Tag Archives: investing

Random thoughts – keeping you on your toes

Where does the money go?

Leave a comment

The last two days stock market indexes around the world have fallen significantly.  For many, the lost value of the last couple of days simply represents unrealized gains.

In a lot of cases, the value of a stock on Friday was far less on Tuesday leading to announcements of great losses.   The question is is the loss of an unrealized gain really a loss.

What is it worth?

If in the past year your portfolio value rose by say 20% and in the last two days the marketed dropped by 15% it is arguable that you have not really lost anything (this is a macro perspective for illustrative purposes – specific situations will vary)

As long as the original investment together within any paid dividends or interest is less than what the stock is valued today the only change is what people think your holdings are worth (not necessarily what they are really worth).

Paper Loss

An interesting thing about accounting is the value written on paper is indicative of what’s going on but does not necessarily represent hard reality (e.g., actual cash in hand).

In the equity market, the value can appear and disappear in moments the only thing that really matters is the value at the time of realization (i.e., when you buy or sell).

From a cynical perspective, money only has value when it is used to attain a physical benefit, for example, food, housing, clothing.   These are the things we need to stay alive.

Using equity markets to increase or decrease your supply of money can be a fun game and seem to have value, but the true value only comes at the time you spend the money on something you need.

 

Random thoughts – keeping you on your toes

Risk Adjusted Return

Leave a comment

I read an amusing article on on the weekend in which an investment advisor noted he finds many clients and even other advisors struggle with the concept of risk adjusted returns.

The greater the risk an investment might not be returned, the higher the return expectations.  Why would anyone  make a high risk investment without motivation; ( e.g., a higher return).

For Example

The article was about a typically Canadian investment vehicle, the Mortgage  Investment Corporation (MIC).  Created years ago by the Federal government to entice some alternate funding into a generally highly regulated sector (retail mortgages).

The advisor in question noted how a number of high net worth investors crowed to him each year how they were invested in a low risk high return mortgage investment corporation.

He asked these investors why the borrower took a mortgage loan from the MIC at 9% when all the major banks were offering mortgages at around 3% or less.

Do you think maybe the banks considered the loan too risky with a higher potential for loss.   That is the borrower represented a high risk investment.

In that case, the borrower took a mortgage from the MIC because they were the only ones that would take a chance on him.  And for the privilege he paid a premium (i.e., 6% above mortgage market rates).

Smarter than the Banks

It is doubtful those that invest in MIC’s have a good understanding of risk adjusted return, but these mortgage investment corporations are a great example of the principle.

Unfortunately there are far too many ill informed investors (and the MIC salesman isn’t going to tell them). It is not unusual for someone to make a large investment in an MIC only to be stunned when they can’t get their money back.

So, while these funds sell well, probably only a small number of the investors won’t be surprised if they suffer a risk event.  Sadly many are potentially in for a shock.

Random thoughts – keeping you on your toes

Governance – an exploration

Leave a comment

Very generally,  governance refers to undertaking processes and practices by which others actions/activities are controlled and directed.

In effect these processes and practices start with guidelines, laws and rules  and end with enforcement to ensure they are adhered to.  For example, speed limits are a law most of us are familiar with.

This law is a governance practice intended to reduce the risk of accidents (or it represents a government money grab) . Speed cameras are one enforcement practice associated with this law.  Fines are another.

Governance, Yuk

A typical reaction to governance is distaste.  Like most things though  governance has associated pro’s and con’s.  Low levels of governance  usually result in:

  • faster completion
  • greater flexibility/ innovation
  • simpler solutions
  • lower quality
  • greater risk of error
  • inconsistency across repeated activities

Clearly high quality, consistentency and low risk are better attributes than the opposite listed above.  Yet higher governance is usually less flexible, slower and lacking creativity.

What to do?

Both approaches to governance (a lot and a little) have pro’s and con’s generally exactly the opposite.  The best way to achieve the highest results (best of both worlds) is “surprise,surprise” through a balanced approach.

