all this is that risks are still tremendously high and that Wall Street is still heavily exposed to the downside.

Investors should also realise that even if the STI's bottom does lie at 2,300, this does not automatically mean the start of a new bull market - stocks can drift for years within narrow bands before embarking on any uptrend. As such, it is clearly not time to buy yet.

Seven Traits Of Great Investors

My all time favourite analyst, BT senior correspondence, CFA Charterholder Ms Teh Hooi Ling wrote another good article analysing traits of investment gurus. The article is so good that I ready have to paste it wholesale on my blog to share with you. In her article, Ms Teh listed down seven traits of greater investors which I share the same opinion. I had either previously in my article or through discussion with friends, highlighted about the same thing. For those who know me or had followed my blog should know what I mean. Quickly, I’ll summarise these seven traits and input my remarks.

1) Overcome greed and fear. I learned this from Warren Buffett and have emphasised over and over again in my blog.

2) Passion for investment. I often have friends/colleagues asking me why I am not tired of reading and analyzing stock (almost) everyday. Why I never breakdown? My answer is simply – by asking back “why didn’t you breakdown when you watch World Cup every midnight and then reporting to work in the morning?”

3) We must learn from our mistakes and make sure that we do not make the same mistake again. I didn’t emphasise this but I thought that is rather commonsense!

4) Commonsense is the least common human attribute. I pick up this quote from my ACCA lecturer Mr. Fred Keer, a very knowledgeable lecturer. And I use it many times in my blog. Let me illustrate how I use commonsense. A few years ago, there was a hot stock dealing with mobile phone repair. The company kept reporting profit growth and the share price kept moving up. I posted questions to my coursemate – “how come that company can continue to report profit growth when its trade (mobile phone repair) is simple and can be easily duplicated or has no barriers to entry? How come it can earn lucrative margin when it is purely an outsource company? Why didn’t its major client (Nokia) squeeze its margin?” My questions were basically a result of commonsense. What happen to the company later? I leave it to you to find out (or you can write to me for answer).

5) Believe in your study, analysis and philosophy. Do not compromise your principle. Do not follow the crowd. They always make mistake.

6) Good in math will not make you a successful investor. In every book written on Warren Buffet, you will find large portion on qualitative analysis.

7) And the most important one, which has always been a topic of discussion – can Warren Buffet be duplicated? I discussed it with my CFA coursemates before and we concluded that it couldn’t be duplicated. You can learn everything about ratio analysis, options, Black-scholes model, forward and futures etc. But there is one thing that you cannot learn – GUT FEEL.

Enjoy the article.

=========================================
Business Times - 17 Nov 2007

Reading this won't make you great

Mark Sellers, founder of a Chicago-based hedge fund, argues that the best investors are born with particular psychological traits that others can never learn

By TEH HOOI LING
SENIOR CORRESPONDENT

WHAT makes someone a great investor? It's something you have to be born with, said Mark Sellers, founder and managing member of Sellers Capital LLC, a long/short equity hedge fund based in Chicago.

Apparently, it's not about your IQ, the education you've had, the books you've read, or the experience you've accumulated. 'If it's experience, then all the great money managers would have their best years in their 60s and 70s and 80s, and we know that's not true,' he said in a speech to a class of Harvard MBA students.

Intelligence and learning are obviously necessary too, and are sources of competitive advantage for an investor, but there are structural assets some possess that cannot be copied or learnt by others. 'They have to do with psychology and psychology is hard wired into your brain. It's part of you. You can't do much to change it even if you read a lot of books on the subject,' said Mr Sellers.

He said that there are seven traits great investors share that are true sources of advantage because they cannot be learned. You are either born with them or you aren't.

The seven traits are:

One, the ability to buy stocks while others are panicking, and the ability to sell at a time when other investors are euphoric. 'Everyone thinks they can do this, but then when October 19, 1987, comes around and the market is crashing all around you, almost no one has the stomach to buy,' Mr Sellers said.

'When the year 1999 comes around and the market is going up almost every day, you can't bring yourself to sell, because if you do, you may fall behind your peers.

'The vast majority of the people who manage money have MBAs and high IQs and have read a lot of books. By late 1999, all these people knew with great certainty that stocks were overvalued, and yet they couldn't bring themselves to take money off the table because of the 'institutional imperative', as Buffett calls it.'

Two, the great investor has to be obsessive about playing the game and wanting to win. 'These people don't just enjoy investing; they live it. They wake up in the morning and the first thing they think about, while they're still half asleep, is a stock they have been researching, or one of the stocks they are thinking about selling, or what the greatest risk to their portfolio is and how they're going to neutralise that risk.

'They often have a hard time with personal relationships because, though they may truly enjoy other people, they don't always give them much time. Their head is always in the clouds, dreaming about stocks. Unfortunately, you can't learn to be obsessive about something. You either are, or you aren't. And if you aren't, you can't be the next Bruce Berkowitz.'

