Tuesday, August 12, 2014

What's Wrong with CPF? (Part 3)

This is Part 3 of the CPF discussion, interested readers can start from Part 1.

We have come to the most controversial issue, should CPF give us 6-16% return that our sovereign wealth funds generate? It is well documented that GIC generated 6% and Temasek a whopping 16% over a long time frame like 20 years or more. So part of the argument was that why is CPF only paying us 2.5%? Isn't that unfair?

Again, this issue has been debated in depth. So just reiterating a few things.

First Temasek does not handle CPF monies. While GIC does to some extent, it is hard to segregate what's CPF and what's from other Govt sources of revenue. Remember, our Govt has a lot of revenue sources: outside of income and corporate taxes, they have casino levies, COEs, ERPs, summons, stamp duties, Singapore Pools (ok, lost a bit to Andy's Dad but still a mega money making machine), Changi Airport, PSA, Zoo, Bird Park, Night Safari etc etc. So how to segregate? Even if it's possible, it's not optimal.


Singapore Pools, Govt's mega money making machine

But what's more controversial is this: can we stomach the risk that comes with higher long term return? 

CPF rate is risk-free. The 2.5% return is guaranteed. The principal is protected. To ask for a higher return, the risk comes with it: the principal can and will fall below par. During the global financial crisis in 2009, stock markets were down 20%, in a week. At the lowest point, it was 40% decline from its peak. GIC and Temasek suffered huge losses. Can we afford to see our hard-earned CPF money lose 20-40%?

Sometimes, we don't know what we are asking for.

So if the answer is that CPF monies cannot go below par, then the next relevant question should be: is 2.5% appropriate? This is the interesting part. If the money is locked away for 30 years, then looking at insurance policies, long term government bond yield, maybe 2.5% is not right. It should be higher. This point could be valid.

However the Govt is also very wary of raising the interest rate too much, bcos the system will then be subjected to abuse. Imagine this, the Govt raise the interest rate to say 8% (yeah, yours truly's target). Now this is 8% risk free. If this ever happens, this site should be shutdown bcos its purpose in existence just vanished. Why read how to make 8% when CPF gives you 8% risk free?

Of course, this runs the risk that the 8% return cannot be met. In fact, GIC only generated 6%. Then maybe we should ask Singapore Pools to chip in a bit. Or ask Andy's Dad to return his winnings perhaps.

Just kidding, Andy.

It's always good to under-promise, so I guess that's why we are at 2.5%. Okay... just maybe a tad too conservative perhaps. Never mind that for a second, let's imagine another scenario.

CPF gives 8%, say a rich retired guy, say Marlboro Tan. At 65, Mr Tan can just put his $10,000,000 into CPF (a small amt of his huge personal wealth) and the Govt has to pay him $800,000 every year. CPF just became his personal money tree to buy a Ferrari, or 2 HDBs, every year. Yup that's why he's happy waving little Singapore flag during NDP, despite making our lives so miserable. Yes, there's a cap how much you can put in CPF to stop this shit. But there are enough rich retirees in Singapore to abuse this. Right?

So maybe the Govt can only raise it by a little, say to 3-4%. Albeit it is already 3.5% for the first $60,000 and 4% on the Medisave and Special Account, subjected to some cap. So again, maybe it calls for putting aside the differences and petty arguments, say just simplify everything to a 3.5% return.

So these would be my proposals for changes:

1) The equal contribution from employers and employees should be re-instated, say at 15% each.
2) The minimum sum should be scrapped.
3) The CPF return should be raised to 3.5% across all accounts.
4) The interest on CPF withdrawal should be stopped. Or alternatively, CPF can no longer be used to buy houses, fund education or withdrawn for any other purposes.

However, I must stressed that without mutual trust: the Govt trusting its people and vice versa, it is pointless to change anything. Since the intentions would be mis-read and there would be just more arguments.

It is worth noting that my four proposals require give and take for both employers and employees, for both Government and citizens. Like #3 requires a reduction in the Medisave and Special Account returns. #4 can be quite thorny and the alternative of not using CPF to buy houses might not work since people want their cake and eat it with the cherry and gold flakes on top as well. All this cannot be done without mutual trust.

Singapore has come a long way since being booted out of Malaysia in 1965. Our forefathers built this nation from scratch. Our parents trusted their leaders and they built Singapore. They believed that nobody owed them a living. The world does not owe Singapore a living. It is up to us to make our own living. But now, there is no us. There's the Government, which its people do not trust. There's a bunch of folks who think the Government owes them a living.