Too much or too little governance is not a one size fits all balance.  It is very contextual.  For example, as an investor you probably desire strong governance to be in place around your investment.

The intent is to risk your reduce of loss.  However if the regulations are too onerous the investment can be strangled by them.  You might not lose but you might not gain either.

An example of this is Trumps approach to reducing regulations put in place during the last financial crisis.

In his view the risks mitigated by these outdated regulations have subsided in the current economy and the regulations are holding back economic and job growth.

I am not sure I agree with his assessment but the principle of balancing governance practices to get the best result really does resonate with me.

Random thoughts – keeping you on your toes

Emerging Markets

Leave a comment

Less developed countries or the more politically correct term,  Emerging markets, refer to  countries that have some characteristics of a developed market, but do not meet standards to be a developed market. Frontier market is used for developing countries with slower economies than those of emerging countries.

This is a bit of a subjective classification.  What are generally considered to be obvious examples of each category are:

  • Developed – U.S., Japan, Canada, U.K., France
  • Emerging – India, Russia, Brazil, china
  • Frontier – Kenya, Cote de Ivoire, Nigeria

Capital Investment Opportunities

A colleague and I recently had a fascinating discussion about the advantages and disadvantages of investing in Emerging and Frontier economies.

The number one benefit is the opportunity for outrageous returns.  Return on capital of 1000% is not unknown – this over a short term of 5 to 10 years.

Of course the risk of losing everything is very high.  The more “frontier” the economy the greater the risk.   In short investing in emerging or frontier markets follows the basic axiom; high risk, high reward.

Mitigation

A key driver of the potential for poor results or significant losses arises from the environmental unknowns.   Things like political maneuvering, cultural norms (e.g., are bribes allowed, even expected), material constraints and so on.

My colleague suggested  these risks can be easily overcome by employing locals inhabitants or management firms who can guide your  investment past the trip wires.

My question was, why would I take these risks when my North American investment capital could return me 100% over 5 to 10 years with none of the environmental risks or unknowns?

Simply put why venture into the unknown when the known works just fine.  I guess ultimately it boils down to your appetite for risk.

 

Random thoughts – keeping you on your toes

Managing Investment Risk

Leave a comment

When you invest your money the basic objective is to get the highest return with the lowest potential you will not get all or even worse, any, of your investment back.

Risk Aversion Basics

The number of processes and techniques to avoid loosing money while maximizing return is virtually impossible to list.  New methods pop up every day.

I am referring to things like laddered bond etfs indexed to central bank rates when giraffes dance in Africa.   For me, the best place to start is simple and basic.

Weird esoteric investments and associated practices have their place but these are contextual.  If you are a day trader, a bank or a fund manager, things like covered calls, long puts or rate swaps might appeal.

For the average retail investor there are much simpler and possibly more effective approaches to consider first.

Top Three Risk Mitigators

1) Do the research – If you are struggling to understand how an investment works, stop.  Only invest in things you personally fully understand how the returns or losses occur.

2) Leverage Asset Classes – There are three basic asset classes.  Balance the assets within your investment portfolio according to your willingness to take losses while seeking high returns.

Cash – things like GIC’s, savings accounts, paper money under the mattress.  These investments typically have the lowest return and the highest likelyhood at a minimum you will get your original investment back. Cash and savings accounts are typically very liquid.

Fixed Income – things like Government and Corporate bonds the inestments are usually granted a higher priority in terms of security in event of bankruptcy and will pay regular income (monthly, yearly, etc)

Equities – This type of investment is the least secure but can offer the opportunity for the higest return.

3) Balance the Sector – all investments fit into some category.  For example real estate, transportation, financial and so on.  Overweighting your investment in one sector or another can be profitable but also exposes a greater risk in the event that sector comes under stress.  An example of this was financial investments in mortgages  suffered as a whole in 2008 due to the crash in the real estate market.

