Friday, 28 February 2014

The Benefits of Dollar-Cost Averaging in a Volatile Market

The Benefits of Dollar-Cost Averaging

Volatile Market that ends up flat

Period      Amount       Price        No of shares 
             Invested $      $       Purchased 
1       1,000       100       10.00 
2       1,000         80       12.50 
3       1,000         60       16.67 
4       1,000         80       12.50 
5       1,000       100       10.00 
Total Invested       5,000             
Total shares purchased                   61.67 
Average cost of shares purchased $                   81.08 
Value at period 5 ($)             6,166.67       
Ebullient Market that rises continually                  
Period      Amount       Price        No of shares 
             Invested $      $       Purchased 
1       1,000       100       10.00 
2       1,000       110       9.09 
3       1,000       120       8.33 
4       1,000       130       7.69 
5       1,000       140       7.14 
Total Invested       5,000             
Total shares purchased                   42.26 
Average cost of shares purchased $                   118.32 
Value at period 5 ($)             5,916.32       

The table above shows that you actually end up with more money in the scenario where the market is very volatile and ends up exactly where it began.

In both cases, a total of $5,000 is invested over the 5 periods.  

In the flat volatile market, the investor ends up with $6,167, while in the scenario where market prices rise continually, the investor's final fund stake is only $5,915.

Learning Points:

Warren Buffett, has a nice way of showing that you might actually wish for lower stock prices (at least for awhile) after you begin your investment program.

He writes:

If you plan to eat hamburgers throughout your life and are not a cattle producer, should you wish for higher or lower prices for beef?  Likewise, if you are going to buy a care from time to time but are not an auto manufacturer, should you prefer higher or lower car prices?  These questions, of course, answer themselves.

But now for the final exam:  If you expect to be a net saver during the next 5 years, should you hope for a higher or lower stock market during that period?   Many investors get this one wrong. Even though they are going to be net buyers of stocks for many years to come, they are elated when stock prices rise and depressed when they fall.  In effect, they rejoice because prices have risen for the "hamburgers" they will soon be buying.  This reaction makes no sense.  Only those who will be sellers of equities in the near future should be happy at seeing stocks rise. Prospective purchasers should much prefer sinking prices.

How to be a millionaire? Save regularly and save early.

Dollar Cost Averaging Can Reduce the Risks of Investing in Stocks and Bonds

Dollar cost averaging is not a panacea that eliminates the risk of investing in common stocks.  

It will not save your investment plan from a devastating fall in value during a year such as 2008, because no plan can protect you from a punishing bear market.  

You must have both the cash and the confidence to continue making the periodic investments even when the sky is the darkest.

No matter how scary the financial news, no matter how difficult it is to see any signs of optimism, you must not interrupt the automatic pilot nature of the program.  

Because if you do, you will lose the benefit of buying at least some of your shares after a sharp market decline when they are for sale at low prices.  

Dollar cost averaging will give you this bargain.  Your average price per share will be lower than the average price at which you bought shares.  

Why?  Because you will buy more shares at low prices and fewer at high prices.

Some investment advisers are not fans of dollar cost averaging, because the strategy is not optimal if the market does go straight up.  (You would have been better off putting all $5,000 into the market at the beginning of the period.).  

But it does provide a reasonable insurance policy against poor future stock markets.  

And it does minimize the regret that inevitably follows if you were unlucky enough to have put all your money into the stock market during a peak period such as March of 2000 or October of 2007.

There is tremendous potential gains possible from consistently following a dollar-cost averaging program.

Because there is a long-term uptrend in common stock prices, this technique is not necessarily appropriate if you need to invest a lump sum such as a bequest.

If possible, keep a small reserve (in money fund) to take advantage of market declines and buy a few extra shares if the market is down sharply.  

Though you should not try to forecast the market, it is usually a good time to buy after the market has fallen out of bed.

Just as hope and greed can sometimes feed on themselves to produce speculative bubbles, so do pessimism and despair react to produce market panics.  

The greatest market panics are just as unfounded as the most pathological speculative explosions.  

For the stock market as a whole (not for individual stocks), Newton's law has always worked in reverse:  What goes down has come back up.  

(A Random Walk Down Wall Street, by Burton Malkiel)

Thursday, 27 February 2014

Roller coaster ride of the stock market (Market Volatility).

What is Financial Planning and How Can We Fix It

Cash Flow Investments

Cash-Flowing Investments
Private Equity
Hedge Funds
Alternative Strategies
Real Estates
High-Yield Bonds


Volatile Stock Market

Fundamentals of Wealth Management - The Complete Lesson

Published on 7 May 2012
The complete lesson.