(Berkowitz was a managing director of Smith Barney and set up his fund Fairholme Capital Management in 1999. Since inception, Fairholme Fund has returned 18.7 per cent annually on average.)

The third trait of a great investor is the willingness to learn from past mistakes. 'The thing that is so hard for people and what sets some investors apart is an intense desire to learn from their own mistakes so they can avoid repeating them. Most people would much rather just move on and ignore the dumb things they've done in the past.

'I believe the term for this is 'repression'. But if you ignore mistakes without fully analysing them, you will undoubtedly make a similar mistake later in your career. And in fact, even if you do analyse them it's tough to avoid repeating the same mistakes.'

A fourth trait is an inherent sense of risk based on common sense. 'Most people know the story of Long Term Capital Management, where a team of 60 or 70 PhDs with sophisticated risk models failed to realise what, in retrospect, seemed obvious: they were dramatically overleveraged. They never stepped back and said to themselves, 'Hey, even though the computer says this is OK, does it really make sense in real life?'

'The ability to do this is not as prevalent among human beings as you might think. I believe the greatest risk control is common sense, but people fall into the habit of sleeping well at night because the computer says they should. They ignore common sense, a mistake I see repeated over and over in the investment world.'

Five, great investors have confidence in their own convictions and stick with them, even when facing criticism. 'Buffett never get into the dotcom mania, though he was being criticised publicly for ignoring technology stocks. He stuck to his guns when everyone else was abandoning the value investing ship and Barron's was publishing a picture of him on the cover with the headline 'What's Wrong, Warren?'. Of course, it worked out brilliantly for him and made Barron's look like a perfect contrary indicator.'

Mr Sellers said that he is amazed at how little conviction most investors have in the stocks they buy. 'Instead of putting 20 per cent of their portfolio into a stock, as the Kelly Formula might say to do, they'll put 2 per cent into it. Mathematically, using the Kelly Formula, it can be shown that a 2 per cent position is the equivalent of betting on a stock which has only a 51 per cent chance of going up, and a 49 per cent chance of going down. Why would you waste your time even making that bet?'

The Kelly Formula arose from the work of John Kelly at AT&T's Bell Labs in 1956. His original formulas dealt with the signal noise of long-distance telephone transmission. It was then adapted to calculate the optimal amount to bet on something in order to maximise the growth of one's money over the long term.

Six, it is important to have both sides of your brain working, not just the left side - the side that's good at maths and organisation. 'In business school, I met a lot of people who were incredibly smart. But those who were majoring in finance couldn't write worth a damn and had a hard time coming up with inventive ways to look at a problem,' said Mr Sellers.

'I was a little shocked at this. I later learned that some really smart people have only one side of their brains working, and that is enough to do very well in the world but not enough to be an entrepreneurial investor who thinks differently from the masses.

'On the other hand, if the right side of your brain is dominant, you probably loathe math and therefore you don't often find these people in the world of finance to begin with.'

So finance people tend to be very left-brain oriented - and Mr Sellers said that that is a problem. A great investor needs to have both sides turned on, he said. 'As an investor, you need to perform calculations and have a logical investment thesis. This is your left brain working. But you also need to be able to do things such as judging a management team from subtle cues they give off.

'You need to be able to step back and take a big picture view of certain situations rather than analysing them to death. You need to have a sense of humour and humility and common sense. And most important, I believe you need to be a good writer.'

He cited Warren Buffett as one of the best writers ever in the business world. 'It's not a coincidence that he's also one of the best investors of all time. If you can't write clearly, it is my opinion that you don't think very clearly,' Mr Sellers said.

And finally the most important, and rarest, trait of all: the ability to live through volatility without changing your investment thought process.

This, said Mr Sellers, is almost impossible for most people to do; when the chips are down they have a terrible time not selling their stocks at a loss. They have a really hard time getting themselves to average down or to put any money into stocks at all when the market is going down.

'People don't like short-term pain even if it would result in better long-term results, he said. Very few investors can handle the volatility required for high portfolio returns. They equate short-term volatility with risk.

'This is irrational; risk means that if you are wrong about a bet you make, you lose money. A swing up or down over a relatively short time period is not a loss and therefore not risk, unless you are prone to panicking at the bottom and locking in the loss.

'But most people just can't see it that way; their brains won't let them. Their panic instinct steps in and shuts down the normal brain function.'

Mr. Market

Who is Mr. Market?

