Preservation of Capital. Not losing money.

#Losing money is worse than not losing money. 

Some math makes clear why value investors act conservatively.

Picture a portfolio that realizes a 50 percent loss in a year. Not one that started the year with stock that just happens to have halved in price 12 months later. One that actually realized a 50 percent loss. One that began on January 1 with cash, bought stock during the year, sold that stock later in the year, and on December 31 had half as much cash as it started with. What would it take for the portfolio to get a fresh start?

It would need a 100 percent return the next year just to get back to zero. That’s hard. 

Consider soccer. If a player takes a shot on goal and misses, nothing happens to the score. The player gets a fresh start with the next ball. But if soccer was investing, the player would get negative points for missing. Goals would be required just to get back to zero.

That’s why value investors behave with such restraint. We put capital preservation first. We do so because the mathematics of our missed shots is punitive.




#When capital preservation is underemphasized

When capital preservation is underemphasized, returns suffer. 

Returns suffer because losses add up like weights. 

This truth isn’t evident to those who believe in the risk-return trade-off. They see the subordination of capital preservation as a step toward outperformance. And those believers constitute the majority. 

Perhaps that’s why the asset management industry has such staggering failure rates. Most actively managed equity funds—those that pick individual stocks—don’t beat basic market indexes.

Most. That’s the output of a blind majority.




#Repel Losses

Two practices help to preserve the value investing model’s ability to repel losses.

A.  The first is to keep it current. 

Think of the model as having three layers (Figure 21.1).

1.  The top layer is the general guidance:

• know what to do, 
• do it, and 
• don’t do anything else. 

2..  The middle layer gets more specific, insisting that investments be

• understood, 
• good, and
• inexpensive.

3.   The bottom layer is more specific still. It’s all of the lower text:

• the six parameters of understanding,
• the historic operating metrics,
• the cognitive biases, and so forth.

FIGURE 21.1: The value investing model


The top layer is permanent.
Knowing what to do, doing it, and not doing anything else is so durably commonsensical that one might even apply it to other endeavors.

But the bottom layer could change.
Both accounting standards and disclosure requirements will evolve.

• For example, the Federal Accounting Standards Board might mandate some new calculation of operating income such that ROCE has to adapt. 
• Or perhaps the SEC will eliminate related-party transaction reporting such that the number of shareholder-friendliness indicators has to be trimmed down to three. 
• The more time that has passed, the more important it is to be aware of such developments.

B.  The second practice is to think in percents. 

One should focus on the total return expressed as a percentage, not on currency amounts.

• A 20 percent realized loss is not okay just because the actual damage was only $1,000. 
• And a $1,000,000 gain is not impressive if it represents just a 2 percent annualized return.

Thinking in percents nurtures habits that perform faithfully over a lifetime.

• Discipline learned in the early years of little capital works just as well in the later years of more capital. New tricks aren’t required just because of more zeroes.

When one thinks in percents, the absolute gains follow. 

• They follow because value investing is remunerative. 
• That provides most practitioners with enough motivation to stay with the strategy. 

#Value Investing has other benefits too

But since I committed to it at the end of the last century, I’ve come to see that value investing has other benefits as well.

• For one, it keeps me engaged with the world. 

Turn on the serendipity spigot, and suddenly everything applies. Shopping, news, traffic—all become inputs just as worth processing as financial statements. The instants and fragments of everyday life become relevant in a vivid way.

• Second, value investing is, at root, truth seeking. 

It takes inherently hazy situations and chases the facts. What’s this thing worth? I see a realness in that.

• Third, it rewards a long-term perspective. 

It compels me to consider how enterprises will develop over time. Part of that drill is picturing civilization years forward. That carries an aspect of foresight that I like.



#Value Investing benefits at personal level 

That long-term perspective applies on a personal level as well.

• I hope to keep value investing long after other lines of work would have become difficult.