Dow Wealth Management offers the services of a world-class investment firm dedicated to improving clients' financial lives and making their futures more secure. As an independent firm, Dow Wealth Management provides objective advice and is committed to excellence for its clients. The Dow family has been investing traditionally in the securities markets since 1937.

Before attempting to structure a portfolio that might be capable of delivering long-term investment success, we must first understand the nature of the financial markets in which we will operate and the inherent limitations we are sure to confront as investors.

This video, Fundamentals in Wealth Management, will help to acquaint the investor with these dynamics and then illustrate how Dow Wealth Management seeks to position its clients' portfolios for long-term investment success. We could call it "How to survive bad markets...and thrive in good ones."

@6.08 The 3 issues addressed in this video.

1. The Life Cycle of Family Wealth: Accumulation, Preservation and Growth of Mature Wealth. Wealth preservation and growth became more important than wealth accumulation.
2. Defining the Investment Problem: The Dow Wealth Management Analysis
3. The Dow Wealth Management Approach

Burton Malkiel: How to Invest

Uploaded on 12 Feb 2010
Princeton economist Burton Malkiel says simplicity is key to a successful portfolio. He discusses emerging markets, index funds, and more with Eric Schurenberg

Random Walk Down Wall Street by Burton Malkiel

Uploaded on 13 Sep 2011
Dr. Burton G. Malkiel, the Chemical Bank Chairman of Economics at Princeton University and author of the widely read investment book, A Random Walk Down Wall Street, shared his investment views and strategies in a talk on September 12 to SIEPR Associates.

The fundamentals of portfolio management

The fundamentals of portfolio management

Lessons In Financial Literacy: In this show, Anil Chopra, Group CEO & Director of Bajaj Capital Ltd and Gaurav Mashruwala, a financial planner, share their views to understand the subject of financial planning better. The show talks about the importance of investment planning, investment planning steps and ideal saving break-up.

Country Guide: Malaysia

Country Guide: Malaysia

In association with PwC

Malaysia’s export-driven economy is spurred by high technology, knowledge-based and capital-intensive industries. Political and economic stability, investor-friendly business policies, cost-productive workforce, and a host of other amenities, makes this country an enticing place for foreign investment - especially in areas such as manufacturing, and particularly in high- technology, biotechnology industries.

CFA Level I Portfolio Management An Overview Video Lecture

Uploaded on 26 Sep 2011
This CFA Level I video covers concepts related to:

• Portfolio Perspective
• Portfolio Definition
• Diversification
• Investment's Contribution to Risk and Return
• Markowitz Framework: Standard Deviation as a measure of Risk
• Diversification Ratio

For more updated CFA videos, Please visit

Wednesday, 26 February 2014

Create a Portfolio You Don't Have to Babysit

Great Q&A starting @ 42 min. Very insightful

Published on 14 Jun 2012
In this special one-hour presentation, Morningstar director of personal finance Christine Benz and ETF expert Mike Rawson discuss how to build a low-maintenance, hands-free portfolio that will help you reach your financial goals.

Note to viewers: Filmed in late April 2012, this Morningstar presentation was part of Money Smart Week, a series of free classes and activities organized by the Federal Reserve Bank of Chicago and designed to help consumers better manage their personal finances. Morningstar is a Money Smart Week partner.

Download the presentation slides here:

John C. Bogle - The Battle for the Soul of Capitalism

Dean Lawrence R Velvel interviews John C. Bogle, founder of the Vanguard Group, Inc. and president of the Bogle Financial Markets Research Center, about his book The Battle for the Soul of Capitalism. Bogle analyses what went wrong in corporate america, from pension plans to corporate profits to mutual funds to stock options to corporate greed.

2 markets:  Business market and the Expectation market

@ 34.30 min - Owner capitalism is now transformed into a pathological mutant form where the managers have taken far too large a proportion of the share of the profits.  Today financial institutions own 68% of all stocks; they are traders and speculators mainly, playing in the expectation market.

@ 49.30 min - Costs of mutual funds.

@ 53 min - The magic of compounding returns.  The tyranny of compounding costs.  The tyranny of compounding costs overwhelmed the magic of compounding returns.  Get rid of costs and emotions.

Mr. John Bogle speaks on many issues related to investing. Don's listen to history.

