Weekend Reading

Investment lessons from David Booth

David Booth is Executive Chairman of Dimensional Fund Advisors that he founded over 40 years ago. It now manages more than $600 bn for investors across the world.  

Gambling is not investing, and investing is not gambling: Gambling is a short-term bet. If you’re picking stocks or timing the market, you need to be right twice — in an aim to buy low and sell high. Fama showed that it’s unlikely for any individual to be able to pick the right stock at the right time — especially more than once.  Investing, on the other hand, is long term. Investing, to me, is buying a little bit of almost every company and holding them for a long time. The only bet you’re making is on human ingenuity to find productive solutions to the world’s problems.

Embrace uncertainty: Over the past 100 years, the US stock market, as measured by the S&P 500, has returned a little over 10% on average per year but hardly ever close to 10% in any given year. The same is true of dozens of other markets around the world that have delivered strong long-term average returns. Stock market behaviour is uncertain, just like most things in our lives. None of us can make uncertainty disappear, but dealing thoughtfully with uncertainty can make a huge difference in our investment returns, and even more importantly, our quality of life.

Implementation is the art of financial science: The way to deal with uncertainty is to prepare for it. Without uncertainty, there would be no opportunity. We always emphasize that risk and expected returns are related, which means you can’t have more of one without more of the other. Make the best-informed choices you can, then monitor performance and make portfolio adjustments as necessary. Come up with a plan to get back on track in case things don’t go as expected. And remember, you can’t control markets, so try to relax knowing you’ve made the best-informed choices you can. Great implementation requires paying attention to detail, applying judgment, and being flexible.

Tune out the noise: If an investment sounds too good to be true, it probably is. Stress is induced when people think that they can time markets or find the next winning stock. There is no compelling evidence that professional stock pickers can consistently beat the markets. Even after one outperforms, it’s difficult to determine whether a manager was skilful or lucky. Consistently finding big winners is difficult, but everybody can have access to the expected returns that a diversified, low-cost portfolio can generate.

Have a philosophy you can stick with: It can be difficult to stay the investment course during periods of extreme market volatility. We will all remember 2020 for the rest of our lives. It serves as an example of how important it is to maintain discipline and stick to your plan. By learning to embrace uncertainty, you can also focus more on controlling what you can control. You can make an impact on how much you earn, how much you spend, how much you save, and how much risk you take. This is where a professional you trust can really help. Discipline applied over a lifetime can have a powerful impact.

What type of retiree will you be?

Mike Drak writes that the producers of retirement commercials would like us to believe that all retirees are the same. They aren’t. To be happy in retirement, we need a good handle on what our needs are—financially and otherwise—and then find ways to satisfy them each and every day. That might sound difficult, but it isn’t. To help get you started, here are the three general types of retiree Drak discovered during his research on retirement:

  1. Comfort-oriented retirees. These folks like to avoid stress, instead favouring a safe, predictable retirement. They no longer have any goals. Retiring was their big goal and, now that it’s behind them, they just want to rest and take it easy. Comfort-oriented retirees don’t need much to be happy. Just the basics will do, food on the table, a roof over their head and some level of financial security.
  2. Growth-oriented retirees. These retirees have a need to keep stretching, exploring, learning and experiencing new things. If they can’t do that, they aren’t happy. They’ve created a bucket list a mile long and plan on knocking things off that list for as long as they can. They have a hardwired desire to feel “significant” and a need for accomplishment and contribution. Their work nourished these needs, and they lost that source of nourishment when they retired. Until they can find a way of replacing it, they’ll always feel like something is missing in their life. Self-actualizers, even retired ones, are never satisfied with how things are. They’re continually setting new personal goals that will challenge and improve them, so they can realize their full retirement potential.
  1. Self-transcenders. Self-transcenders look for a cause, a need, a problem to be solved, something that they’re passionate about. This becomes their mission. They know it isn’t how much you give that counts, but rather how much love you put into the giving. Helping those who are struggling leads to the “helper’s high,” a feeling of intense joy, peace and well-being. Helping others gives self-transcenders a strong sense of purpose. When they have what they consider a purpose-driven retirement, they’re happier. They can sleep peacefully at night knowing that they did something to help others. They wake up in the morning feeling excited and wondering, “Who can I help today?”

Drak suggests that one should now ask self: What type of retiree are you? If one can answer that question, you’ve taken a crucial step toward a happier retirement.