Making presentations, attending meetings, and flying overseas all get harder with age. But value investing requires none of that.

• I’ll do it for as long as I have all my marbles. 

My younger loved ones are standing by to let me know when the first one plinks out.

• Above subsistence and below gluttony, there’s little correlation between net worth and happiness. 

Money just doesn’t produce life’s great joys. Those come from those loved ones, from health, and from other sources that don’t care much about geometric means, depreciation schedules, or enterprise values.

• But an absence of money can keep one from the great joys. And therein lies value investing’s promise. 

It gives one the freedom to fully embrace what really matters. To be able to drop everything and lavish attention on such gifts, fearlessly, and at times of one’s choosing—That, I think, is what rich is.




Summary

1. Capital preservation is a value investing priority because of the mathematics of realized losses.
2. The risk-return trade-off blinds most asset managers to the primacy of capital preservation.
3. Most actively managed equity funds fail to beat basic market indexes over time.
4. The bottom layer of the value investing model is the part most likely to change.
5. Thinking in percents encourages habits that work over a lifetime.
6. Value investing has benefits beyond remunerativeness.


Reference:;
Good Stocks Cheap - Value Investing with Confidence for a Lifetime of Stock Market Outperformance.

Investment Objectives

Evaluation of Customers - Investment Objectives

This section refers to general investment objectives, not the client's specific needs such as retirement at a certain age or college plans for his/her children (see the next section on capital needs). However, there is certainly a correlation between the two, and it is useful to know the characteristics of each of these investment goals:

• Preservation of capital - the investor is more concerned with safety than return. Treasury bills and money market funds may be most appropriate.
  
• Current income- the investor needs a portfolio that produces steady income for current living expenses. Bonds, annuities, and stocks with high dividends (such as utility stocks) may be appropriate.
  
• Tax-exempt income -
  
• Growth and income - the investor is looking for a portfolio that generates some amount of income, but he/she is looking for capital appreciation as well (often for protection against inflation). Appropriate investments could include a mix of bonds and stocks.
  
• Capital appreciation - the investor's goal is likely retirement or another event in the future, where growth is required and current income is not needed. A diversified stock or mutual fund portfolio is appropriate.
  
• Aggressive growth - the investor is looking for high-risk investments with a potential for very large returns. This is rarely the goal for an entire portfolio, but rather for a specific portion of assets. Aggressive growth funds and small-cap issues may be most appropriate.

Read more: http://www.investopedia.com/exam-guide/finra-series-6/evaluation-customers/investment-objectives.asp#ixzz1yhxwhzOn

Where is your focus in your investment returns?

Are you focussed on absolute return and capital preservation?

Or, are you more focussed on relative return to a certain benchmark?

Perhaps you are more focussed on one or the other at different market environments. Certainly these are food for thoughts.

But then, it was also ridiculous to an individual investor, for his fund manager to talk about beating a certain market benchmark during the recent severe bear market when the absolute return of the fund was negative and the capital was also down by a large amount!

You've Sold Your Stocks. Now What?

You've Sold Your Stocks. Now What?
Thursday, February 26, 2009
provided by


Back in the summer of 2007, Ben Mickus, a New York architect, had a bad feeling. He and his wife, Taryn, had invested in the stock market and had done well, but now that they had reached their goal of about $200,000 for a down payment on a house, Mr. Mickus was unsettled. “Things had been very erratic, and there had been a lot of press about the market becoming more chaotic,” he said.

In October of that year they sat down for a serious talk. Ms. Mickus had once lost a lot of money in the tech bubble, and the prospect of losing their down payment made Mr. Mickus nervous. “I wanted to pull everything out then; Taryn wanted to keep it all in,” he said. They compromised, cashing in 60 percent of their stocks that fall — just before the Dow began its slide.

A couple of months later, with the market still falling, Ms. Mickus was convinced that her husband was right, and they sold the remainder of their stocks. Their down payment was almost completely preserved. Ms. Mickus said that in private they had “been feeling pretty smug about it.”