Lange-Bogle 1: Investment vs. Speculation
Published on 4 Feb 2013
Noted IRA expert and estate planning attorney, James Lange, interviews Vanguard Group founder, John Bogle. Here, Jim discusses Mr. Bogle's history as a leader in the financial world and delves into a discussion of his newest book, The Clash of the Cultures: Investment vs. Speculation. Mr. Bogle explains his definitions of investment and speculation and tells us why he feels only one of these path creates wealth.

Lange-Bogle 2: Speculation - A Loser's Game
IRA expert and best-selling author, Jim Lange and John Bogle, founder of Vanguard, discuss the cultures of investment and speculation. Investment is about long-term wealth creation by investing in the growth of corporations. The culture of speculation is akin to betting, and in John Bogle's perspective, the house always wins!

Lange-Bogle 3: What Hurts the Everyday Investor Now
James Lange, CPA/Attorney and host of The Lange Money Hour and John Bogle, founder of Vanguard, go over the hard facts. Of the 33 trillion dollars that change hands every year in the markets, only 250 billion of it can be characterized as true investing. John Bogle speaks plainly about the mess Wall Street is in, and the role speculation has played in getting it there.

Lange-Bogle 4: Conflict of Interest in Our Broken System
John Bogle, founder of Vanguard, shares with Attorney and CPA Jim Lange, where he feels the system is broken and how we find ourselves in our current speculative culture. There is a critical conflict of interest that prevents our money managers, agents, and financial institutions from being true fiduciaries. Who is looking out for the interests of the shareholders?

Lange-Bogle 5: The 10 Gatekeepers of our Financial System
Noted IRA expert and estate planning attorney, James Lange and John Bogle, founder of Vanguard, discuss Bogle's broad indictment of the gatekeepers of our financial system in his newest book, "The Clash of the Cultures: Investment vs. Speculation." The gatekeepers of our system, according to Bogle, are more interested in the current price of stock, the speculative aspect of it, rather than the support of thriving companies and creation of long-term wealth for shareholders.

Lange-Bogle 6: The Cause of the Recession and How to Fix It
John Bogle, founder and former CEO of Vanguard, talks to Attorney and CPA, Jim Lange, about the terrible fraud perpetrated by mortgage companies and how the severed link between the borrower and the lender sent our economy into a tail spin. If Bogle were Czar, he would pass a federal statute eliminating conflicts of interest and demanding fiduciary duty of money managers.

Lange-Bogle 7: The Need for Full Disclosure
IRA expert and best-selling author, Jim Lange and John Bogle, founder of Vanguard, discuss the need for an industry standard for full disclosure of not only potential conflicts of interest, but also the true cost of unreasonable fees and commissions. John Bogle feels that fees are often underestimated and if the public truly understood the costs of the investment choices they made, the world would be a different place in which to live and invest.

Lange-Bogle 8: "Don't do something, just stand there!"
James Lange, CPA/Attorney and host of The Lange Money Hour and John Bogle, founder of Vanguard, talk about the history of success in indexing and how the passive strategy behind "Bogle's Folly" (the Vanguard 500 Index) went from foolishness to genius with decades of proven results. Active managers do not beat their benchmarks a strong majority of the time. Owning all the companies and holding them forever has been proven a winning strategy and, in Bogle's opinion, is the only way of being a true investor.

Lange-Bogle 9: Time is Your Friend, Impulse is Your Enemy.
James Lange, CPA/Attorney and host of The Lange Money Hour and John Bogle, founder of Vanguard, talk about the importance of not relying on past performance to predict future results and the miracle of compounding interest. Like the Law of Gravity, Reversion to the Mean is an eternal rule. What goes up must go down, even in the stock markets. Time is your friend (the miracle of compounding pays off hugely). Focus on the long term. Resist the impulse during periods of adversity and fear.

Lange-Bogle 10: Simple Rules for Investment Success
Noted IRA expert and estate planning attorney, James Lange and John Bogle, founder of Vanguard, go over a few of the "10 Simple Rules" laid out in Bogle's newest book, The Clash of the Cultures: Investment vs. Speculation. These are some new twists on classic Bogle investment advice, or "Bogleisms," including: "Buy Right and Hold Tight," "The Bagel and the Donut," "Forget the Needle, Buy the Haystack," and "Minimize the Croupiers Take." Beware of your market returns being overwhelmed by the tyranny of long term compounding of your costs.