At the start of this series, I alluded to the fact that, while having some issues, the CPF is a robust system. I believe the few tweaks will make it work well again. This is not like our MRT, or our education system where major, major overhaul would be needed to make things work again. CPF had worked well and is now being politicized bcos of the few issues we discussed. 

But in the end, it's about trust. Put the differences aside and focus on what really matters: listening, understanding, un-antagonistic, unimposing. Rebuild trust and find the solutions together. 

Majulah Singapura!

Saturday, July 26, 2014

What's Wrong with CPF? (Part 2)

This is a continuation of the previous post.

Let's recap, our CPF (central provident fund aka Singapore's pension system) has four issues:

1. The equal contribution rate (employer vs employee) was violated.
2. The minimum sum was a total disaster.
3. Interest was imposed on fund withdrawal.
4. The interest rates are compared to returns of our sovereign wealth funds.

We discussed issue #1. The solution is to bring back the equal contribution policy. Since employers will cry foul if they are asked to raise their contribution to 20%. Perhaps it is much easier to drop employee contribution to match the current 15% or so. ie we see more take home pay! This also helps in a way since less of our salaries will now be locked away.

Issue #2 is the most hated policy. The dreadful minimum sum. When the amount is some crazy number like $160,000 and climbing, most people get put off immediately. But actually, as we wrote in the first post ever on this blog, retirement is expensive. $160,000 is barely enough. So on this count, our beloved Govt might actually be right. Although what's right doesn't mean what's popular.

Just to prove this point. It is also right to exercise five times a week, abstain from alcohol, eat vegetarian, sleep right and stop waking up at 4 am to watch World Cup and stop driving to curb CO2 emission. Who the hell would do all that? So the minimum sum, while a correct idea, is a bad idea.

There was also another damn good reason how it helped. In the early days when all these retirees could withdraw everything without any minimum sum restriction, they withdrew their hard earned savings of say $50,000 and bought Germany vs Brazil, betting Brazil would win (only to see Brazil fail dramatically). Or they would spend $50,000 on a Chinese prostitute. Or they would spend $50,000 buying Lehman note from DBS. Whatever. People were losing their shirts, their last shirt - the one that was supposed to last them till they go meet their ancestors. So isn't it good to have a minimum sum to stop this shit?

Which is worse? Betting World Cup vs CPF

Of course, people don't think that way. They want their money back, squander it and that's that! Anyhow, in today's situation, where there is a lack of trust, I believe the only way is to do away with the minimum sum. Sometimes people have to learn the hard way. Let them get into the same shit again. Maybe get their family members to decide whether they can withdraw or not. Like the casino blacklist.

So, while the minimum sum was a necessary idea, it would not fly in the current climate. To make things worse, we have issue #3 which forces people to put more money into their locked away CPF account if they used the monies before to buy properties, or fund their kids education or whatever. And everyone used their CPF monies to buy properties, or fund their kids education or whatever.

This following important point came from Roy. Thanks Roy!

It was a seemingly logical thing. If you took money out of CPF, you should put it back with interest. That seemed logical. After all. CPF was meant as saving for retirement. So put it back with interest.

But if the money was left there, the government paid the interest. Not us. Over a long time span like 30 to 40 years, this interest would snowball due to the effect of compounding. It is not a small sum.  Just a simple illustration, say interest in CPF now is 2.5% and we withdrew $100,000 to buy our HDB which now cost $400,000. Over 30 years, this would be like 80% of $100,000 or $80,000 that we have to put back into CPF!

$80,000! No joke! By taking monies out to buy HDB, we "lost" this amount...

I urge everyone to pay back what you owe CPF today!

Issue #3 when linked back to the minimum sum is part of Roy's argument. Most will never be able to hit the minimum sum. Imagine having to put back $80,000 just to get back to zero, and on top of this, you need to achieve the minimum sum of $160,000! And the amounts will keep snowballing. Never mind that actually we can still withdraw some money without hitting the minimum sum, as most people do. But this point is definitely worth pondering. By having money in CPF, we earn "good" interest with Govt paying us that 2.5% or 3.5%. By taking it out, we lose that interest and we set ourselves up for future problems due to the rules of the CPF game.

Of course, I do not think the Government had ill intentions designing it as such to suck our money with such a unscrupulous scheme. The HDB and education use came much earlier than the minimum sum. (and equal contribution was even earlier). It was an unintended consequence. So what's the solution?

Well, maybe we cannot use CPF for housing, education or whatever. Maybe we can have an option for people to withdraw CPF but they need not put back with interest, which they do if they hit a certain age. However, the crux of the issue, in my opinion, goes back to trust. Our Govt do not trust that Singaporeans can handle their retirement well. It has been proven with all these retirees squandering away their CPF monies. Similarly, we don't trust our Govt too! We want our money back!