“Now our quandary is, what do we do going forward?” Ms. Mickus said.

Having $200,000 in cash is a problem many people would like to have. But there is yet another worry: it’s no use taking money out of the market at the right time unless it is put back in at the right time. So to get the most from their move, the Mickuses will have to be right twice.

“Market timing requires two smart moves,” said Bruce R. Barton, a financial planner in San Jose, Calif. “Getting out ahead of a drop. And getting back in before the recovery.”

It’s a challenge many investors face, judging from the amount of cash on the sidelines. According to Fidelity Investments, in September 2007 money market accounts made up 15 percent of stock market capitalization in the United States. By December 2008, it was 40 percent.

“In 2008 people took money out of equities and took money out of bond funds,” said Steven Kaplan, a professor at the Booth School of Business at the University of Chicago.

He cited figures showing that in 2007 investors put $93 billion into equity funds. By contrast, in 2008 they took out $230 billion.

Michael Roden, a consultant to the Department of Defense from the Leesburg, Va., area, joined the ranks of the cash rich after a sense of déjà vu washed over him in August 2007, as the markets continued their steep climb. “I had taken quite a bath when the tech bubble burst,” he said. “I would never let that happen again.”

With his 2002 drubbing in mind, he started with some profit taking in the summer of 2007, but as the market turned he kept liquidating his investments in an orderly retreat. But he was not quite fast enough.

“When Bear Stearns went under I realized something was seriously wrong,” he said. The market was still in the 12,000 range at that time. When the Federal Reserve announced it would back Bear Stearns in March 2008, there was a brief market rebound. “I used that rally to get everything else out,” he said.

Mr. Roden said he had taken a 6 percent loss by not liquidating sooner, which still put him ahead of the current total market loss. Now he has about $130,000, with about 10 percent in gold mutual funds, 25 percent in foreign cash funds and the rest in a money market account.

“I am looking for parts of the economy where business is not impaired by the credit crunch or changes in consumer behavior,” he said. He is cautiously watching the energy markets, he said, but his chief strategy is “just trying not to lose money.”

As chief financial officer of Dewberry Capital in Atlanta, a real estate firm managing two million square feet of offices, stores and apartments, Steve Cesinger witnessed the financial collapse up close. Yet it was just a gut feeling that led him to cash out not only 95 percent of his personal equities, but also those of his firm in April 2007.

“I spent a lot of time trying to figure out what was happening in the financial industry, and I came to the conclusion that people weren’t fessing up,” he said. “In fact, they were going the other way.”

Now, he said, “We have cash on our statement, and it’s hard to know what to do with it.”

Having suffered through a real estate market crash in Los Angeles in the early 1990s, Mr. Cesinger is cautious to the point of re-examining the banks where he deposits his cash. “Basically, I’m making sure it’s somewhere it won’t disappear,” he said.

The F.D.I.C. assurance doesn’t give him “a lot of warm and fuzzy,” Mr. Cesinger said. “My recollection is, if the institution goes down, it can take you a while to get your money out. It doesn’t help to know you’ll get it one day if you have to pay your mortgage today.”

His plan is to re-enter the market when it looks safe. Very safe. “I would rather miss the brief rally, be late to the party and be happy with not a 30 percent return, but a bankable 10 percent return,” he said.

Not everyone is satisfied just to stem losses. John Branch, a business consultant in Los Angeles, said his accounts were up 100 percent from short-selling — essentially betting against recovery. “The real killer was, I missed the last leg down on this thing,” Mr. Branch said. “If I hadn’t missed it, I would be up 240 percent.”

Mr. Branch said he had seen signs of a bubble in the summer of 2007 and liquidated his stocks, leaving him with cash well into six figures. Then he waited for his chance to begin shorting. The Dow was overvalued, he said, and ripe for a fall.