Lange-Bogle 11: There is No Escaping Risk
Less volatility doesn't mean less risk. It means different risk. IRA expert and best-selling author, Jim Lange and John Bogle, founder of Vanguard, discuss the dangers of ignoring inflation risk. Many retired people do not want to incur any risk, but there is no escaping it. Over time inflation eats away at the value and purchasing power of your money. John Bogle explains that you need to incur some volatility and investment risk in order to build a retirement fund.

Lange-Bogle 12: Beware of Fighting the Last War

In this video, John Bogle, founder of Vanguard and CPA, attorney and best-selling author Jim Lange, review some of the investment wisdom imparted in Bogle's most recent book, The Clash of the Cultures: Investment vs. Speculation. Mr. Bogle warns us not to listen to history! As interesting as it may be, where investment is concerned, it doesn't repeat itself. The founder of Vanguard also suggests something you may not expect... throw your statements away and don't ever look at them!  Fox versus hedgehog.  The foxes know a lot of things but the hedgehogs know only ONE great thing.

James Lange Talks to John Bogle
John Bogle, founder of The Vanguard Group, tells James Lange his most important piece of advice for investors.

John Bogle: Keep Investing

2 Oct 2008
The founder and former CEO of Vanguard talks to Morningstar's Christine Benz about why to stay the course amid the financial crisis.

A sharp market decline is bad for sellers but it is very good for buyers.

Wealth, fame and power. One should re-define what success should be other than these.

Burton Malkiel: How to Invest

12 Feb 2010
Princeton economist Burton Malkiel says simplicity is key to a successful portfolio. He discusses emerging markets, index funds, and more with Eric Schurenberg.

Burton Malkiel: Timeless Lessons for Investors

1.  Buy and Hold.  Don't time the market

He started his talk by tackling the issue :  "In the light of the 2008 Global Financial Crisis when the market dropped almost 50%, is buy and hold is now dead?"
The best days in the market that gave the best returns were usually the few days that leaped from the bottom of the market.
Don't try to time the market.  It is dangerous.  You can't do it and you will make mistakes.

2.  Dollar Cost Averaging

You make more likely to make more money in a volatile time than a steadily rising market, but this is not always the case.  Of course, if you know the market is going to be steadily rising, you will make more money if you invest a lump sum at the beginning..

3.  Rebalance your portfolio.

He advises rebalancing your portfolio once yearly, example, 60% stock and 40% bond target and rebalancing in January every year.  In a volatile market, rebalancing reduces the volatility and may also increase the return of your portfolio.  In a rising market, rebalancing will reduce the volatiltiy and may reduce the return of your portfolio slightly.

4.  Diversification

In 2008 and early 2009, there were few places to hide.  Many people opined that diversification doesn't work anymore.
Diversification works when the asset classes are not correlated.  Though many asset classes are now more correlated, you can still diversify, example, buying emerging markets and bonds.  How do you access China?  Why not through index funds? (@39 min)

5.  Costs matter

The lower the costs charged by the purveyor of the investment service, the better and the more is left for you.  "You get what you don't pay for!"  Cost you pay is the one thing you can control and you may increase your return by up to 2% per year just by ensuing the cost is low.  He advocates index funds.  Stock market is a zero sum game and costs of mutual funds of >1% shift the distribution of the stock market to that of a negative sum game.  90% of professional managed mutual funds are beaten by the index benchmark.  In his study of mutual funds over many years, less than 5 mutual funds have beaten the market by 2% or more ( @ 29 min).  Buy the index funds.  "It is like searching for the needle in the haystack.  Buy the haystack instead.".
Two-third of bond active managers are beaten by bond-index funds.  His advice is that the core of your portfolio should be in low cost index funds. (You can have more leeway in a satellite portfolio too.)

@ 43 min   Lump sum investing early or Dollar Cost Averaging when you have a big sum of money to invest.
Potential regret of getting into the high of the market.  Reduction in volatility.  Might not always be optimal.  At least some of this big sum of money should still put into the market in dollar cost averaging manner. Can you advise how long to spread this dollar cost averaging?  Depends on the returns from the alternative investments.  Spread your investing over a shorter period now, since the alternative investment return (interest rate)  is low.

@ 48 min.  Missing the 10 best days or missing the 10 worst days.  Some bias in presentation.

@50.30 min.  Corporate governance.

@53 min.  Dividend yield stocks of Warren Buffett.  Buffett is really the needle in the haystack.  Vanguard REIT - a good diversifier.

@1.04.50 min.  How would you invest $1 million?