This is a delicate issue. Trust takes time to build. And it would take both our leaders and the people to be humble, willing to put the differences aside and focus on what really matters: listening, understanding, un-antagonistic, unimposing, working together finding the middle ground, finding the solutions together.

Next stop: CPF returns and our sovereign wealth funds' returns.

Tuesday, July 15, 2014

What's Wrong with CPF? (Part 1)

CPF refers to Central Provident Fund, Singapore's pension system.

I must first profess that I am neither pro-PAP nor anti-PAP. In this post and the posts in the future (hopefully I get the time to write them), I will try to provide independent analyses on our pension system, touted as one of the best in the world, and hopefully readers will find them useful.

I also hope that readers would also have read Roy Ngerng's wonderful analysis. I must say it's quite thought-provoking. Though bearing in mind that he had an axe to grind. A lot of the discussion here would also be easier to understand after browsing through Roy's arguments. 

By and large, I would say that CPF is a pretty damn good pension system, for both Singaporeans and the government. Well, after all, it was the brainchild of our forefathers: a bunch of really cool guys, although they are quite misunderstood nowadays. Mr Lee Kuan Yew is really quite awesome, seriously. But the late Dr Goh Keng Swee was the coolest of them all. This site has a post dedicated to him. Sadly, very few people today actually know how great Dr Goh was, and how much we owe it to him.

The CPF Logo

In 1965, when we got kicked out of Malaysia, Singapore, as a nation, had no friends and definitely no place in the world. Needless to say, as a nation, we also had no income, no savings, no nothing! Mr Lee, Dr Goh and their team saw it as their mission to make sure that Singapore can stand on its own. He did a bunch of really cool things, and CPF was just another piece of the puzzle.

Dr Goh first saw the CPF as a great scheme to help citizens save some money, build up the nation's wealth to fund the nation's growth. It was an ingenious scheme! Actually it still is, just that now that it is now pretty much over-politicized. This is going to be one huge election pain point which could bring down the Government!

Anyways, to understand CPF, we have to go back to its beginning.

When CPF first started, the system was simple enough. Part of our salary would be with-held from us and the employer/government will contribute a proportional amount. These monies will be kept away in our own segregated accounts and when the time comes, we can withdraw them and use it for our retirement. This is far superior vs the old pension system where new workers support pensioners which would ultimately fail bcos the payout was too generous and it depended on an ever increasing young workforce to support an ever increasing no. of pensioners.

A lot of developed countries are still on this destined-to-fail system. But our own CPF got complicated as well and culminated to today's nuclear issues. It's gonna blow or meltdown if we don't do anything quick.

So what went wrong with the CPF? I believe the following would be the key issues.

1. The equal contribution rate (employer vs employee) was violated.
2. The minimum sum was a total disaster.
3. Interest was imposed on fund withdrawal.
4. The interest rates are compared to returns of our sovereign wealth funds.

Equal contribution: as most people who followed the discussions would know. One sacred rule about CPF in the very early days was the notion of equal contribution. In fact, when it first started, since both our salaries and the government coffers were so small, we could only start at an equal contribution of 5% ie someone drawing a $100 salary would put $5 in the CPF and the government would also put $5. And everyone's happy!

This notion was maintained until 1985, for reasons unclear to me now, the contribution became 25%! This means that there is 25% contribution from our salary and 25% from the government/employer. Then the economic crisis hit and the government abandoned the equal contribution to save the economy. The government dropped the employer contribution to 10% but kept the employee contribution at 25%. That was the first major breach of trust.

Well this happened some 30 years ago but it was significant. To this day, employer contribution is still lower. Trust once broken is very hard to reclaim. We all know this. Between spouses, siblings, friends. All the more so between the employer and the employee. Between the government and its people.

In fact, trust in our government is pretty low today, according to Catherine Lim. Trust forms the most basic tenet of relationships. When there is no trust, all other discussion are futile. Just imagine this, tomorrow, the government gives in to all the demands of netizen and naysayers of CPF. The equal contribution will be re-stablished. The minimum sum will be scrapped. Interest rate will be pegged to 10%, average of what our Temasek and GIC can earn.

Even if this happens, because there is no trust, people will second-guess the intention. People will demand even more. Why 10% and not 18% - the higher return that Temasek is earning. There is no end to this.

The solution is to rebuild trust. It is not easy. For couples, apologizing is always good way to start. Maybe netizens and officials can try that too.

