Wednesday, April 15, 2009

How long term should we be?

The investment horizon that is appropriate for our generation is probably 15-20 yrs, in my opinion. This is bcos we usually have some savings after the age of 30-35 for some real investing as we get married, buy house, have kids etc. And if you think about at what age should you enjoy the fruits of your investment, then it's probably 15-20 yrs later. I mean retirement age may go up to 62 but shouldn't we start thinking about enjoying life in our late 40s, early 50s? No point investing for 40 yrs and then get old and immobile and use the fruits of investment to pay for medical bills right?

Also, we shouldn't forget that even though official retirement may become 62 or it might go up to 65, probably it gets harder and harder to stay employed as our generation hits 45 years old. This is a major social reality/issue and it is already biting at a lot of people. Look around, do you see a lot of your colleagues who are in the 50s or 60s? The career life span is shortening. If you are in your 30s like me, we cannot expect to stay employed until 50.

Say if the investment horizon is only 15 yrs, and intrapolating the no.s on my previous post, the returns probably vary around +3% to +18%. ie if you bought at the peak of the market, you can expect to get 3%pa, which is worse off than leaving money in CPF. And worse still, if you had bought in 2007, it is likely that you might take more than 15 years to break even.

In order to mitigate this undesirable outcome, we must definitely employ a sound investment plan or some form of dollar cost averaging which basically means you put aside some money to buy stocks or bonds or funds every month. This should provide a +ve return after 15 years.

To aim higher, ie achieve an ok return like 8%pa, we must pay attention to market cycles in the macroeconomic sense. Don't buy a whole lot of stocks during the peakish periods and look to buy during doldrums (like now). Of course for true Graham/Buffett style value investing, the valuation takes care of this. You won't be buying stocks at the peak bcos the valuations will say No-No. Graham is famous for using his 10 yr valuation to smooth out earnings peak and trough during cycles. He would say BUY only if stocks are trading well below 10 yr valuations. ie Price/Average EPS over 10 yrs is less than 18x. He also have 6 other criteria to follow. Basically, you can't find stocks meeting most criteria in 2006-2007.

In conclusion, to get an ok return on investment (like 8%pa) over a 15 yr investment horizon, we need to know the macroeconomic trends, don't jump into stocks when everyone is also jumping in, focus A LOT on valuations, esp long-term valuation (not 1-2 yr forward EPS) and keep that margin of safety concept in our heads, and we should be ok.

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