@1.08.30 min.  What are the target percentages people of various ages should save?  Answer:  MORE.  If you start early, you may have to save a lot due to the compounding effect.  Those who did not save early, probably need to save a lot more to catch up (20% or more).  The opportunity cost of not saving $1 in your 20s might be $10 or $15 when you are in your 50s.

Uploaded on 1 Jun 2010
Dr. Burton G. Malkiel, the Chemical Bank Chairman's Professor of Economics at Princeton University, is the author of the widely read investment book, A Random Walk Down Wall Street. He has also authored several other books, including the recently published The Elements of Investing.

Dr. Malkiel has long held professorships in economics at Princeton, where he was also chairman of the Economics Department. He also served as the dean of the Yale School of Management and William S. Beinecke Professor of Management Studies. Dr. Malkiel is a past president of the American Finance Association and the International Atlantic Economic Association, and a past appointee to the President's Council of Economic Advisors. He continues to serve on several corporate and investment management boards.

Making Good Investment Decisions

HOLT - Making Good Investment Decisions

Uploaded on 29 Nov 2010
HOLT gives you the best perspective for making more confident investment decisions. Its flexible platform, which has been evolving for over 25 years, provides an objective view of over 20,000 companies around the world. HOLT lets you survey a company's entire capital structure and identify key drivers of value that others miss. 


Our e-learning videos provide insight on the HOLT platform and methodology, give tips on management topics and explain broader economic issues.

Importance of being Financially Educated. How To Be Wealthy And Why 95% Never Will Be

"You will never be wealthy working for someone else at a job - EVER!"

Once you have knowledge, you can seized opportunities when they come along, because you can recognize them.

Become an Entrepreneur. As an entrepreneur, you gain time freedom and financial freedom.

The broker buy stuff
The middle class buy liabilities
The rich buy assets that create passive cash flows which can then be reinvested to increase these passive cash flows further.  This is the wealth creation formula.
You cannot find these passive cash generating opportunities unless you are open to hearing about them.  Once you find them, you have to see which fits you and then act.

Published on 27 Aug 2013
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May 18, 2012 - To be clear, no one is saying that a college degree is completely useless. .... What do most rich people do ? ..... positions and then realizing compared to the debt I am in, and the jobs that those without college degrees can get, ...
Six Figures, No College Degree‎
She has managed to reach a six figure salary without a college degree. ... Whatever the reason, don't become a cubicle-sitter unless you are not looking to .... Tens of millions, rich and poor, worked together at Elks Lodges and Rotary Clubs.
10 Best Jobs You Can Get Without a College Degree-Kiplinger­college-degree/index.html‎
To identify the ten best jobs you can get without a college degree, we focused on two critical factors: salary and job growth.
Skip college, make money fast: 10 high-paying jobs that don't ...­ke-money-fast-10-high-payin...‎
Aug 11, 2010 - In a lot of ways, college is a great idea, for personal well-being, ... Either way, careers abound that allow you to make money without a degree.
Can I become rich without college degree? - Yahoo! Answers India › All Categories › Business & Finance › Investing‎
May 25, 2011 - We're all born with a sure path to being a millionaire, that of simply saving as much of our salary as we can and investing it in a simple no load, low ...
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Mar 9, 2011 - Making Money Without Degree - How to Become Rich Without a College Degree. Let's face the fact. Not everyone will be able to graduate with ...
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by Neal Frankle - in 592 Google+ circles
You can find a great job without having a college degree. Here are 19 examples...and a clear path on how to score one.
The 15 Richest People Who Didn't Graduate From College ...­eople-without-college...‎
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Nov 29, 2010 - A bulky paycheck comes after a college degree for most, but not for ... or just plain luck, these 15 people are billionaires with no bachelor's ...

Seven Top Investment Ideas for 2014


As the global economy continues its recovery, Credit Suisse’s top investment ideas focus on carefully selected themes which aim to help you generate more bang for your buck in 2014. 

Idea 1: Europe’s Recovery

Rationale: Europe’s recovery is slowly gathering pace and Credit Suisse anticipates an acceleration in earnings growth in 2014. Valuations are more attractive than in the US.

Investment implications: Buy (or overweight) European stocks. Among countries, Credit Suisse currently favors Germany given its operating leverage towards a recovery. For higher-risk investors: Europe-wide small and mid-cap stocks, cyclicals and selected banks on low valuations. For lower-risk investors: Dividend-yielding stocks offer potentially lower risk with higher yields than fixed income markets.