Who is Mr. Market? I guess you have seen me using this term (with title cap) frequently in my articles. I wasn’t the creator of this term; neither is Warren Buffet but his teacher Professor Benjamin Graham. Benjamin Graham was also known as the “Father of Security Analysis” and he created a legend – an investment legend that is the second richest man on earth and a philanthropist. In 1934, Graham and David Dodd together wrote a book titled “Security Analysis” that introduced a whole new way of investment approach. In Security Analysis, he proposed a clear definition of investment that was distinguished from speculation. It read, "An investment operation is one which, upon thorough analysis, promises safety of principal and a satisfactory return. Operations not meeting these requirements are speculative."

Graham described the whole market as a single entity known as Mr. Market. According to him, Mr. Market has emotional problem. When Mr. Market is in the mood, he will name a very high price for fear that you may snap up his interest and rob him of his gain. When he is depressed, he will quote an extremely low price for fear that you might unload your interest to him.

And as a follower of Warren Buffet, I also adopted the idea of managing “Mr. Market” so as to invest successfully. And it makes all sense by treating the whole market as a single entity. Whenever people ask me about how to beat numerous stocks experts, I told them not to look at it in terms of the number of investors, but as one single entity. It is almost impossible for you to beat millions of investors and experts but when you look at it as a single entity, it’s easier.

After investing for many years, I decided to describe this entity as “Ms Market” instead.

About Ms Market

Ms Market is a beautiful lady who is available and always available. Ms Market is highly attractive to many men, and women too. Just like any other woman, Ms Market is sentimental, emotional and temperamental. Guys would know that when your girl is not in the mood, she would be unreasonable and irrational. Similarly, when Ms Market is not in the mood, she will depress the price no matter what. When she is in the mood, she will push the price up so that you have no chance to compete with her.

So how most investors behave? Some experts try to forecast Ms. Market’s mood by doing some trend analysis. And then they come up with moving average, candlestick etc. Sometime they predicted correctly and make big money out of it. Other times they were wrong and Ms Market wipes them out. Nobody can be bigger and richer than Ms Market. Another group simply follow Ms Market’s mood. When Ms Market pressed down prices, they sold it to Ms Market at even lower price and vice versa. This is the worst and hopeless lot and most of them won’t make it. The remaining group will totally disregard Ms Market’s mood and make independent decision. The value investors are this remaining lot.

How is Ms Market Lately?

How is Ms Market lately? The obvious answer is that she is emotionally unstable. Nowadays it is more difficult to predict her mood than before. One of my friend’s colleagues wanted to know my opinion on the stock market as a whole, i.e. the mood of Ms Market. I refused to provide any opinion. Then they kept asking and wanted just two words from me. Finally I gave in and gave them my two words, “don’t know”. Basically I really don’t know and I don’t need to know.

Should We Hold An Investment For Very Long-term?

If you have been reading books or articles on Warren Buffet’s investment horizon, it will definitely tell you of investing in a company perpetually. I had friends who asked me if we should really invest for “as long as possible” and disregard the business cycle. Following Warren Buffet’s investment approach the answer is definitely yes. But we faced one problem – we are not Warren Buffet. We must understand that as a retail investor, we will never become or even come close to Warren Buffett. This is because Warren Buffett doesn’t buy 10 lots or even hundred lots in a company; he buys a controlling stake. This means that Berkshire Hathaway will be able to consolidate or recognise the profit from these investment regardless of stock price movement. In fact, Warren Buffett decides who becomes the CEO of a takeover company. Obviously as a retail investor we can’t.

We know that Ms Market always disintegrate a company’s intrinsic value with its share price. In bad times such as recession, while Berkshire Hathaway continue to report good profit from these investments (through consolidation), retail investors had endure with their portfolio losses and hoping that the Ms Market will recover soon. And during good times, the investing public, following the mood of Ms Market, push up share prices. Many will make money while the bubble is expanding. But still, Warren Buffett is indifferent; he had already recognised profits from his good investments for many years and many more years to come. When finally the bubble burst, you will get burnt but still, Warren Buffett is consolidating good profit from his wonderful investments.

“So follow Ms Market also cannot, follow Warren Buffett’s investment horizon also cannot, what should I do?”

In my opinion, which you may disagree, this is what we (retail investors) should do. Firstly, we definitely never follow the mood of Ms Market especially when she is throwing tantrum without considering the economic fundamental. When she is depressed, we will buy from her wonderful companies at deep discount. When she is in the mood and pushing up price, we should sell it to her and locked in our profits. But when the economic fundamental collapse, we will divorce Ms Market totally as she will be depressed for a period of time.

“So in normal time, we should take opposite direction against Ms Market, but how to know whether the economic fundamental is collapsing?”

Finally you asked an extremely difficult question. Unfortunately, nobody has a definite answer otherwise he would probably be richer than Warren Buffett. I mean only God know if US is entering into a recession this year or next year, or not at all. The best thing that any investor should do and can do is to be updated on local and global economic report. Find a group of friends with same interest and skills and share opinion freely. From there, it is easier to form certain objective conclusion. This will help you to determine your investment horizon.