Shorting is a risky strategy, which Mr. Branch readily admits. He said he had tried to limit risk by trading rather than investing. He rises at 4:30 a.m., puts his money in the market and sets up his electronic trading so a stock will automatically sell if it falls by one-half of 1 percent. “If it turns against me, I am out quickly,” he said. By 8, he is off to his regular job.

Because Mr. Branch switches his trades daily based on which stocks are changing the fastest, he cannot say in advance where he will put his money.

And if he did know, he’d rather not tell. “I hate giving people financial advice,” he said. “If they make money they might say thank you; if they miss the next run-up, they hate you.”

http://finance.yahoo.com/retirement/article/106655/You've-Sold-Your-Stocks-Now-What;_ylt=At2xBlsXPsWlCuNeEFN6PP5O7sMF?

Four Investment Objectives Define Strategy

Four Investment Objectives Define Strategy
By Ken Little, About.com

In broad terms, four main investment objectives cover how you accomplish most financial goals.
These investment objectives are important because certain products and strategies work for one objective, but may produce poor results for another objective.

It is quite likely you will use several of these investment objectives simultaneously to accomplish different objectives without any conflict.

Let’s examine these objectives and see how they differ.

Capital Appreciation

Capital appreciation is concerned with long-term growth. This strategy is most familiar in retirement plans where investments work for many years inside a qualified plan.

However, investing for capital appreciation is not limited to qualified retirement accounts. If this is your objective, you are planning to hold the stocks for many years.

You are content to let them grow within your portfolio, reinvesting dividends to purchase more shares. A typical strategy employs making regular purchases.

You are not very concerned with day-to-day fluctuations, but keep a close eye on the fundamentals of the company for changes that could affect long-term growth.

Current Income

If your objective is current income, you are most likely interested in stocks that pay a consistent and high dividend. You may also include some top-quality real estate investment trusts (REITs) and highly-rated bonds.

All of these products produce current income on a regular basis.

Many people who pursue a strategy of current income are retired and use the income for living expenses. Other people take advantage of a lump sum of capital to create an income stream that never touches the principal, yet provides cash for certain current needs (college, for example).

Capital Preservation

Capital preservation is a strategy you often associate with elderly people who want to make sure they don’t outlive their money.

Retired on nearly retired people often use this strategy to hold on the detention has.

For this investor, safety is extremely important – even to the extent of giving up return for security.

The logic for this safety is clear. If they lose their money through foolish investment and are retired, it is unlike they will get a chance to replace it.

Investors who use capital preservation tend to invest in bank CDs, U.S. Treasury issues, savings accounts.

Speculation

The speculator is not a true investor, but a trader who enjoys jumping into and out of stocks as if they were bad shoes.

Speculators or traders are interested in quick profits and used advanced trading techniques like shorting stocks, trading on the margin, options and other special equipment.

They have no love for the companies they trade and, in fact may not know much about them at all other than the stock is volatile and ripe for a quick profit.

Speculators keep their eyes open for a quick profit situation and hope to trade in and out without much thought about the underlying companies.

Many people try speculating in the stock market with the misguided goal of getting rich. It doesn’t work that way.

If you want to try your hand, make sure you are using money you can afford to lose. It’s easy to get addicted, so make sure you understand the real possibilities of losing your investment.

Conclusion

Your investment style should match you financial objectives. If it doesn’t, you should see professional help in dealing with investment choices that match you financial objectives.

http://stocks.about.com/od/investingstrategies/a/021906technque.htm

Capital Preservation is Key - CNBC Video

Capital preservation is key in such difficult times, says Fan Cheuk Wan, head of private banking research, Asia Pacific at Credit Suisse. Her advice to investors? Reduce your risk exposure and sell risky assets into any rallies.

http://www.cnbc.com/id/15840232?video=920838388

Related readings:
The risk is not in our stocks, but in ourselves
Consequences must dominate Probabilities