Idea 2: Seeking Equity Alpha

Rationale: Equities are the preferred asset class for 2014. After a good performance in 2013, the market recovery is set for a new phase in which active style, sector, country and stock selection can generate superior returns, noting that within both US and European stock markets, correlations among equities have fallen markedly.

Investment implications: Choose sectors, styles, countries and individual stocks based on prevailing market dynamics; cyclicals and momentum stocks from the IT and capital goods sectors are recommended.

Idea 3: Emerging Markets Reloaded

Rationale: During 2014 Credit Suisse expects that most emerging markets will benefit from a cyclical upswing supported by export opportunities to the developed markets. Emerging market trend growth rates remain above those of developed markets (albeit lower than before) and could further re-accelerate with structural reforms. Deficits still a source of volatility.

Investment implications: Gain exposure to export-led, growth-sensitive countries, such as Taiwan, and also look for those where the potential for successful structural reforms is not yet fully discounted. Compelling valuations can still be found (for example, China) where long term fundamentals – like consumption, urbanization, export potential – remain key investment drivers. Take a position in companies that benefit from emerging market cyclical recovery.

Idea 4: Fixed Income in a World of Rising Yields

Rationale: The need to obtain reasonable fixed income returns at a time when duration is unattractive since yields may rise on an economic recovery and tapering, and credit spreads are low.

Investment implications: Focus on short-duration assets in areas where value still exists, like corporate senior loans (usually held via a fund), bank subordinated debt, bank CoCos, corporate hybrids and distressed debt. Credit spreads on high yield and floating rate debt are near historic lows but limited amounts of such debt from strong issuers can be included in an overall portfolio. Avoid overvalued assets such as bank senior debt.

Idea 5: Forex as the Fed Tapers

Rationale: With tapering, the USD is set to strengthen against some currencies, like the JPY, and trade at the stronger end of the range against others, for example the EUR. In portfolios, a USD long position offers diversification in times of stress.

Investment implications: Buy USD/JPY, spot or forward. Opportunistically sell EUR/USD near the top of the range. Within emerging markets, sell currencies of deficit countries against those of surplus countries and of reformers.

Idea 6: Cash-Rich Companies

Rationale: Corporate cash piles remain near multi-year highs. Rising CEO confidence levels and pressure from shareholders to invest in growth or return cash bodes well for M&A activity.

Investment implications: Moderate risk-appetite investors should favor companies with a strong free cash flow and the ability to buy back shares. Investors with higher risk-appetite should prefer companies that are the potential targets of industry consolidation or which will benefit from asset disposals through restructurings.

Idea 7: China Reform Reaccelerates

Rationale: The Third Plenary Session of China’s Central Committee announced a clear direction for structural reforms, with accelerated product and financial market liberalization which should accelerate economic rebalancing, from exports and investment towards consumption. Concrete measures are expected in the coming months.

Investment implications: Stock selection is key. Gain exposure to global, regional and domestic firms that can benefit from China’s structural reforms with a focus on the private companies, services sectors and winners from economic rebalancing towards consumption. CNY and CNH (Chinese Offshore Yuan) remain our top emerging market currency ideas and are expected to sustain gradual appreciation in the course of exchange-rate reform.

Tuesday, 25 February 2014

Characteristics of Great Investors

Thomas Barrack, Founder, Chairman, CEO, Colony Capital gives the keynote address to the Principal Investment Conference. Recorded: February 13, 2008

Burton Malkiel on his book - A Random Walk down Wall Street

A stock in the short run is essentially unpredictable.
A stock in the long run is essentially predictable (long run = decades).


A Random Walk Down Wall Street 

Investment Management
Chapter 6
Technical and Fundamental Analysis 

Part II of A Random Walk Down Wall Street concentrates on how professional work the investments game…and then how academics have concluded that the professionals aren’t worth the money you pay for them.

    “…the profession of high finance is certainly one of the most generously compensated. ”  
  • The stock market in the late 1990’s and early 2000’s has become “ one of the biggest games in town.”
  • Players in the game are among the most highly paid people in society
  • Academics study the work and results of professionals and draw conclusions about their effectiveness…academics study markets and prices and draw conclusions about their behaviour…efficiency…and espouse new theories to explain what is going on.
  • This chapter introduces you to the ‘two schools of thought’ in the investments game…chartists or technicians who try to predict the future studying past trends in graphs of stock prices…and fundamental analysts who try to estimate a current intrinsic value (or inherent worth) of a stock based upon forecasts of the future in terms of cash flows, discount rates, growth rates, etc.