Share Consolidation - Other Analysts' View

If you have been following my write-ups, you would have realised that I had been rather critical about share consolidation action by some listed companies. I had talked about it previously. Basically I take that kind of announcement negatively based on the mindset and investment principles I acquired from Warren Buffett plus my little past experience.

Usually I try to avoid posting other writers or newspaper reports totally on my blog. But today, I like to make an exception, again. On 20 Oct 2007, my highly-recommended and all time favourite analyst, BT Senior Correspondence, CFA Charterholder Ms Teh Hooi Ling posted an article on this topic in Business Times.

In her article, she mentioned that many other analysts around the world, which I am not familiar with, formed negative opinion. Based on Hooi Ling’s own research work, she also came to the same conclusion. No doubt there are exceptions. But take note that these “exceptions” have some other exceptional stories behind that push up their share prices. So in this case, it is not really an apple-to-apple comparison.

To sum up my opinion again before we look into Hooi Ling’s article, company management should focus on improving bottomline. They should leave the share prices to us. If a company proposed to consolidate its share in hope that it can be transformed from a penny stock to a mid-cap, it got it all wrong. The fundamental factor that decide whether a company’s share will be priced like a penny stock or blue-chip lies in SUSTAINABLE PROFIT GROWTH. So the management shouldn’t waste investors’ time and should just focus on the three big words I highlighted.

Here’s the article. Enjoy.

=========================================
Business Times - 20 Oct 2007

Reverse stock splits: boon or bane?

By TEH HOOI LING
SENIOR CORRESPONDENT

At least seven Singapore-listed companies have carried out share consolidation so far this year.

Share consolidation - also known as a reverse stock split - is a corporate action through which a number of shares are consolidated into one.

Various reasons are given by companies for deciding to implement a reverse stock split.

For example, one company said in a statement that prior to consolidation, small movements in its share price represented large percentage movements that resulted in volatility.

'It is anticipated the consolidation will benefit the company and its shareholders by reducing the volatility in the share price,' the company said.

On the Singapore Exchange, the minimum bid for a stock below $1 is half a cent. So a stock trading at one cent can move up or down by half of its value - a 50 per cent swing.

In January this year, Time Watch, after completing a reverse takeover, consolidated 50 shares into one. The company said in a statement: 'Time Watch believes the share consolidation may reduce the fluctuation in magnitude of the company's market capitalisation, lower trading costs for investors and also renew market and investors' interest in the shares.'

In the trading-range hypothesis, it is suggested that stock splits regroup share prices to a preferred price range. An optimal price range is when prices attract investors big and small. Smaller investors may be unable or unwilling to buy shares if the unit price is too high. So companies do a stock split or bonus issue.

If a share price is too low, it is an indication of poor performance and the stock is also viewed as a speculative stock. Institutions tend to avoid such shares. So companies that are willing to court small investors and large institutional ones try to have a stock price that is acceptable to both sets of investors.

Meanwhile, according to the signalling theory, management sends messages to investors via its financial decisions. A bonus share issue or stock split is generally associated with management's confidence in future performance. And so a reverse stock split sends the reverse signal, according to some studies.

Spudeck and Moyer (1985), among others, argue that reverse splits seem to be taken by the market as a strong signal of management's lack of confidence in the future stock prices.

Woolridge and Chambers (1983) even suggest that when a reverse split is impending, investors should sell their shares.

SGX-listed stocks

I've decided to look at the share performance of those stocks on SGX that have been consolidated in the past three years. Of these, only seven have had six or more months of performance since consolidation.

The companies are Integra2000, Lankom, Digiland, Wilmar (formerly Ezyhealth), Hup Soon Global (formerly Twinwood), Delong (formerly Teamsphere) and Time Watch (formerly Wee Poh).

Of these seven companies, four saw their share price underperform the SES All Shares Index by 35 to 86 percentage points in the 12 months leading up to their share consolidation. The exceptions were Ezyhealth, Twinwood and Teamsphere, which saw their share prices shoot up sharply after news of their reverse takeover deals was announced.

In general, reverse stock-split companies did not see their performance improve subsequent to consolidation.

Six months after consolidation, the median excess return of these companies relative to the SES All Shares Index was 45 per cent. The average was -27 per cent.

And 12 months subsequent to reverse stock splits, the median underperformance widened to -58 per cent. The average was -28 per cent.

Based on the limited sample size, it does appear that share consolidation is generally not good news for investors.

Indeed, investors have had an inkling of that. Radcliffe and Gillespie (1979), Woolridge and Chambers, Spudeck and Moyer and Peterson and Peterson (1992) document that significantly negative abnormal returns surround reverse split announcements.

Ho, Nelling and Chen (2005) studied US companies listed on the New York Stock Exchange and Nasdaq that conducted reverse stock splits between 1980 and 2000. They also found that companies that carried out reverse stock splits significantly underperformed the various market benchmarks and stocks with similar characteristics one to three years later.