Part 2 is out.

Sunday, June 29, 2014

Attack on Titans: Decisions

I just can't help writing down these analogies from Attack on Titans. Here's another post. Let me describe one scene relevant to today's topic.

The lead character Eren was in a situation where he had to make a choice: should he trust his teammates or trust himself to defeat the enemy. He chose to trust his teammates which led to all their deaths and he regretted his decision painfully. Eren was advised by the seasoned team leader earlier, one can never predict the results, so one should at least have a freedom to choose rather than being forced to make a bad decision.

Eren after he made the wrong decision

I highlight this story to try to illustrate two points:

1. The future is unpredictable, we will always make the wrong decisions. This is because we always work under pressure, with limited information and with lots of constraints. In investing, 40% of all investing decisions are wrong. But still, good investors can make good money.

2. The more important task is then focusing on the process of decision making, rather than the outcome. Amateur people focus on outcome and not the process. This second point is very important in life.

Let's just expand on the two points above that hopefully can help us make good decisions.

On Pt 1, we must always remember that we cannot predict the future. We may think we are smart, have done our homework, have a relevant understanding of what can happen and hence should be betting well. The answer should be more profound than that.

An important angle in understanding Pt 1 is to know what is the worst case scenario. Once we understand that, we make decisions that try to avoid a scenario that is unacceptable. Another way of putting this is to measure the risk reward of a decision or a bet. If we are only losing 20% in a worst case scenario and we make 100% on a base case scenario and 200% in the best case scenario, then it's an easy, brainless decision.

I would also like to bring up the relevant property example here. In the height of Singapore's recent property bubble, I was getting ridiculed by property bulls as a dumb permabear. If I was so sure that the property bubble will burst and prices would crash, why didn't I sell my property and rent? Well, I didn't know for sure, and I didn't sell my only home for reasons to be explained below. But there are people who did. They sold their only home and rented. Waited for the property bubble to crash. They waited a good five, six years now and are still waiting

Although property prices are falling, it's hasn't fallen enough for value investors to buy. The lesson learnt here is not about betting on the outcome that you think will happen. It is about betting with the best expected return, factoring other factors such as quality of life, peripheral costs and impact to kids and/or parents. And bet such that if you are wrong, you will not get killed. To sell your only property is not betting it correctly. 

What if Singapore becomes Monaco? Yield goes to 1%? Prices stay at $1,500 psf for normal properties and $3,000 psf for prime prime prime properties forever? Someone, with no inheritable parent's place, who sold their only home would have to live in Iskandar. The kids would have commute from Malaysia. Is this an acceptable outcome?

Always know that the future is unpredictable and do not make decisions that is unacceptable in a worst case scenario.

Eren's teammate Petra, who perished after his wrong decision

In Eren's case, the worst case scenario couldn't really be avoid. If he had rely on his powers rather than his teammates, the worst case could still be everyone's deaths. So it's a 50:50 bet. Such cases call for innovation and thinking out of the box. Could there be something else that could be done? It is not easy.

Pt 2 is related to the matrix below, made famous by Michael Mauboussin but actually originated by someone else. It's quite famous and self explanatory. Basically good processes doesn't always give you good outcomes. And more importantly, good outcomes doesn't mean good processes.

As explained earlier, by focusing on outcome, you have no idea whether it was luck or skill. In most cases, it would actually be just dumb luck. But I would say that 80% of the population doesn't understand this. We make all sorts of sacrifice to put our kids into the so-called good schools based on their past results. We follow "star" investors and listen to self-proclaimed gurus. But what's more important is actually to study how they did it. Process, not outcome.


Process vs Outcome

However, a good process does not ensure a good outcome. In investing, even with the best investment processes, we only have 60% chance of getting things right. Because this is an art. This is a game where too many variables go into the system. It's a bit like golf, or trying to make a blockbuster movie, or trying to produce a #1 selling product.

Good processes are not easy to achieve. It's hardwork. Lots of hardwork. In investing, it's about first learning all the relevant skills: honing literacy in financial accounting, adopting a good investment philosophy, understanding businesses and their economic moats. Then it is doing lots of reading. And finally lots of mistakes in actual investing, trying to overcome emotional and behavioural biases. And it does not end. It's continuously learning and adapting.

In other aspects of real life, it is also about diligence and tenacity. Golf is about lots of practice trying to get the right swing, trying to get the short game right. Important decision making is also about a lot of rational thinking, opinion seeking and mustering courage to execute. Focusing on outcomes is like a championship manager who looks only at the scoreboard to make decisions in a soccer game.