Adopt to survive and thrive

Robert Vinall writes that there are two contrasting approaches to investing – one placing more weight on the future; the other on the past. They are a reminder that the optimal strategy is a function of the era you invest in. If you are in a market characterised by rapid and widespread change, it pays to be forward-looking despite the inherent difficulty of judging the future. If, on the other hand, you are in a market where the pace of change is slower and more localised, then it may simply be better to bet on reversion to the mean as the future is too uncertain and genuine change too infrequent.

The older generations of value investors invested based on the assumption that historical patterns of cashflow generation would reassert themselves – better known as “reversion to the mean” – seemed the better strategy. Many of the great investing track records were built by investing in stable, unchanging businesses when they went through a period of underperformance on the assumption that they would eventually recover. It was an approach to investing that was based on a good understanding of a company’s history and the assumption that the future would not look too different to the past. It worked far better than betting on companies with short histories and big plans for the future, and it seemed obvious that it would continue to.

When the investing era changes, older investors have to adapt, which in practice does not so much mean learning new tricks as unlearning old ones. The former is certainly easier than the latter as learning is fun, but parting ways with cherished ideas are painful. In one important respect though, there is an advantage to experience. When the nature of the market does change, it should, at least in theory, be easier for the investor that has lived through different types of markets to adapt than for the investor who has only experienced one type. The younger investor suddenly finds themselves in the position of the older investor without the benefit of having experienced a change in the market before.

To increase the chances of adapting to different markets, Vinall sees one big thing an investor should do and one big thing they should not. The single biggest thing they should do is commit to adapt. The single biggest thing an investor should not do is tie themselves to a particular investment style or geography or industry or any other categorisation. 

 

 

 

More accuracy

Big Risks

Big risks are easy to underestimate because they come from small risks that multiply.

Big risks are easy to overlook because they’re just a chain reaction of small events, each of which is easy to shrug off. A bunch of mundane things happen at the right time, in the right order, and multiply into an event that might look impossible if you only view the final outcome in isolation. Math is hard, but exponential math is deceiving.

Covid is the same. A virus shutting down the global economy and killing millions of people seemed remote enough for most people to never contemplate. Before a year ago it sounded like the one-in-billions freak accident only seen in movies.

But break the last year into smaller pieces.

A virus transferred from animal to human (has happened forever) and those humans interacted with other people (of course). It was a mystery for a while (understandable) and bad news was likely suppressed (political incentives, don’t yell fire in a theatre). Other countries thought it would be contained (exceptionalism, standard denial) and didn’t act fast enough (bureaucracy, lack of leadership). We weren’t prepared (common over-optimism) and the reaction to masks and lockdowns became heated (of course) so as to become sporadic (diversity, same as ever). Feelings turned tribal (standard during an election year) and a rush to move on led to premature reopenings (standard denial, the inevitability of different people experiencing different realities).

Each of those events on their own seems obvious, even common. But when you multiply them together you get something surprising, even unprecedented. Big risks are always like that, which makes them too easy to underestimate. How starkly we have been reminded over the last year.

Source: Morgan Housel

12 Things to remind yourself when markets go crazy

Ben Carlson reminds us that there has never been a better time to be an individual investor than right now. And things are only going to get better from here. The problem with having all of these options available at your fingertips is that it’s never been easier to experience Fear of Missing out (FOMO). FOMO brings about a lot of emotions — greed, envy, regret — that make it difficult to make level-headed decisions with your money.

So here are some things Carlson reminds himself when markets go crazy to put things into perspective:

  1. There is no such thing as a normal market. Uncertainty is the only constant when investing. Get used to it.
  2. The most effective hedge is not necessarily an investment strategy. The best hedge against wild short-term moves in the markets is a long time horizon.
  3. Your gains will be incinerated at some point. Investing in risk assets means occasionally seeing your gains evaporate before your eyes. Carlson says he doesn’t know why and he doesn’t know when but at some point a large portion of his portfolio will fall in value. That’s how this works.
  4. You still have a lot of time left. Carlson says he is still young(ish) with (hopefully) a number of decades ahead of him to save and invest. That means he is going to experience multiple crashes, recessions, bull markets, manias, panics and everything in-between in the years ahead. The current cycle won’t last forever just like the last one or the next one.
  5. Know yourself. One of the biggest mistakes you can make as an investor is confusing your risk profile and time horizon with someone else’s. Understanding how markets generally work is important but understanding yourself is the key to successful investing over the long haul.
  6. There’s nothing wrong with using a “dumb” strategy. Buy and hold is one of the dumbest investment strategies ever…that also happens to have the highest probability of success for the vast majority of investors. There’s no shame in keeping things simple.
  7. The crowd is usually right. Being contrarian will always make you feel like you’re smarter than everyone else, but the crowd is right more often than its wrong when it comes to the markets. Yes, things can get overcrowded at times but being a contrarian 100% of the time will lead you to be wrong far more often than you’re right.
  8. Markets don’t end. For years pundits have been proclaiming I’ve seen this movie before and it ends badly. Well, guess what? Markets don’t end. Yes, some companies fail but most of them keep right on chugging along, selling products and services, making profits and paying dividends. And the stock market isn’t going out of business anytime soon. No one knows how this movie ends because there will always be another sequel.
  9. Anchoring is dangerous. Whenever there are huge moves in the market it becomes tempting to play the anchoring game. What if I would have bought at the lows? What if I would have sold at the highs? No one is able to consistently get in at the bottoms and out at the tops. Hindsight makes it look easy but it never is at the moment. Buying when something is falling is hard to act on because it always feels like it’s going lower while selling when something is rising is easy but most of the time you’re wrong.
  10. You don’t have to be bullish or bearish at all times. Focusing on your own goals can release you from the need to always have an opinion on the next move higher or lower.
  11. You don’t have to invest in everything. Sometimes the stuff you don’t invest in is even more important than the stuff you do invest in. It’s never been more important to have filters in place to guide your actions.
  12. Don’t worry about what everyone else is doing. There will always be someone getting richer than you in life and the markets. And with the advent of social media, that means people throwing this fact in your face constantly. This one is not easy but defining what a rich life means to you can help avoid unnecessary envy and regret.

Bull Markets

As equity markets around the world reach a new high, investors need to remember a few things about the bull markets. Here are some comments made by famous investors who have seen many bull and bear markets in their careers.

“Bull markets ignore bad news, and any good news is a reason for a further rally.” Michael Platt

“Gresham’s Law says that the bad money [paper] drives the good money [specie] out of circulation; this accurately describes human behaviour when people are confronted with a cost-free choice. I now believe this accurately describes people’s choice of investment philosophies, especially late in a bull market, when the sloppy analysis drives out the disciplined assessment, and when the grab for return overwhelms the desire for capital preservation.” Seth Klarman

“The longer the bull market lasts the more severely investors will be affected with amnesia; after five years or so, many people no longer believe that bear markets are possible.” Benjamin Graham
“In investor behaviour, particularly during the last stages of a great bull market, perception of risk and actual risk are at opposite ends of the spectrum.” Leon Levy

“People tend to forget about the importance of the price they pay as the experience of a bull market just sort of dulls the senses generally.” Charlie Munger

“Once a bull market gets underway, and once you reach the point where everybody has made money no matter what system he or she followed, a crowd is attracted into the game that is responding not to interest rates and profits but simply to the fact that it seems a mistake to be out of stocks. In effect, these people superimpose an I-can’t-miss-the-party factor on top of the fundamental factors that drive the market. Like Pavlov’s dog, these ‘investors’ learn that when the bell rings – in this case, the one that opens the New York Stock Exchange at 9:30 a.m. – they get fed. Through this daily reinforcement, they become convinced that there is a God and that he wants them to get rich.” Warren Buffett

“The further you get away from a bear market, the greater the number of people who have convinced themselves they can handle the downside – until the next time, of course. In the interim, if the indices are performing well, then you can bet that many investors – individuals and professionals, alike – are going to feel pressure to do whatever they can to ride the bull.” Steven Romick

“Never confuse genius with luck and a bull market.” John Bogle

“In a bull market, it is advisable to restrain one’s greed. There is an old wall street saying, ‘The bulls make money, the bears make money. But what happens to the pigs?’. You can’t make 101 per cent. You shouldn’t even strive to make 100 per cent. Your goal should be 66.6% of a big move. Get out and then reinvest in something that has been newly studied.” Roy Neuberger

“It’s just the nature of a rip-roaring bull market. Fundamentals might be good for the first third or first 50 or 60 per cent of a move, but the last third of a great bull market is typically a blow-off, where the mania runs wild and prices go parabolic.” Paul Tudor Jones

“Common stocks should be purchased when their prices are low, not after they have risen to high levels during an upward bull-market spiral. Buy when everyone else is selling and hold on until everyone else is buying — this is more than just a catchy slogan. It is the very essence of a successful investment.” J Paul Getty

“Very early in my career, a veteran investor told me about the three stages of a bull market. Now I’ll share them with you. The first, when a few forward-looking people begin to believe things will get better. The second, when most investors realize improvement is actually taking place. The third, when everyone concludes things will get better forever. Why would anyone waste time trying for a better description? This one says it all. It’s essential that we grasp its significance.” Howard Marks

Source: http://mastersinvest.com/bullmarketquotes

The Behaviour Gap

Coined by Carl Richards, “the behaviour gap” refers to the difference between smart financial decisions versus what we actually decide to do. Many people miss out on higher returns because of emotionally driven decisions, creating a gap — “the behaviour gap” — between their lower returns and what they could have earned had they not made an emotional decision.