They said the results suggest that 'reverse-splitting firms are unable to change the pattern of post-split underperformance ... since the reverse stock splitting firms are relatively pessimistic about future prospects'.

There are, of course, exceptions. And a notable exception in Singapore is Wilmar. The stock has performed spectacularly since its reverse takeover of Ezyhealth.

It has been helped by several factors, among them the injections of assets by the Kuok family into the Singapore company, and the interest in biodiesel as a alternative fuel source.

So, for companies that did a reverse-split after a reverse takeover, ultimately, what happens depends on the quality of assets injected into the company.

The writer is a CFA charterholder. She can be reached at hooiling@sph.com.sg

Hedge Fund - A Time Bomb? (Part II)

When Was Hedge Fund Born?

Reported on Business Times Mar 2005, the first hedge fund was started in1949 by this man call Alfred Jones. Jones was able to identify undervalue and overvalue stocks and his strategy was to buy the undervalued stocks and short the overvalued one. Over time, he will make money. So Jones has “hedged” his portfolio and the term hedge fund was born.

But personally, I don’t understand that article. In what way can “buy the undervalued stocks and short the overvalued stocks” produced a hedge effect? If Jones bought put option on his stock I would agree. But buying overvalue stocks? Different stocks? Regardless of correlation between these stocks? All I can say this, that when stock market enters into a period of correction or collapsed totally, undervalued and overvalued stocks suffer the same fate. Anyway, the word hedge has different meaning in (corporate) finance term.

The Collapse of Major Hedge Funds

Lately I was reading an article from Moody’s – “large hedge fund may collapse”. The article points out that current credit crunch in global market may cause major hedge funds to collapse thus disrupt market stability. In the article, it mentioned “Long Term Capital Management, a hedge fund that borrowed heavily and had to be bailed out by Wall Street banks after collapsing in 1998”. This again brings back memory of a friend who attended options training for a few thousand bucks. But the study materials contain pictures of bankrupted hedge fund managers. But yet the training was to impact skills in options trading. So is the trading activity more profitable or the training?

So out of curiosity and interest, I started to do some search on hedge funds, particularly on those with big size and had collapsed. Naturally I started with Long Term Capital Management. Through Yahoo search, the information available is an endless list. I really want to thank the creator of Internet. He made the world into a global village and information readily available. I remember during college days when many of my friends had encyclopedia at home. And there were salesmen going door-to-door selling their encyclopedia. I was poor then so the only way to have assess to encyclopedia is to go to the national library. Today, nobody go door-by-door selling encyclopedia; nobody buy encyclopedia.

So from Wikipedia (see, don’t need to buy encyclopedia any more) and through yahoo search, I found lots of information on Long Term Capital Management. And then I remember of a bankrupted fund known as Tiger Fund. I continue searching and I also found information on Basis Hedge Fund. In summary about these three funds:

1) Tiger Fund (CNN, Mar 2000). Julian Robertson (once regarded as one of Wall Street's highest rollers) liquidated all six of his Tiger Management funds in 2000. This marks the downfall of a veteran hedge fund manager, whose fund bets on value stocks but was backfired as investors turned to technology stocks - the dot.com era. Tiger Fund's success over the years was based on the “buy the best stocks, short the worst” strategy. In a letter to investors, Robertson wrote. "In a rational environment, this strategy functions well. But in an irrational market, where earnings and price considerations take a back seat to mouse clicks and momentum, such logic, as we have learned, does not count for much". The Tiger Fund suffered sharp losses for more than a year, tumbling 7.8% in February and 13.8% as of 29 Feb. The fund's assets plunged from roughly $20 billion in 1998 to about $6.5 billion.

2) Long Term Capital Management (LTCM). LTCM was a hedge fund founded in 1994 by John Meriwether (former vice-chairman and head of bond trading at Salomon Brothers). On its board of directors were Myron Scholes and Robert C. Merton, who shared the 1997 Nobel Memorial Prize in Economics. Similarly, the fund was very successful initially. With complex mathematical models, the fund makes good money from the fixed income arbitrage deals. By 1998 LTCM had extremely large positions in areas such as merger arbitrage and S&P 500 options. In order to generate significant profit, the fund borrowed to speculate. At the beginning of 1998, the firm had equity of $4.72 billion and had borrowed over $124.5 billion with assets of around $129 billion. Its off-balance sheet derivative positions amounts to $1.25 trillion, most of which were in interest rate derivatives such as interest rate swaps. The fund also invested in other derivatives such as equity options.