So Eren made a decision to trust his team and it turned out to be disastrous. But was it a bad process? It was hard to say. They had a plan. It almost worked. On hindsight, he would be right to trust the team with the seasoned team leader around. When the team leader was absent, the decision should have been trusting his own powers. In the end, Eren and his team did capture the enemy. And they then mounted their Attack on Titans!

Wednesday, June 04, 2014

Attack on Titans: Office Politics and Corporate Suicides

Here's a well kept secret. Japanese manga and anime have managed to subtly define pop culture and Hollywood for ages. As early as the 60s, robots from the future time-travelled to alter the present in Japanese comics. In more recent times, Ghost in the Shell inspired the Matrix trilogy, Paprika inspired Christopher Nolan's Inception. And the list goes on. Today's topic is about the manga series Attack on Titans or in Japanese: Shingeki no Kyojin.

Being a student of corporate analysis, I can't help drawing a lot of analogies after watching the series. It really left me in awe and I am still pondering over some deeper messages the author could be implying. Of course the huge success of the manga and anime also meant that we could perhaps draw as many other analogies in our own lives, which perhaps better explained its overwhelming success. So for me, it was corporate analogies but for housewives it could well be family affairs, for students it was about friendship and love and for others, another level of meaning.

Manga cover for Attack on Titans

Just to give a flavour of its success. Attack on Titans, the best selling manga in 2013 which to date only has 13 volumes, sold 38 million copies worldwide or 2.9 million per volume. For comparison, Naruto, one of the best selling mangas ever, sold 135 million over 67 volumes, or just 2.0 million per volume. Of course, there's One Piece and Dragonball, which are older and have sold 4-5 million per volume given its wider reach and appeal. But Titans is on track to be on the league tables of best selling mangas.

So what's the interesting idea and what's the corporate analysis about? Why Office Politics and Corporate Suicide? First I have to give a quick synopsis, but rest assured, limited spoilers.

Attack on Titans tells a story in a world where humans lived behind layers of walls in a confined area on Earth. Human-eating Titans lived outside the walls and devour people for pleasure. With limited technologies such as cannons and blades, humans deemed themselves incapable of defeating Titans and supposedly built the layers of walls many years ago for protection. A small elite force ventures out to find ways to defeat Titans but is ridiculed by the majority of fellow human beings. The manga deals with ideas such as Prisoners' Dilemma, camaraderie and betrayal, fear and courage, beggar thy neighbour and other human/social issues. Part of this plot itself was also borrowed by Hollywood in a recent Grade B movie called Pacific Rim.

The relevant plots for this blog in the story obviously were not about Titans devouring humans or the personal struggles, although they were really quite intriguing. To me, what struck were the analogies on corporate environment and organizational structures and how office politics could bring about corporate suicides. Here's my personal take on what's the story might be about. This may or may not be what the author intended. Anyways, here's my analogy.

The whole human society represents a corporation or an organization. The Titans represents the external threats to the organization or perhaps, simply, industry competitors. The walls represents business moats or barriers protecting the organization hitherto and the humans, obviously, represents the employees of the organization. As the story progressed, the Titans managed to break into the walls and wreak havoc. The humans retreated behind the inner walls (there are three walls altogether, see pic below) and the main characters go through personal struggles as they see how some of their friends got devoured by Titans and perished. Cowards chose the easy way out by excelling in training so as to choose their career paths as security guards who get to go behind the innermost walls to protect the society elites and the monarchy (ie a worthless CEO and his cronies in my analogy perhaps).

The three layers of walls

Now in most corporations in Singapore and perhaps more so in Japan, most middle to high income salaried employees are like the main characters in the story. There are always the capable ones who will be able to lead the troops to defeat Titans. Some are ridiculed and their efforts to save humanity actually get undermined. So in a sense, the best employees out there fighting Titans are actually being backstabbed by their own colleagues!

There are also similarly capable characters but with little integrity who would choose the easy way out by hiding and further climbing up the corporate ladder, by stepping on others to save themselves, oblivious to the fact that if the all walls are penetrated, human existence would be wiped out. Well, ie, the organization gets overwhelmed by the threats or get killed by its competitors and vanquishes.

As investors who had analyzed lots of firms would probably agree, we see this time and again in lower quality companies especially those that have succeeded in eras past but are struggling now. There are prominent Japanese firms, but in reality, they are also everywhere, in the US, Europe and even Singapore.

Sony could be a case study here. Before the new CEO Hirai came on board, people who rose to the senior levels of the firm were not leaders who defeated Titans in the battlefields. (They were not managers who created successful new businesses or products or brands that defeated global competition.) They were good corporate ladder climbers who rose to the top playing office politics. 

