29 February 2016

The needs for Investment

I still remember when my dad was still around (in the 1990s), he used to tell me not to anyhow spend money and also teach me to be frugal. He used to tell me "Do you know that last time a plate of Char Kway Teow (aka fried noodle) only cost $0.50 - $0.70 (1980s)? Now it cost $1.50-$2!"

Now in the year of 2016, a plate for Char Kway Teow easily cost $3-$4.

What are the rate of inflation?

Lets do the math!

From 1980s till today, in the course of about 35 years, annualized inflation rate for a plate of Char Kway Teow is:

Step 1: $4 - $0.50 = $3.50
Step 2: ($3.50 / $0.50) x 100% = 700%
Step 3: 700% / 35 years = 20%


How about  CAGR (Compound Annual Growth Rate) of a plate of Char Kway Teow? Let's find out!

Step 1: [($4/$0.50) ^ 1/35] - 1
Step 2: (8 ^ 0.02857) - 1
Step 3: 1.0612 - 1
Step 4: 0.0612 x 100% = 6.12%

Oh my goodness, a plate of Char Kway Teow annualized inflation is 20% from 1980s till today and the compounding growth rate of it is 6.12%! Are your salary able to keep up with the inflation of a plate of Char Kway Teow? Did your salary increase by 20% (annualized per year) or are you able to compound your investment by 6.12% ever since you started work till now? If the answer is yes, good for you because you have the same purchasing power from the moment you started work till now and likely you won't feel any pressure or stress for inflation. For those who answer is no, what should you do?

Invest lor! Yes! That's the answer! Why is that so? Imagine, you are the share owner (due to your investment) of the Char Kway Teow stall, over years with the price of a plate of Char Kway Teow increase, definitely you will get increase in profit (assuming with the proportionate increase of revenue and cost of goods sold)!

So the real intention of investment is not really to become rich (though likely you will become wealthy over time due to reinvestment), it is to maintain the same amount of purchasing power overtime!

22 February 2016

How to determine value of a business?

There were 2 stalls selling chicken rice; one belongs to Mr Tan Ah Kow (quite reputable) and the other one belongs to Mr Lim Ah Seng (not so reputable). Both are in the chicken rice selling business for very long time about 30 over years. One day both Mr Tan and Mr Lim were chatting to each other:

Hey Ah Kow, how's your business recently? Ah Seng asked. Ah Kow replied "Business is still doing good, however recently I'm thinking about selling off my business for retirement, I will be 65 years old next year and I think its times for me to enjoy my retirement and at the same time I can help my daughter to take care of my 2 little cute grandchildren.

"Hmm......, perhaps I should also sell off my business and enjoy my retirement! I have been working for so long and I'm approaching 70 years old soon" Ah Seng thought to himself.

Now lets look at how they have been managing their chicken rice business for the past 30 over years:

Mr Tan is a very hardworking, responsible and cheerful person, his chicken rice is selling at $6 per plate. This has caused some resentment from his customers and feedback that his chicken rice is very expensive as compared to the average chicken rice selling in the kopitiam (aka coffee shop).

Despite that, Mr Tan has a very wide range of regular customers (from young kid to the elderly) buying from him daily. Sometimes he will get scolded as most of his customers need to Q for very long before they could get a taste of his chicken rice.

At times, Mr Tan also responded to customer's feedback regarding the price of his chicken rice. He sincerely apologies to his loyal customer "I'm sorry folks, my profit margin is very little, the quality and ingredients of my chicken rice are among the freshest and the meatiest chicken from the suppliers, also in order to prepare the chilies, I have to wake up 2-3 hours earlier to do all the preparation work"

Although Mr Tan has a very narrow profit margin, he try to adopt cost saving strategy like using only 2 big pails of water to wash his equipment after closing stall and switching off all the lights and unplug all electrical appliances 15 mins earlier before he closes his stall.