Technical Versus Fundamental Analysis 
  • Technical analysis “is the method of predicting the appropriate time to buy or sell a stock used by those believing in the castle-in-the-air view of stock pricing.”

  • Fundamental analysis “is the technique of applying the tenets of the firm-foundation theory to the selection of individual stocks.

Technical Analysis 
  • Chartists study both the past movements of common stock prices and trading volume for a clue to the direction of future change.

    • That the market is only 10 percent logical and 90 percent psychological
    • The key to the game is to anticipate how other people play the game.
    • Chartists hope that careful study of past behaviour will shed light on what the crowd is likely to do in the future.

Fundamental Analysis 
  • Fundamental analysts seek to determine an issue’s proper value.
  • Value is determined through forecasts for growth, dividend payout, interest rates and risk.
  • The goal is to identify undervalued securities that can be purchases prior to their rise to the proper value…or short sale of overvalued securities prior to their fall to their proper value.

    • That the market is only 90 percent logical and 10 percent psychological
    • The key to the game is to be a superior analyst capable of identifying unrealized value…that eventually be discovered by the street.

What Can Charts Tell You? 
Principles of Technical Analysis:
    • A chart showing past prices and volume of trading contains all of the information that a security analyst needs to know.
    • Prices tend to move in trends (moving market prices have ‘momentum’ and stocks at rest tend to remain at rest.)  Trends tend to continue until something happens to change the supply-demand balance.

Chartist Vocabulary 
  • Double bottoms
  • Breakthrough
  • Violating the lows
  • Firmed-up
  • Big play
  • Ascending peaks
  • Buying climax
  • Head and shoulders

  • Areas of support
  • Areas of resistance

The Rationale for Charting 
    “…we can never hope to know “why” the market behaves as it does, we can only aspire to understand “how.””
    Magee, Technical Analysis of Stock Trends 
    Possible explanations for why trends might tend to perpetuate themselves:
    • Crowd psychology causes people to lose their individual sense of what is right and wrong.  Crowd behaviour can be predicted.
    • Information asymmetry ( there may be unequal access to fundamental information about a company)…hence the people ‘in the know’  move first causing prices to change…and then slowly the rest of the market begins to join in allowing the price to show momentum.

Further Rationale for charting 
  • Chartists claim the public remembers what price they paid for a stock…and make decisions with respect to that point of reference….
    • This gives rise to “resistance areas”  and “support levels”

Why Might Charting Fail to Work? 
  1. Chartists react only to price trends…so the trend must be established first, before they will act…with sharp reversals…they will miss most of the opportunities.
  2. Chartist techniques are self-defeating…in that if a chartist makes money with a ‘system’  then others will attempt to copy this…no buy or sell signal can be worthwhile if everyone tries to act on it simultaneously.
  3. Traders try to anticipate technical signals…and tend to buy before, not after, it breaks through.
  4. The market is driven by highly motivated, self-interested individuals making it a highly efficient mechanism…if some people know that the stock price will go to $40 tomorrow…it will go to $40 today.  (Prices may adjust so quickly to new information as to make the whole process of technical analysis a futile exercise.)

From Chartist to Technician 
  • Chartists was the term applied to people who used stock charts in the past…with the advent of computer databases, computer statistical analysis programs and graphical user interfaces…chartists have now ‘morphed’  into technicians…
  • Technicians are able to convert stock price and trading volume data into a wide variety of forms and analyze this information…for example:
      • 200 day moving averages
      • Relative strength indicators
      • Primary, secondary and tertiary waves, etc.

The Technique of Fundamental Analysis 
  • The fundamentalist strives to be relatively immune to the optimism and pessimism of the crowd.
  • The fundamental analyst believes there is an intrinsic value (or inherent worth) and that the price may occasionally not be equal to that…the fundamental analysts believes, however, that eventually the market will become ‘efficient’  to the mistake and that the price will move to the intrinsic value (achieve equilibrium).
  • The fundamental analyst believes that there are key factors that influence the value of a stock…dividends, growth, risk and the level of interest rates.
  • The higher the risk…the lower the p/e (price earnings) multiple.

Why Might Fundamental Analysis Fail to Work? 
  1. The information (data) and analysis might be incorrect.
  2. The security analyst’s estimate of ‘value’ might be faulty
  3. The market may not correct its mistake.

Using Fundamental and Technical Analysis Together 
  • Rule 1 – Buy only companies that are expected to have above average earnings growth for five or more years.
  • Rule 2 – Never pay more for a stock that its firm foundation value
  • Rule 3 – Look for stocks whose stories of anticipated growth are of the kind on which investors can build castles in the air.