When everything is smooth sailing, these corporate climbers attract other climbers and their numbers grow over time. People who did real work were marginalized. Climbers, in order to climb have to keep coming up with half baked strategies that alienated even more good people: innovators, researchers, engineers, product managers, marketing and branding experts etc. With no one fighting the Titans, the walls will get penetrated. Now Sony is struggling to survive, not unlike the development in the story. Yet the senior managers are not getting their act together to defeat the Titans! Real corporate Titans like Apple, Samsung and Google.

In Singapore, a lot of established agencies from government entities, listed corporations to sovereign wealth funds could be in similar situations. People are just too comfortable as peacetime passed and people who have rose in power now were not tried and tested in the battlefields. They spend time playing politics and deceiving themselves. So when the Titans penetrated the walls, things started to crumble really rapidly. Sometimes, a small minority emboldened themselves to confront the Titans but their colleagues sabo them (undermine them) in order to save their own skins. The senior management in power doesn't really know what's going on and they also care more about their own safety rather than devising good strategies to kill off the Titans.

In the last few years, some of these spilled over into media sensations. Like the Cecilia Sue saga which came about from some power struggle within the Central Narcotics Bureau. We also see how things really crumbled in listed corporations like SMRT. The Titan in this case was perhaps the unmonitored load on the train system driven by ever growing commuter traffic. As we now know, it brought down the firm, the nation's commuting network and even affected the political support for PAP. 

In the story, Titans were brainless creatures. They were just huge, fearsome in appearance and has this strange ability to regenerate themselves even if their heads got blown off. The only way to kill a Titan was to slice out a piece of flesh at the back of their neck. 

By right, Titans shouldn't stand a chance to be able to wipe out humans. The humans were very weak because of fear, because everyone just wanted to save his own skin. The scarcity of resources within the walls led to turf wars, politics and vested interest and power struggles. All these plus self interest, weak thinking and more negative attributes precipitated the imminent downfall of mankind. If all the humans put their minds and efforts together, draw courage, be fearless, think of the society before self, embolden and synergize, unite and fight, the Titans had no chance. They are the ones that should go extinct.

The best run firms understands this. Our forefathers understood this. Others before self. Teamwork works. United we stand. Divided we fall. The green pastures outside the walls, the oysters in the blue oceans are ours to take when we be the best that we can be, when we mount our culminating Attack on Titans. 

Friday, May 23, 2014

Fallacies of ETFs

I have posted a long time ago that investing in ETFs could be one of the easy ways to make money. The theory was simple. Since 80-90% of all investors never beat the index, then why should we even try? We should just buy the index. That was simply buying ETFs. Since ETFs replicate the indices and are traded just like any stocks. We can easily buy them using one of the brokers like Poems or Kim Eng or whatever.

We stand to enjoy market growth (8-10% per year) and we need not worry too much about losing our shirts.

Well, the story didn't turn out that way. As I have mentioned before, every investing decision only has a 60% chance of getting it right. At best. There is no such thing as a sure win... far from it. Investing is just a bit better than playing roulette, betting red or black whatever. Of course, roulette is actually only about 40+% of winning since the zeros and double zeros somehow appear more often than they should. So 60% is as good as it gets.

Back to ETFs, what looked like a good way to invest turned out to be wrong. Even Buffett got that wrong. He did advise laypeople to just buy ETFs if value investing is just way too tough.

Why did ETFs fail?

Well, the following would be my own reasons:

1. There are only one or two ETFs that generated good returns over time.

The famous ETF that we should buy is the one that replicates the S&P500. All the other thousands of ETFs out there just don't generate good return over time. Why? Because ultimately ETFs are just putting different stocks together. If you put enough crap together, you will still just get crap. Worse still, the crap overwhelms the true good gems or firms and you do not benefit by investing in such ETFs.

Even for ETFs that replicate market indices like those of the Hang Seng, or Nikkei, or China's A share or India's Sensex. The construct of most indices by definition includes a lot of crap such as financial entities, domestic firms and moatless businesses. Hence by investing in them, we might be able to generate a positive return over a very long time frame (like 20-30 years) but the return would just be mediocre (like low single digit). 

The reason why the S&P500 have historical been a good performer is probably because the index itself is actively managed. There are professionals debating which stock should be taken out and which stock should be added in. Hence these 500 companies are the real global dominant leaders with superb businesses like Colgate, 3M and Johnson & Johnson etc. By investing in this special ETF, you are buying pieces of great businesses.