In May and June 98, net returns from the fund fell 6.42% and 10.14% respectively, reducing LTCM's capital by $461 million. In Jul 98, Salomon Brothers pulled out from the arbitrage business. Such losses were accentuated through the Russian Financial Crises in Aug and Sept 98, when the Russian Government defaulted on their government bonds. Panicked investors sold Japanese and European bonds to buy U.S. treasury bonds. The profits that were supposed to earn as the value of these bonds converged became huge losses as the value of the bonds diverged. By the end of August the fund had lost $1.85 billion in capital.

3) Basis Hedge Fund. In Aug 2007, Basis Yield Alpha, a hedge fund backed by Australian funds management firm Basis Capital, filed for bankruptcy protection. The Basis Yield Alpha fund began to lose value as investments it made in subprime mortgage-backed securities in the U.S. began to falter in June. Worried investors avoid buying mortgages on the secondary market. With almost no market for the loans, their value has fallen precipitously. The drop in value led to margin calls, which Basis Yield Alpha was unable to meet. That led investors to issue default notices, which would have given them the right to seize the fund's assets. Besides Basis Yield, Bear Stearns Cos. Also shut down two hedge funds in July after announcing they were essentially worthless because of bad bets on subprime mortgage-backed securities.

The Lesson

Out of the three hedge funds listed above, the first two were huge in size. I am able to sum up the three stories into a few points:

- Hedge funds are managed by best of the best.
- Hedge funds can make huge returns double that of Warren Buffett's.
- Aggressively they speculate and have complex system or “proven betting system”.
- There may be incidence that comes along the way; so sudden, so unexpected and may strike down funds within very short time. It is like a time-bomb. When it exploded, it will be very damaging.
- When the fund suffers huge losses, it doesn’t have the chance to recover. The fund manager usually pull the plug.
- A zero sum game. Yes, God has never drop a single cent into this game. If someone made the money, then someone else has to pay for it.

There are tens of millions of genius out there. Since it is a zero sum game, everyone is trying his best to make money out of someone else’s pocket. You can do it by depending on sheer luck, or by developing a sophisticated system to trade. But human brain is complex, unpredictable and ever changing. So even the best mathematical system can fail too as in the case of LTCM. And in the case of Tiger Fund, the fund bought undervalued stocks and short on overvalued one. Without the shorting part, the fund would have grown in size today. Warrant Buffett and many other value investors equally turned a blind eye to the dot.com; he is still one of the top ten richest men today.

So really there is never quick and easy money. As the saying goes, high risk high gain, low risk low gain. But if an insurance agent came to you with this statement, you give him/her 50 cents to buy a “kite”. Because if that’s the kind service he/she can offer (high risk high gain, low risk low gain), why pay him/her? I mean what value has the agent (or a fund manager) added? But for value investment, we are low risk high gain. Every value investors will tell you that they have zero tolerance for losses. Hedge fund is really for people who can throw away a few hundred thousands or a million and yet feel no pain. If you want to sleep peacefully, knowing that the assets you invested in will always be there regardless of the business cycle; and you don’t like to receive a sudden call in the morning telling you that you have just in a huge loss position; and you don’t want to be worried about the index in the midst of a meeting with your CEO; invest base on fundamental.

Before I end, the article on Basis Hedge Fund actually warned of the collapse of more hedge funds due to subprime woes. This may destabilize the global market. And this has been my primary worry since the market wipe off my entire portfolio’s unrealized gain in Jul 07 – will the housing slump and loan problems in US become a catalyst to send US into a recession? Is the subprime problem over yet?

Hedge Fund - A Time Bomb? (Part I)

What Is A Hedge Fund?

One of my investment principles is never to be greedy and fear of market sentiment (market downturn). In other words, overcoming greed and fear. Another important closely related principle is never invests in anything that you don’t really understand. Why closely related? If you were not greedy, why would you want to jump into an investment product that you don’t understand? If you were not greedy, why would you believe in a letter that tells you that you have won a car for doing absolutely nothing? If you were not greedy, why would you still believe in “free lunch”?

Hedge fund is another investment products which is relatively new to most Singaporeans. A few years ago, local authority allows hedge fund to be set up here but limit to high net-worth individuals. If I remember correctly, it started to appear on the headline somewhere after year 2000. In my own words, hedge funds are funds that undertake risky investments. The funds can go long or short; it can speculate on an M&A news or short the forex during a crisis, or long or short on options or any derivatives, take up arbitrage opportunities, or anything that can generated high return. The funds may borrow more money to speculate and have complex strategies to make money. It’s like Chow Yun Fat having a secret method to get royal flush most of the time. Perhaps many gamblers don't know (or refuse to know) that the owner of a casino doesn't gamble; he invest. He never gamble as he knows one simple truth; banker always win. This winning chance/probability has been incorporated into every game. So he just invest his money in creating those games.

