Thursday, January 15, 2009

Random Thoughts on Various Investment Topics

In this post I would like to share my thoughts on my stance on various matters in investing like whether EMH works or not, TA is bullshit or not etc. So let's start!

Value concepts: I subscribe to most value investing concepts like margin of safety, circle of competence, buy things on sale, value-for-money etc. Most of these are very common-sensical and I don't think there is a need to argue with that. If you have no idea what are these, start reading this blog from the first post back in early 2006.

EMH is bullshit: One thing that I do not agree with other value investors would perhaps be the lack of respect for efficient markets. I think that markets are efficient and it's not easy to beat them. The market is the confluence of everybody's viewpoints and this collective wisdom is actually, usually right, at that point in time. However the market also has an investment horizon that is the average of its participants' horizon, which is usually not very long, abt 1 yr I think. This is probably the only reason why value investors get to have an edge, bcos we look at co.s with solid fundamentals that should outlast market's short-termism over time. Still, I don't think it's easy to get much higher than average return of 8%pa.

Chart reading: I used to think that chart reading is pretty much bullshit bcos if you look at past tosses of coins, can you use that to predict the outcome of your next toss? No. But that is what TA is trying to do. However, prices are not like coins and do have some memory so it might predict future prices. But my guess is its predictive power is probably 2-3 days. So, not that useful. The reason why TA can still work is probably self-fulfilling prophecy at work. Lots of participants playing the game with TA and hence prices do bounce off support levels. I did a simple simulation on the comment section of the last post. Basically, it's possible to make positive return using TA but again, you may not beat market returns. Nonetheless, there are pple who can beat the market using TA and I salute them.

Trading rules: I think this is a useful tool but it works only if you fit it to your temperment, style and investment horizon. E.g. cut loss at -10%. Some can be religious and do it everytime. Some cannot, and see -10% become -50% and curse and swear. According to the value doctrine, you should buy MORE when it drops bcos it just got cheaper right? Well it can go even cheaper, like 2008 and 2009 or even 2010. And your initial analysis must be right. ie things have not changed. If things have changed, the stock is no longer at the original intrinsic value that you calculated, then really must cut. Take profit rule sucks I think. If you sell anything with a 20-30% profit, how are you ever going to make the big buck?

Diversification: Again, this is probably where I differ from the guru (ie Buffett). I think this makes a lot of sense. Diversification is said to be the only free lunch in investing. Of course one major shortcoming is that you must have enough capital. Some textbook says around 30 different investments and they must be relatively uncorrelated lah. This is hard, bcos in today's world, everything just follows everything else. Nevertheless, don't put all your eggs in one basket. Yes we have limited time, money etc. You research on this stock so much and buy 1 lot and see it go up 200%. WTF right? But which is more painful, entire savings become zero or missing out 200%? Beware of the Black Swan!

Well, as most would have realized, I don't subscribe to everything on the value investing doctrine. But I think the core of successful investing has to be Graham/Buffett value philosophy. And now is the time to take action as the fire sale is going on!


  1. agree with yr views on diversification but many take it as the gospel truth, with financial adviser drumming the diversifiation theme, and they end up buying funds and unit trusts that containts far too many stock that they dont even know. If u look at Buffett, in a way he diversifies too (he probably has more than 50 companies held thru equity). Its good to diversify only if u know what u r buying. If u buy a 100 stock that u dont know, then u r better off holding on to 10 that u know :)

  2. Fire sale has been going on for quite a while and is likely to continue for quite some time. Best time to gradually dip in is probably during a long period of consolidation in the stock price.

    Personally, i don't see a V-shaped recovery. Maybe a U-shaped or L-shaped recession.

    For value-investors, there's no hurry.

  3. Hi M3

    I think for most pple who doesn't have the time or the heart to do research, analysis, reading up, the best option for them would be to buy some index funds, diversify across the globe and add funds periodically. Over the long run, it should make money (except for one or two times in history, this method lost money, like in 2008).

    For most pple reading this blog, yes, we studied the company, we are confident of its prospect, we shouldn't be spending time buying another co. on some takeover rumour or other newsflow.

    But actually, the first index fund buying works for us too. My personal philosophy would be to allocate say 60%-70% to index funds and fixed income instruments (pref shrs, govt bonds etc) and the 30-40% to stock picking.

  4. Hi Ricky, I agree with you. I think my original thesis of stocks bottoming in 2009-2010 may be in jeopardy. This recession may drag out longer and harder than what most people would like to think.

    Deleveraging will take a while. It is estimated that the world (mainly US and Europe) has chalked up USD 700 trn worth of leveraged stuff, 11x world GDP. About 100 trn of that is estimated to be out of the system. The banks need to bring this down to around 4x world GDP. So, probably another 2-3 yrs or more.

  5. 700 trillion? Woah, how did they churn out such impressive numbers?
    Those banks are really har...criminals man...
    Taking a step back, i must say, this crisis really lasted much much longer than i imagined. From late 2007 until now, 2009. Wow. This year is a saving year.

  6. Yes 11x World GDP

    But it was about 4-5x World GDP before the crisis in the 1990s.

    So the no. need not go to zero.
    It will take a few yrs to clean up the system. It's not the Great Depression, hopefully.

    And yes, our world works on credit.

  7. Good observations. On TA, may i offer another perspective: The market participants form a large group of individuals and teams. The picture you see on a chart is a summation of the group's collective psychology and mood.

    Price and Volume essentially tell you a pretty good story. Trend lines and support levels are psychological thresholds.

    If you believe human pyschology(herd behaviour) is predictable, then to some extent, charts are predictable. One obvious requirement is high volumes (eg: US markets), so no single big boy is big enough to manipulate the market.

    For your consideration.

  8. Hi AT,

    Thanks for the useful information. Yes TA has its usefulness. I think TA can earn a positive return if implemented correctly, but probably no better than 5-8%pa.

    I have read in many literature again and again that academic studies have found that TA trading cannot make market return (5-8%) after factoring in transaction costs. So I think there should be some truth there.

    Yes we always know of people who make money off TA and claim they have some superior system. But comparing that to years of academic studies, I think we can say that these people are just lucky. We cannot count on luck to work for us as well.

    I think for TA to work, the trader's temperament and the trading system has to find a fit.