Key Lessons Learned 
  • Understand that there are two radically different schools of thought followed by professionals in the investment industry…and be able to recognize those in each camp through their words and actions

“the market hasn’t discounted the recent growth in earnings in the stock price as yet” 
“the stock price will encounter a zone of resistance at the $20 level”

Key Lessons Learned 
  • Understand the there are two radically different schools of thought followed by professionals in the investment industry…and be able to recognize those in each camp through their words and actions

“the market hasn’t discounted the recent growth in earnings in the stock price as yet” (fundamental analyst) 
“the stock price will encounter a zone of resistance at the $20 level” (technical analyst)

A Random Walk Down Wall Street - Power Point PPT Presentation

A Random Walk Down Wall Street - PowerPoint PPT Presentation

Markets can be irrational for some time but eventually correct any irrationality ... to Roger Ibbotson, who has spent a lifetime measuring returns, more than 90% of ... – PowerPoint PPT presentation

Overview of Finance

Finance is about the EFFICIENT use of Money

  • For economies
  • For firms
  • For individuals
Finance is not the same thing as Accounting.
  • Finance is a subset of economics, applying economic tools to the financial information.
  • Primary function of Accounting is record keeping.
  • Finance = Analysis + Decision Making (Not Record Keeping)
  • Finance is Forward Looking
Two Pillars of Finance

1.  RISK

Risk and Return combine to make Value.
Value is the dollar amount that reflects both the risk and the return of the investment opportunity.

Three big areas of finance

1.  Financial Markets
- Focuses on how financial markets and institutions affect the economy.
2.  Business or Corporate Finance
- Focuses on the tools businesses should use to make good decisions.
3.  Investments
- Focuses on the financial decisions that most directly affect individuals.

Major Areas of Business Finance

1.  Financial Analysis and Planning
- Focuses on figuring out what is happening in the firm and forecasting the future
2.  Working Capital Management
- Focuses on management of short-term assets and liabilities.
3.  Capital Budgeting
- Focuses on how the firm decides what assets to buy (what investments to make).
3.  Capital Structure
- Focuses on how the firm finances its operations

Monday, 24 February 2014

Risk and Time

Click here for an enlarged version:

A Better Bar Chart Showing Risk Over Time

This chart shows the growth of a $1000 investment in a random walk model of the S&P 500 stock market index over time horizons ranging from 1 to 40 years. It pretty much speaks for itself, I hope - that was the intention, anyway.

The chart clearly shows the dramatic increasing uncertainty of an S&P 500 stock investment as time horizon increases. 
-  For example, at 40 years, the chart gives only a 2 in 3 chance that the ending value will be somewhere between $14,000 and $166,000.
-  This is an enormous range of possible outcomes, and there's a significant 1 in 3 chance that the actual ending value will be below or above the range! You can't get much more uncertain than this.

As long as we're talking about risk, let's consider a really bad case. If instead of investing our $1000 in the S&P 500, we put it in a bank earning 6% interest, after 40 years we'd have $10,286.
-  This is 1.26 standard deviations below the median ending value of the S&P 500 investment.
-  The probability of ending up below this point is 10%. In other words, even over a very long 40 year time horizon, we still have about a 1 in 10 chance of ending up with less money than if we had put it in the bank!

Look at the median curve - the top of the purple rectangles, and follow it with your eye as time increases. You see the typical geometric growth you get with the magic of compounding.
-  Imagine the chart if all we drew was that curve, so we were illustrating only the median growth curve without showing the other possible outcomes and their ranges.
-  It would paint quite a different picture, wouldn't it? When you're doing financial planning, it's extremely important to look at both return and risk.

There's one problem with this chart. It involves a phenomenon called "reversion to mean." Some (but not all) academics and other experts believe that over long periods of time financial markets which have done better than usual in the past tend to do worse than usual in the future, and vice-versa. The effect of this phenomenon on the pure random walk model we've used to draw the chart is to decrease somewhat the standard deviations at longer time horizons. The net result is that the dramatic widening of the spread of possible outcomes shown in the chart is not as pronounced. -  The +1 standard deviation ending values (the tops of the bars) come down quite a bit, and the -1 standard deviation ending values come up a little bit. 
-  The phenomenon is not, however, anywhere near so pronounced as to actually make the +1 and -1 standard deviation curves get closer together over time. 
-  The basic conclusion that the uncertainty of the ending values increases with time does not change.