Hedge funds seldom market its products, or to put it correctly, they are quite secretive in nature. Less the big funds, some of the smaller ones may collapse without appearing on the paper. What is a “hedge of hedge fund”? As the name implied, it is a fund buying into a basket of hedge funds. In my opinion, that’s really extra spray (多此一举) (khey jua – hokkein). Can you imagine yourself diversifying risk by spreading your fund into more of the same types of product at the expense of returns?

Banker: “Sir, managed by our experts, our hedge fund can generate exceptional high return.”
You: “Ya but a bit risky for me”.
Banker: “Sir, we also can diversify you risk by spreading them into various hedge funds.”
You: “Oh, I know diversification from my study. It reduces systematically risk. Ok, I’ll buy.”
Me: “………….”

People buy this kind of product, or worst still, they buy capital guarantee hedge fund. In my opinion, this is an insult to intelligence! No offence to those who believe in it.

I never or never will invest in hedge fund for two reasons – I’m still a poor chap and even if I get to the high net-worth group, I will never buy hedge fund. The reason is simple – I don’t gamble. Since the day I learned my lesson, I never gamble….. ok, maybe just $20 on ToTo. Generally speaking, Chinese like to gamble and I am a Chinese. But after a few lessons, I make it very clear to myself - never gamble and never invest in anything that I don’t fully understand.

My Personal Experiences

1) Warrants. When I started to learn stock trading in the 90s, the warrants were very buoyant then and they offer good rate of returns. What is a warrant? Recently I visit a colleague in NUH as she gave birth to her second girl; she asked me what is a warrant. I thought usually such visit would end up talking about babies, weight or delivery time, diapers, one month curfew, blah… blah... blah. But we spent most of the time talking about stocks. Warrant is a call option, literally a piece of paper that is cheaper than its underlying asset and generally people use it to speculate. A Warrantholder does not enjoy the rights like an ordinary shareholder. A warrant has an expiry date after which the paper will be worthless. I don’t think I want to go into the detail as it may take up another half a page.

So I traded warrants in the 90s until Asia Finance Crisis when I returned everything back to the market. When the global economy started to recover from recession at around 2003, I thought that might be the right time to buy cheap warrants. I made some money. But market doesn’t go up in a linear fashion. There was also down periods here and there. As some of my warrants were in red and as time gets closer to its expiry date, exit would not be possible unless a bull sets in. And I was praying for that. Subsequently, I shredded all these papers (I mean the contract statement from my broking house) away. And then finally I establish my own rules in stock investments, NO MORE WARRANTS (or no gambling is allowed).

2) Gems. About three years ago, my friend and I decided to go for a short holiday at Bangkok. We just wanted to go shopping and get out of this busy city for a while. I swear, only shopping, and nothing else. On the second day, we were on a boat (can’t remember the name of that river) to visit the palace. It was drizzling then. When we were near the palace, a man about 40 - 50 years ago approach and greeted us.

Thai man: “Good morning, are you going to the palace?”
My friend: “Yes”
Thai man: “You can’t go there because you are wearing sandals and shorts.”
Me: “See lah, at least I wear my Nike and bermudas. Nevermind lah, let’s get back to hotel”

(Then my friend was still mingling with that Thai man and I was getting impatient. I am always defensive to strangers).

Me: “eh, let’s go lah, it’s still drizzling.”
My friend: “He say can help us hail a tuk-tuk and book it until we finish our sight-seeing for a cheap price.”
Thai man: “really, you can’t go to palace but can still go other places for sight-seeing. I am the security guard of a bank nearby”.

(So the Thai man hail a tuk-tuk for us, gave instructions to the driver and briefed us on the places of interest).

Thai man: “So you go here, go there and then here….. The driver will wait for you at very stop. Then you will bypass this jewelry shop you can take a look. The products right from factory and very cheap for visitor. It is a place not to missed”

(I was still annoyed but gave in…wrong move!)

Me: ‘ok lah, ok lah”.

(So we follow that tuk-tuk and visited about two temples which bored me to death. And then we bump into a devoted Buddhist. He approached us).

Devoted Buddhist: “Are you from Singapore?”
My friend: “Yes”
Devoted Buddhist: “Oh I love Singapore. I had import/export business over there. I like Orchard road.”

(blah… blah… blah and he led us into the temple with a big Buddha statue and explained the meaning and religious practice. He removed his shoes and lie down flat with arms and legs straightened. I know that’s the highest form of worship. Then he asked where we are heading.

My friend or me: “oh, the tuk-tuk driver is driving us around”.
Devoted Buddhist: “Did anyone tell you about a shop with beautiful and cheap gems?”
My friend or me: “Yes, someone told us that, a security guard.”
Devoted Buddhist: “Oh yes, he is telling you the truth. As tourist, you get tax-free and gem’s value can appreciate. This big sapphire I’m wearing now, its price has gone up. Just a few years only. But I don’t sell. I wear for good luck.”