What Causes the “Behavior Gap”?

#1: Excitement From Good Markets/Good News Many investors may feel tempted to increase their risk or capitalize on rising stocks when stocks are moving higher (aka ‘performance chasing’). This can lead to investors constantly readjusting their portfolios as the market moves higher. An investor who follows such patterns is likely to do the same with declines. This is a clear form of trying to time the market. Trying to consistently nail tops and bottoms in the market is a fool’s game.

#2: Fear From Bad News/Bad Markets As a response to COVID-19 and the market volatility that ensued, we saw a lot of investors flee to safer investments or move out of the market completely. All-in or all-out decisions in the market is hardly ever a good idea and caused investors to miss the subsequent recovery. When stocks are low, a common response may be to sell and effectively miss out on potential long-term gains.

#3: Trying to “Beat the Market” Many investors seek the help of a financial advisor to achieve above-average returns and “beat the market”, otherwise known as “alpha.” However, in this search for “alpha,” our humanness — our emotions and our behaviours — may cause us to do the exact opposite.

#4: Focusing on the Day-to-Day Sometimes it’s hard to focus on the bigger picture when things are running haywire in the short-term. It’s easy to get caught up in “today” and lose sight of “tomorrow”. However, making a rash decision can inhibit the long-term benefit that comes from maintaining a balanced perspective without reactionary behaviour. Your investments will thank you for trying your hardest to keep the end game in mind.

How to Not Fall Victim to the Behavior Gap
The stock market is going to go up. It’s going to go down. For long periods of time, the market will seemingly go nowhere. All of these are okay. In regards to the current crisis of COVID-19, many aspects are out of our control, but one thing we can control right now is how we handle our financial strategy. If you’re experiencing financial anxiety in response to the pandemic or potentially the presidential election, take a breath. Remember the potential for long-term gains. Of course, you can and should always reach out to your advisor for further clarification and reassurance.

Wise Words from Edwin Lefevre

Edwin Lefevre is most well-known for his classic book “Reminiscences of Stock Operator”. His talent was turning Wall Street stories and anecdotes he collected over the years into lessons on human nature. He pointed out the errors that plagued investors throughout the market cycle. He covered market history, uncertainty, probability, and he even dabbled in a little value investing. It turns out, Lefevre had a way with words. Below is a collection of his wit and wisdom.
1. All booms are alike. The stage setting varies, but fundamentally they are as drops of water. Customs, like costumes, change from the force of environment and economic conditions, but human nature remains the same.
2. The stock ticker knows more than everybody. It deals with results. It satisfies your cravings for action. It makes life worth living. And when it says that you are an ass, it convinces even you of it.
3. A man who has bought a stock against the advice of a conservative broker, and has doubled his money in a fortnight, finds his suspicions turned into convictions by that impartial judge, the stock ticker.
4. Knowledge, indeed, is the enemy of a speculator during a boom.
5. It is one of the maximums of speculation that stocks never go up, but must be put up.
6. After many years of studying Wall Street’s victors and victims, I must conclude that the American public still insists on losing its savings every time the old hook is baited with the immortal easy-money worm. After every smash, the blame is laid on the hook and not the hunger. In reality, the fault is seldom with the machinery of speculation and is usually with the psychology of speculators.
7. The higher the price goes, the less desirable the investment becomes as an investment.
8. Buying stocks of prosperous concerns may be good business — but only at a certain price. But if you will make sure you know what you are getting for your money, you will be doing what nobody does in a bull market.
9. You know that nine out of ten people who talk about the market talk about their profits. They crave applause for their cleverness.
10. From hardship to comfort, the gap is a million miles wide. From comfort to luxury, the step is only four inches long. Ask any man who has made easy money.
11. It is not the certainty of disaster ahead but the uncertainty of better days to come that keeps the investor from buying.
12. It is only fair to admit that the commonest and most expensive blunder that all exceptionally brilliant businessmen make is being right too soon.
13. Within obvious bounds, the average investor’s most valuable adviser is fear; not the panic variety but the kind you call caution or conservatism, for, after all, prudence is a wise and desirable fear if it smothers greed.
14. Consider investments of every period in history and you will find that a great adverse factor has always been the change, which is something nobody can prevent.
15. “Easy money” means only one thing when it means money that has come easy: It means the money goes even more easily than it came.