Starting with these three simple to understand concepts can lead you to more advanced concepts, however, understanding the basics will lay a foundation for trying the more complex in the future.

 

Random thoughts – keeping you on your toes

Personal Financial Management

Leave a comment

Having a financial plan ( that is a document of what is going to be done by whom and when relative to your finances) is a critical underpinning of your personal financial health. However, without validation, the plan looses a lot of value.

Annual Review

Personally I think a review as least annually is the minimum although some probably like to check how there are doing more often.  Less often provides to great a risk that important adjustments get missed and ultimately result in the plan no longer being achievable.

I do my reviews on a calendar year basis and have 2016’s currently underway – hence this post.

What is it?

Simply put the review should consist of four things:

  • Income – How much was it and where did it come from.    This could be on a before or after tax basis (if after tax you don’t need to track taxes as a separate expense item).
  • Expense – what did you spend your income on, the use of categories here to group expenses is pretty well mandatory so the document is not unwieldy.  It should have enough detail though to be enable meaningful analysis and decisions.
  • Income less Expense –  This is pretty important.  If you are spending more than your income some adjustment is likely needed.
  • Investment Income –  I do a more detailed separate breakdown on this income because of the risk and volatility associated with it.   The focus of this review is obviously realized and unrealized capital, interest and dividend incomes (or losses but I try to avoid those.)

For What time frame?

The longer period the data covers the better and this is really key for good retirement planning.  For me the data covers 20 years.

Now the question is, based on this data, are things proceeding as you planned?

That means focusing on questions like;

  • Are there unexpected increases in expenses?
  • Considering what stage your plan is at is the increase in net income or decrease as expected?
  • Is inflation occurring at expected levels (e.g., checking the average cost of property tax over time – assuming the base property is the same gives a sense of what percent it is creeping up – 20 years of data really help with this.)

And so on.  The same type of thought process can be applied to your investment portfolio.

And finally, figure out what you need to change, adjust the plan and you are good until next year.

Note:  Net worth analysis and change over time, future income forecasts, and expense forecasts, market and inflation analysis, security considerations (e.g., insurance) are all advanced attributes but this post is focusing on the basics.

 

Random thoughts – keeping you on your toes

Leveraging your Financial Advisor or Broker

Leave a comment

I regularly recommend managing your financial plan and investments yourself if at all possible.  It is not a trivial effort but no one is as invested (pun intended) in your financial affairs like you are.

Whatever you do, the impact on your financial advisor/broker is irrelevant.  I mean it’s nice to make money for them as well as for yourself I guess, but really they are just a tool to help you.

Fess Up

I am a big proponent of do it yourself investing.  No one can do it better than me.  However, I must confess I am fortunate to have an equal partner when it comes to financial planning and investing (my wife).

Without this  partnership I probably would consider employing a professional to assist me.

Fortunately that is not the case.  The real nice thing is my wife and I complement each other beautifully.  While she plays the financial analyst/ broker role I am the feisty client.  For us this interplay is natural and really works.

Self Serve  Financial Mgmt

If you can manage your own finances the results are probably better than trusting another person.   It does require a lot of effort though and the optimal scenario is probably the kind of partnership my wife and have created.

We are fortunate in being able to share equally the effort while collaborating and playing off each other to get the best from our skills.   We also share equally in successes and failures.  No finger pointing here.

 

Random thoughts – keeping you on your toes

Managing the Investments

Leave a comment

This is the eight post in a series I started on August 26th.  The intent is just to explore the basic framework for investing of any kind.  The first post includes a definition.

There are three steps to investing; deciding what to buy, managing the investment (monitor) and finally sell (for profit).  The last six posts focused on step one.

Manage

This is pretty straightforward.  You monitor the investments to make sure they are performing as expected and make decisions (if needed) to hold, improve or get out.