(And he also teaches us the way to manage the salesman so that he will not inflate the price. For example, by telling the salesman that we buy to wear for blessing, and not for trading. After he departed, we were discussing whether we should go.)

Me: “I usually don’t invest in things that I don’t know. That’s my investment principles.”
My friend: “You decide lor.”
Me: “Sigh… ok lah, just take a look.”

(Then the tuk-tuk brought us there. The door was small but it was huge inside and well decorated. Cut the long story short, we bought a blue sapphire at around S$1,500. When we were back to the hotel, and from that moment onwards, until we were on the plane, I kept having weird feeling about the gems. The rest is history.)

To know more about all these scams, go Yahoo search and you will find many similar stories like mine. Subsequently, I gave that sapphire ring away free. I couldn’t get over the fact that some Thai scumbags cheated me. Why such lengthy grandmother story? To remind myself and anyone reading that no matter how smart you are, no matter how many MBAs you have been awarded, so long there is a greed in you, any Tom-Dick and Harry can cheat money out of your pocket. Since then, I firmly established an investment principle; never invest in anything that I don’t really understand.

To be continue……..

Investment Principles - overcoming greed & fear

When I first learn of Warren Buffett's approach and mindset towards investment, I came to realise the reason for years of poor investment result - greed and fear. How many times have I heard people, professional analysts, retailers, brokers etc saying this:

- "This stock can go up further, it is still cheap...."
- "Market corrected badly, you better sell everything before you're left with nothing...."
- "I suffer huge losses in this stock, I can't sell it now, I'll wait....."
- "My broker told me that syndicates are going to speculate this stocks, we better grabbed now...."

The kind of remarks such as those listed above, I can sum up with a few words: sentiment, emotion, feeling, speculation etc. To-date, all my friends who invested based on sentiment had failed and left the market totally. For those who still hang around, including myself, we fully understand in one truth – to survive and earn from equity investment, we must first overcome greed and fear. This means that investment decision should be based on a company’s fundamental, not on (market) sentiment.

Let me illustrate. In 2002, right after the infamous 911 (and start of global recession), Raffles Medical Group (RMG) reported first ever losses and its stock slides further. After studying RMG’s history background, performance and businesses, I concluded that we should jump into this company while others are dumping. We should be logical and not emotional. Only a colleague in the Army believed in me and bought into RMG at a price below S$0.30. We hold RMG as its turn profitable the year after and continued its growth. We enjoy high dividend yield while sitting on unrealised gain.

And this the kind of thing I love about stock investment. You get rid of your greed and fear, find a gem that has been overlooked by the market, invest in it while people are dumping. And subsequently the company you invested continues to grow such that you enjoy both high yield and unrealised gain. Every year, your dividend yield from the company way exceeded bank's rate. The worst thing that can happen to you is when the share price fall back to your purchase price and your unrealised gain forfeited. But so what? Throughout my years of experience in investment, if you found a growth company before anyone else, and bought it cheaply, even in times of market correction, it is quite difficult for the price to fall back to your purchase price, assuming that the company's fundamental remains.

Unfortunately, sometimes I tend to forget what I’ve learned. I’m still human. After the exposure of US subprime woes in Jul 2007, DJIA and Asian markets tumbled. Initially I choose to stay and turned a blind eye to the issue. Until 17 Aug, after various market update of sharp fall in the STI (breaking the psychological support line), I gave in to the threat and join the queue of panic selling. Guess what? STI rebounded strongly before it closed for the day and on 20 Aug, STI surged another 191.67 points (6.1%) to end at 3,322.38. It recovered its ground but I had sold a few companies resulted in small realised losses. To add salt on my wound, I had sold off one of my favourite company – Aqua Terra, at BREAKEVEN!!!. That is the consequence of following the market’s FEAR. I learned my lesson, again.

Greed and Fear

This morning at around 10am, a good friend of mine send me an SMS reporting another plunge on the STI. Although this is a bad news, but I'm not at all surprised. We have been like this since the report on US sub-prime problem which resulted in huge correction in Asia market. As a follower of Warren Buffett, I continue to choose to focus on company's fundamental.

Then, separately, my good friend send more SMS reporting even further plunge in STI. Now, greed and fear finally found a place in me. I had been warning people "if you want to invest, you must first overcome greed and fear. Otherwise put your money in the bank". Well, shit happens.

I gave in and joined the queue of panic selling. My broker added more salt on my wound by telling me "there is no buyer at all for your xxxx counter".

I sold remaining counters which still sit on (peanuts) profit. This leave my portfolio with all losses. At around 4pm, STI rebounced strongly and managed to recover its ground. My good friend was sorry about it but I had no complaint. Afterall, I do believe that market uncertainty and volatility will continue for sometime. US sub-prime problem is not likely to resolve very soon. It's not a bad idea to hold more cash now. In any case, I had already met my investment target for 2007.