Alas, for most of the other ETFs, the returns are just too crappy. Even our own STI index. The longest dated chart from 1999 showed it started at 2000 and after 15 long years it's now at 3000. Yes 50% return but over 15 years just means that it's a paltry 3% return per year.

FSSTI over 15 years

2. ETF came with too much hidden costs.

After investing in ETFs over a few years, I have come to fully appreciate some of these hidden costs associated with ETFs. I must admit I have not understood these fallacies holistically and some of my claims here have to be further verified. They are just hunches that I believe could be true. 

Now the few problems with ETFs are: forex, dividends and liquidity. How forex is being mitigated in ETFs is not completely clear to me but my experience with the banks tells me that forex is a big way that banks can cream off the customers ie us. Ultimately ETFs are products pushed by the banks and I would think that ETF investors are also taken for a ride.

A few ETFs pay dividends which is all good and proper. But sadly, the majority of ETFs don't pay a single penny even when the underlying indices have good dividend yields. For instance, the Brazilian stocks that make up most Brazilian indices now pays 3-4% dividend but most Brazil ETFs do not pay anything to retail investors! Again, I see this as another way of ripping off investors.

And finally the last problem with liquidity is real and visible. ETFs traded on SGX are very thinly traded and the spreads could be very wide like 2-4% or more. Some are not even tradable since there are no market makers ie if there is no one on the other side of the trade, you cannot buy or sell the ETF.

So in short, while ETFs work on theory it just doesn't work in reality. That reminds me of Yogi!

"In theory, there is no difference between theory and practice. In practice, there is." - Yogi Berra

My experience with ETFs tells us that we make single digit return at best and probably barely breakeven if we enter at the wrong times. We stand to have a good chance of generating good return only when we buy the S&P500, which is the exception rather than the rule.

In the end, the best way to invest is to find great companies with great businesses and buy them at reasonable prices.

Tuesday, May 06, 2014

2014 High Dividend Stocks in Singapore

The annual dividend list is out!

This year's list produces only 18 names despite tweaking the factors multiple times. It goes to shows that the market continues to be expensive and it is hard to get as many gems as before. Again, we see the usual suspects: Elec & Eltek, CSE, Transpac, Boustead etc. 


2014 High Dividend Stocks in Singapore

As with previous years' lists, I used just a couple factors: ROE, Dividend Yield, Free Cashflow Yield and Operating Margin. The top 3 names gave amazing dividends. It should be one-off and unlikely to be sustainable. If CSE Global gave another 50% dividend this year, the stock price would go to zero

Some of these names have appeared many times since the list started in 2009. This is actually not a good thing. Yes, a long term investor would have earned the dividends over the years, some are quite good like 5-6%. Elec & Eltek now gives 11%! But other than the dividends, it provided little capital appreciation, which is likely to be the case going forward as well. Elec & Eltek, while the stock fluctuated between $1 to $5 over the past 20 years, the long term chart essentially showed that the intrinsic value of the company did not grow. So buying this stock was more like buying a risky bond that gives c.5% yield. 

This year's list didn't really have a lot of good candidates. SIA Engineering and SATS are still there. I would just reiterate that these two could be considered as the few true blue chips in Singapore.

One of my favourite names last year dropped out: Sembcorp Marine. Well it didn't do very well in the last 12 months, a time frame too short to determine anything though. Then again, this proved my annual message that this list is just a starting point. The heavy-lifting starts after you see this screen. After you decided to drill down on a name. You have to dig out the annual reports, read and re-read, talk to people, do some number crunching and then wait for the right price. Hard, hard work!

Okay, so what happened to Sembcorp Marine? Well, the firm cut its dividend, had some troubles at their shipyard and the business model is facing pressure both from competition and from its clients. However I remain confident that our stars (the other being Keppel) in this niche oil exploration industry will continue to shine. We have the expertise, experience and the endurance to compete. Building on these strengths we have a few competitive advantages including state-of-the-art repair shipyards for the biggest ships, possibly the only ones in the world. We are still very good at cost control and management. So we will survive! 

Majulah Singapura!

Having said that, the lesson learnt from buying Sembcorp Marine was this: no margin of safety. As Charlie Munger puts it. It is not simple. We can know all the right philosophy but to execute is a different matter. Smokers know they should not smoke and fat people know they should not eat fries but they can't help it. Similarly, to buy with sufficient margin of safety is not easy to achieve. Esp when the stock gave 5% yield, the business looked sound and solid and everyone said Buy! On hindsight, Sembcorp Marine would look like a safer buy at $3.50. I would be averaging down at that price.