Mr Lim on the other hand is someone who always like to take short cut and think of ways to make the most profit from his customers. His chicken rice is selling at $3 per plate as he knows that most eaters like cheap food so he always think of ways to slash his raw material price from his suppliers and ended up he would usually get chicken meat which is not as fresh as Mr Tan. His chilies are also very watery and tasteless.

Very often, Mr Lim would get complaints from his customers that the chicken rice seem overdue as there are sour taste. Mr Lim would usually shows no remorse and told them off: "You want to buy you buy lah, if you don't like you can patronize other stalls!"

Over the years, though Mr Lim continue to enjoy higher profit margin than Mr Tan, his business has been declining although there are still some regular customers mainly the construction workers and foreign workers coming from the construction site and factories located opposite of his kopitiam stall.

To Conclude:

Now imagine both Mr Tan and Mr Lim are selling their businesses at the same price to you. You as an investor are looking to invest in an existing food business with a good system implemented and all these information are not being presented to you, likely you will choose a business with good profit margin and pricing strategy better than the competitors (for example).

However after you had done your extensive research and all the information are presented to you as shown above, would your choice still be the same? Or would you now choose the one with a higher profit margin and less competitiveness in prices? Or rather, would you like to try their chicken rice first before making any decision?

19 February 2016

Price vs Value

Most of the time we heard that a lot of aunties know how to look for bargains or good deals, especially if you are those type of person who loves to go to the wet market and buy fish, vegetable, prawn, chicken, duck etc. So what does it really takes for a person to really know where, what, when and how to look for bargains?

If we were to boil it down to the simplest approach, its all about price and value! Now imagine you are an auntie who do once a week wet market shopping, you need to buy "raw materials" to cook and prepare meals for your families. One day, you saw that there's a fishmonger shouting "Offer, offer, big offer, today all fishes selling at half price than a week ago" On the other hand, when you went over and visit the vegetable stall, the auntie seller told you that the price for all vegetables will cost 3 times more now as the weather affect the harvest of the crops.

Given this scenario, what would your reaction be? Probably your mind will be telling you "Hey! Since the price of all the fishes is on a 50% discount, i will buy more and since the vegetable now cost 3 times more expensive, perhaps I shall not cook any vegetable for dinner tonight!"

For daily essential needs, when the price goes down, we will tend to buy more and vice versa. I hope by now you can see the relationship between price and value. So now the question you may ask yourself "So what are the factors that determine price and value?" If this question has run through your thoughts, give yourself applause! You possessed the ability to think!

Why do you think the fishmonger will sell you his fishes at a 50% discount and the auntie selling her vegetable at 3 times more? To find out more, you walked over and ask the fishmonger and the fishmonger told you "That's because recently Japan "radiation leak" had caused so much fear that nobody dare to eat my fishes now and my business was so bad!!!"

"hmm....., you thought to yourself with some enlightenment" Supply and demand + fear! When everyone is so afraid to buy seafood, the price of it will drop tremendously since given the same amount of supply, with lesser demand, the price will fall.

If you can apply this analogy to the financial market, I believe by now you can see some co-relationship. However most retail investors have the misconception of price. Most think that $100 per share of a company is more expensive than $1 per share of another company. This is a very big misconception. The reason behind this is we have yet to compare it's value!

Imagine your body for your daily activity requires 3000 calories.

This carrot can provide your body with 100 calories, (just giving you an example)

This carrot cost you $1 per unit.

Logically you need to buy 30 carrots to meet your body nutrition requirement which will cost you $30.

This orange can provide your body with 500 calories (another example)

This orange cost you $3 per unit

In order to meet your body nutrition, you would need to buy 6 oranges ( 6 x 500 calories  = 3000 calories)

And buying 6 oranges cost you $18

In conclusion, what your body needs is only 3000 calories, by preferring to buy 6 oranges than 30 carrots you achieve a cost savings of $12!!!! Now if you can see the co-relationship between vegetable and the financial market (by comparing companies) then you will understand that $100 per share of a company is not necessary more expensive than a $1 per share of another company

17 February 2016

Speculator vs Investor

Definition of a Speculator: A person who engaged in a commercial or financial speculation. Usually this type of person engaged in activities to buy high and sell low or vice versa to make a profit out from the market he trades.