Source: www.novelinvestor.com

Portfolio Turnover is the Price of Progress

Portfolio Turnover – Investopedia describes portfolio turnover as a measure of how frequently assets within a fund are bought and sold by the managers. Portfolio turnover is calculated by taking either the total amount of new securities purchased or the number of securities sold (whichever is less) over a particular period, divided by the total net asset value (NAV) of the fund. The measurement is usually reported for a 12-month time period.

Ian Cassel writes that he believes there is an over-glorification of buy and hold investing among active managers. With the rise of private equity and venture capital, everyone is trying to invest in public markets with the same permanent capital mantra. The lower the turnover, the more cerebral and thoughtful you appear to be with initial investment decisions. Nothing looks better than being right from the very beginning. More often than not, low turnover is shown as a badge of honour. Many investors feel great pride and joy being a loyal shareholder of a company. It feels good to say you’ve held a company for 5-10-20 years. But in reality, what really matters is performance.

A big part of what made many investors great was spotting when they were wrong quicker. Successful stock picking isn’t just picking winners. It also means picking out the losers in your portfolio. The greatest advantage in public markets is “You can sell”. But you have to know when to sell.

We normally sell a position for three main reasons: Sell when the story changes for the worse; Sell when we find something better; Sell when a company gets very overvalued.

Investors aren’t going to be right all the time. Acknowledging this fact isn’t a justification for not doing upfront due diligence. What we do acknowledge is that we are willing to accept a degree of uncertainty for the sake of speed – getting in early. Often, an opportunity is an opportunity because the conditions aren’t perfect yet. The price of certainty can be expensive as it relates to discovery and valuation. When we find a business that aligns with what we like – speed is more important than certainty.

Our initial due diligence might get us into a position, but it is our maintenance due diligence that will keep us invested and/or save us from big losses. Our future returns are based on our ability to course correct and adapt to new information. We are going to have turnover because turnover is the price of progress.

Sometimes when you sell you have gained and sometimes you have losses. Cassel says he learned a long time ago to not let small losses bother him. A big part of being a successful investor is your ability to admit when you are wrong on a company while not letting it crush your confidence and slow you down.

When should I use a financial advisor?

Michael Batnik writes to debunk something that is probably common in a lot of people’s minds. An advisor cannot beat the market any more than you can. If you find an advisor who happens to deliver higher returns once adjusting for risk, then consider yourself lucky. But if that’s your expectation going into a new relationship, then sooner or later you’re going to be disappointed. So if you can’t beat the market and neither can an advisor, then why even bother? Because an advisor can tell you the most important thing. Am I going to be okay? Can I live the type of life I want to live? That’s it. That’s the job.

If you’re not sure you’re ready to have this question answered, below is an incomplete list of ways to know when the time is right.

When You Made A Big Mistake: You know you need to take your hand off the steering wheel when you can no longer be trusted to get to your destination. Past behaviour is the best indicator of future behaviour. We can learn from mistakes, but you pretty much are who you are. If you panicked last time and convinced yourself you’re going to be fine next time, you’re probably not being honest with yourself.

When you’re worried about your spouse: If you handle the finances in your household and are worried that your spouse would be unprepared to deal them in your absence, it’s probably a good idea to find an advisor. Even if you’re not ready to relinquish control, it makes sense to find somebody that your spouse can turn to in the event of your death.

When you’re tired of it: If you trade stocks long enough, you’ll realize at some point that despite the time, energy, and anxiety of it all, you would have done just as well if not better in an index fund. And if you’re sick and tired of checking prices during the day, of reading headlines at night, and of wondering what the election might mean for your portfolio, then you’re probably ready to hand over the keys.

When you don’t have the time for it: If you work long hours and come home to a family that needs your time and attention, the last thing you want to be doing is stressing out about which fund to buy. Or when is the best time to rebalance? When your life is being pulled in a million different directions, then it might make sense to reach out to a financial advisor.

When the stakes have gotten real: If you’re a young person with an Rs5,000 portfolio, a mistake like panicking in a bear market is something that you can recover from. If you’re older with more money and less time to replenish that lost money, it’s harder to come back from that.

When you feel paralyzed: If you’ve been meaning to sell your underperforming stocks but just can’t pull the trigger, or you’ve been waiting for the right time to put the cash to work, you could probably stand to consult with somebody. If nothing else, taking the emotions out of the equation will force you to finally take action.

When you want to get specific about your goals: If you want to buy a second home in ten years and retire in 20, an advisor can tell you whether or not this is possible. Of course, nobody has a crystal ball, but an advisor’s job is to let you know if it’s possible, or break it to you that you’re not even close.