As I have blogged about in "5 Things You Need to Know about Investing", the success rate for even the best investors is 60%. There will be 4 stocks that will lose money for every 10 that you buy. So no need to feel upset about losing money in a few stocks here and there. In the end, it's the portfolio that counts. And if you buy enough dividend names, over time the dividends will offset all the losses.

It is not unimaginable to live off dividends someday. Starting with $100,000, a dividend portfolio that gives 5% and grows 5% per year will become a $500,000 portfolio giving you $25,000 in dividends in about 33 years. So start early

Again here is the past lists:

Wednesday, April 16, 2014

Three Key Points for Newbie Investors

This is really more of a post for me to jot down what to say in the elevator or in a casual setting where I only have a few minutes to talk to someone and I would like to give the biggest impact and let him or her take away as much as possible with regard to the world of investing.

Now, I am assuming someone with very little investing background and who may or may not know who is Warren Buffett. If he wants more info, I can always refer him to this blog. But in that span of a few minutes, I must basically let him know the most important things about investing. 

So what should I say?

Here's what I thought could be well covered in a few minutes, and understandable to the layperson.

#1. Investing is about owning the very best businesses.
#2. Identify the blue chips (in Singapore) that satisfies #1.
#3. Buy only those in #2 with a strong dividend track record and a high yield.

Owning the very best businesses

For the readers here, you would know all about good businesses. These are firms with strong economic moats such as excellent business models (eg razor and blade), oligopolistic industry structure, recurring demand, brands, high market share, strong distribution, mind share, cost leader, pricing power etc. Great businesses are just a combination of these that allows them to generate very high returns on capital invested.

One Singapore stock that is becoming very interesting is SMRT. Disregarding all its trials and tribulations over the years, passenger rail is a simple business to understand. The demand is recurring - we go to work daily. It is a monopoly - unless we take buses or drive and clog up the roads further. There is always huge opportunities in retail and property development around the stations. It is one of the best businesses around. Buffett bought one for 26 billion dollars.

Obviously, in Singapore, the risks manifested themselves too well. Regulations - prohibiting SMRT from raising fares. The firm's own mistake in investing too little in operations and maintenance, causing major breakdowns. All these, together with the popping of the property bubble caused the stock to crashed to $1. A level not seen in since 2006! But as it falls, a lot of these risks are factored in the price. I would argue that we could have seen the worst. Time to think about buying SMRT.

Passengers walking along the track when the train broke down

Buy only blue chips

Well, there are blue chips and there are blue chips. Some companies and their businesses are just not as good. They have no economic moat - bad business models, poor industry structure etc. Chartered Semiconductor was a blue chip. But it was a crazy business. Players invest in billion dollar fabs that got obsolete in 3 years. It was a race that only 1 player could survive. The biggest global player - TSMC. Airline is another treacherous business. There are over 200 airlines globally and they compete away all the economic earnings. SIA is still profitable mainly because of its subsidiaries.

A lot of blue chips in Singapore actually do not satisfy the good business criteria. I would say majority of what makes up the STI would not make the cut. Temasek just bought one out. Olamak!

Dividends

The final test of whether a company is just good or truly great is, in the end, the dividend track record. Great businesses will continuously churn out cash and these companies will have no problem paying out dividends. Some can even increase its dividends year after year. In US, the small group of companies called Dividend Aristocrats have been increasing their dividends for the past 25 years. 

Twenty five freaking years!

Well, in Singapore, our history is too short and even amongst the blue chips, there is only a handful that have a solid dividend track record. The handful that qualifies as true blue chips with strong dividend payout, in my opinion, would be Singtel, Jardine Cycle and Carriage, SIA Engineering, SATS and Keppel Corp. As of now (mid 2014), none of them look really cheap. I would think twice about buying now.

This actually brings me to the most important thing about investment: how much will you pay for it? Hence in my last statement #3 above, it has to be a high dividend yield. Like a 4-5% yield. A high yield would ensure that you bought it cheap and your capital should be well protected. In fact, today (mid 2014) it is very difficult to find true blue chips with 4-5% yield.

Ultimately, investment is an art and there are really no rules that can work at all times. As of now, these five names look like the right candidates and the only thing now is to wait for them to correct to buy them. But we also know that SMRT used to be one that looked right and crashed. Now could be the time to relook at it, but it would take some time for it to be established as a true blue chip again.

So these would be the three points that I would say, next time, in an elevator, or in a casual setting. Own good businesses. Identify the right blue chips, and only buy the Dividend Aristocrats cheaply! Huat Ah!