Your approach to this step can be passive, active or all points in between.  This is a very personal choice and is somewhat related to your investment objectives and tolerance for risk.

Simplistically, low tolerance for risk can usually equate to frequent check-ups while high tolerance can lead to a very laid back approach.

Whichever you choose, the key here is understanding what the measures are that will trigger an action.  These can vary widely and again are a personal choice.

Examples of Metrics to Monitor

What things matter most will depend on your investment objectives. If your focus is income investing (dividends, interest) the measures can be the size, frequency and changes in the income stream (e.g., increases, decreases)

Monitoring investments for growth or value would lend themselves more to metrics like changes in the earnings per share, overall valuation of the company, price to earnings and so on.  There are uncountable statistical measures that can be applied.

The overall health of the company and the economy can also be considerations.

Making Change

If your monitoring results are going downhill that does not necessarily mean to get out of the investment.  Depending on the type of investment (property for example) you can actively participate in creating improvements.

For equity investments you can lobby management and or the board or use your shareholders vote at annual and special meetings to try and illicit change.

Critical Step

Be forewarned though this is a critical step.  Investing is not typically something you buy and forget, although there are some investments that are more suited to this approach than others (usually low risk/low return.

Next post I will lead from managing to the final step -selling for a profit.

Random thoughts – keeping you on your toes

Exploring Investing Some More

Leave a comment

My last described the investing process in three simple steps with a brief summary of each steps.  These formed a simple framework for successful investing using a real estate flip as an example.

Step 1 – Selecting the investment

There are numerous types of investments and as many if not more styles (i.e., how you select and maintain your investment.). There is no rule that you need to pick one style and follow it exclusively.

You can keep multiple portfolios each managed with a different style, or mix and match styles in one portfolio, keep to a single style or all of the above.

Most importantly, don’t fall into an approach accidently or by default.  Consciously map your investing style to most likely match your objective.

That is where the selection process starts.  State your objectives.  Making lots of money with zero risk of loss is a great objective, unfortunately it is not realistic nor is it specific.

A better example of a realistic (but agressive) objective would be; a net annual return of 15% averaged over 5 years with losses in a single year never exceeding 5%.

Picking  a Style

The goal is a risk averse approach to achieving an agressive return (in the context of a low interest rate environment). This type of clear and readily measurable objective can guide both your style and types of investment to select.

I will pick this up tommorow, exploring style and investment options together with how they can map to your goals.

 

 

 

Random thoughts – keeping you on your toes

Self Serve Investing

Leave a comment

In an opinion column in the Globe and Mail the other day, it was suggested a lone retail investor would not be able to analyze and select equities any better than a professional investment analyst/ portfolio manager

The key arguments are:

  • whether a buy or sell side analyst they generally have years of training, personal experience and can draw on the experience of their colleagues
  • the analysts generally focus on one or two equities or at very least concentrate on a single sector
  • their day to day focus is to study the data and draw conclusions/make recommendations with associated documented rationale

The conclusion of the opinion piece was individuals who wanted to manage their own investments should buy ETF’s (exchange traded funds) which are generally low commission and linked to an index, commodity or hedge strategies (to name some of the top associations)

That is, you can’t beat the experts when it comes to buying individual equities so go with group think.   This thinking does not conform to my own opinion .

Worth the Effort?

As I have noted before it’s your money and you have the most to lose or gain.  Making a bet on a fund is just that, gambling.  Relying on an investment advisor or portfolio manager who are  basing their recommendations on others work (the analysts) requires a lot of trust and faith.

Spending the time to do careful research, arriving at my own conclusions is extremely effective for me. Firstly I see the value in spending the effort personally.

More importantly though whether I gain or lose I took the risk, I made the decision and win or lose I can own it ( after all, it is mine to own).

Of course if things are not working I can always switch my strategy.  Fortunately, for me, with over 20 years of equity investing I am averaging over 15% a year. ( And that is without funds -yuck).