Usually speculator has a shorter time frame which last less than a year and has a higher risk appetite. A dumb speculator treat the market as a gambling ground and his emotion is likely affected by the market movement. Whereas an intelligent speculator has some common traits like; patience, market experience, discipline etc.

 Definition of an Investor: A person who put money to use, by purchase or expenditure in something offering potential profitable returns, as interest, income, or appreciation in value.

Investor generally has an average or lower below average risk profile. he seeks to understand the fundamental of the businesses he invested in and the volatility of the market fluctuation has no impact on his emotions. Investor also has a longer time frame of more than a year and usually they would like to hold their investments for a lifetime as long as the businesses remain in tact and profitable.

Now, should you be a Speculator or an Investor. Certainly most would say Investor!!! However after so many years exploring in the investment arena, Personally i think it would be best if you can be BOTH!

Yes, no doubt speculation is risky like climbing up a mountain conquering the Mount Everest and any losses incurred will set your financial goals backward. However, speculation if done intelligently (with a "green edge" personally I call it) then most risk will be reduced significantly and it will propel your financial goals forward progressively.

Last but not least, be it being a speculator or investor ultimately we need to enjoy whatever we are doing as time wait for no one. One day we will be an old and wise person and when you look back in time, we want to say to ourselves that "hey! I'm glad that I had pursued my interests, my passions and I lived a life worthwhile!"

16 February 2016

Penny stock vs Blue chip

What is a penny stock? if you were to seach the web you will find out that shares that are trading below $1 and according to SEC (Securities and Excahnge Commission) shares that trade below $5 are term as penny stock. Since penny stocks are low priced, most have a very low market capitalization.

However to me, my own definition is share trading at below $1 are term as penny stock. Now, why is that so? Because the word penny simply means "a bronze coin, the 100th part of the dollars of various nations, as Australia, Canada, New Zealand, and the United States; one cent"! As simple as that!!! So as long as they are trading in cents, they can be known as penny stocks.

What is a blue chip and how does the name derived? the word blue chip actually came from the game of poker as blue chips have the higest value! Blue chip companies tend to be high quality and usually are high priced (some call them the polished diamonds). They are high priced genrally because of public confidence that they have stable earnings, strong name in it industry and have been in the business for long. Personally I have know some investor who told me that as long as the company pays dividends consistently for more than 5 years, they can be called a blue chip company.

Now you have learnt the definition of a penny stock and a blue chip, so is it always better to invest in blue chip than penny stock? This is the question most investors will got it wrong be it the newbies or the seasoned ones, most thought that blue chips are always better than penny stock. In fact, the answer is NO!

I had came to know an investor (no name mentioned) who invested in blue chip after getting his profit from penny stock lost all his money as the authorities found some financial irregularities in that particular blue chip company and few months later that blue chip company went bust!

 Therefore, be it blue chip or penny stock, as an intelligent investor we need to find out more about the company we invested in. Some of the questions we need to ask ourselves are:

1) How does the company make money from their businesses?
2) Are there any irregularities in their annual report?
3) Have their earnings been consistent? Etc........

12 February 2016

About ETF

What is an ETF? An ETF is Exchange Traded Fund. Its usually tracks indices, commodities, bonds, etc. Although ETF can be bought, sold or hold like shares, not all ETFs are recommended.

Most people have the misconceptions that all ETFs are better than individual stocks as they are more diversified and the cost will be lowered due to owning a baskets of financial assets. However individual investor need to take note that ETFs can also track only a few concentrated sectors of shares and it can also has a high expense ratio also which will "eat" away the returns that individual investors ought to get in the long run.

So rule of thumb is; unless the individual ETF has a diversification of at least 30 stocks (preferably good quality companies) and a very low expense ratio, then its is recommended to hold long term, especially for the case of index ETF which personally I believe that index in the long run will be in uptrend.