Dr Michael SW Lee

Dr Michael SW Lee is 

Associate Professor of Marketing 

in the University of Auckland Business School.

IDEASROOM

What type of business will survive Covid-19?

The University of Auckland's Mike Lee analyses the impact of Covid-19 on different types of business, and how they will fare in future pandemic-related crises

A global economic recession is now inevitable. 

Yet, as demonstrated in the past, not all businesses are impacted in the same way by the same recession. For instance, the luxury brand market recovered more quickly than mass appeal brands following the Global Financial Crisis and has sustained constant growth since 2010. 

While fundamentally different, Covid-19 is still no exception. Many of us have already experienced, first-hand, the increase in demand for hand sanitisers, fever medication, face masks and, in some countries, toilet paper. Logically, the former three industries should do well in a recession brought about by Covid-19, or any other future pandemic. Other sectors such as tourism, hospitality, and mass gatherings are more likely to suffer. Unfortunately, some companies will become bankrupt owing to a downturn in demand, combined with government protocols (rightly) prioritising health before wealth.

In this article, I will analyse the similarities and differences of businesses that will dive, survive or thrive during the Covid-19 pandemic, as well as future pandemic-related crises.

The two key factors I have used to categorise businesses into three Covid-19 outcomes (Dive, Survive, Thrive) are:
1) Synchronicity and 2) Location dependence.

Figure 1 (below) illustrates how most businesses may be mapped out on these two criteria, and how that might be detrimental or beneficial for any given business during this, and future crises brought about by human to human contagion.

Notably, businesses hardest hit by Covid-19 are those in the bottom left quadrant. These businesses are location dependent and rely on synchronous timing between customer and provider. For example, traditional tour operators, cruise ships, dine-in restaurants, concerts and sporting events. In all these cases, customers and providers need to be in the same place (location dependent) at the same time (synchronous service). In the climate of Covid-19, or any other future pandemic, such business models will always suffer. 

Paradoxically, such synchronous location dependent businesses require the most complex levels of coordination and scheduling, which means they are also highly inconvenient, in that all stakeholders need to be at the same place at the same time. It wasn’t that long ago that TV broadcasting was a location dependent synchronous activity. People had to be home by their TV set and wait for the news or favourite TV show to be broadcasted at a specific time. Note how (even without a global pandemic) this model was quickly displaced by asynchronous (on-demand) location independent (mobile, laptops, etc.) businesses such as Netflix. 

Figure 1:

Certainly the regular work week, Monday to Friday, 9am-5pm (and the consequent traffic jams many of us endure twice a day), was implemented to ensure most workers could be at the same place at the same time to accomplish joint projects, and also to ensure customers that they could reach our businesses at an assured time and place. 

This time and place was then elongated and expanded to make business interactions more accessible (24/7, in every corner of the globe) mainly for the convenience of the customer, but more recently for the convenience of Covid-19. Thus, it should come as no surprise businesses that rely the most on physical and temporal availability are those hardest hit by a virus that also relies on physical and temporal proximity. Covid-19 has essentially built its success on the success of our globalised economy. 

Ironically, while the virus has evolved very well to adapt to our system of international trade and commercial capitalism, many synchronous location dependent business models have not evolved much in the last 200 years, since the industrial revolution. Perhaps one silver lining in the corona cloud is that all modern businesses will be forced to question their practices in terms of synchronicity and location dependence. What is the real role of time and place for our business? 

Indeed, the next class of businesses that should be able to survive Covid-19 are those that are location-based, but able to operate asynchronously (such as self-service stations, or independent domestic nature tourism); or businesses that may rely on synchronous service but independent of location (for example, online counselling and restaurants built around delivery).

For the former (asynchronous location-dependent businesses), the place of business (the where) is important but the when is flexible, thus enabling a spreading out of physical proximity. For the latter (synchronous location independent businesses) shared timing, or the when, is critical but the location (the where) is flexible, once again, enabling a spreading out of physical proximity. 

From a commercial point of view, these businesses would be more desirable, with or without a pandemic, since both offer convenience and flexibility in either timing or location. Later, I will discuss strategies to help businesses evolve from synchronous location dependence to a slightly more flexible position, and then eventually evolve into the most flexible business model: asynchronous location independence.

These businesses, the final class and set to thrive during Covid-19, have already mastered the art of allowing the customer when and where to do business. Netflix, Amazon, Uber Eats, Fortnite, are all examples of businesses thriving before Covid-19; and now may be on track to do even better as governments, health authorities, and employers call for social distancing and self-isolation. 

Case example: Tertiary education

As a marketing professor I have noticed, over the past two decades, universities coming to terms with an audience increasingly comfortable with, nay, expectant of, asynchronous location independent service and product offerings. Even before Covid-19, our main stakeholders (students) have come to expect online lecture recordings. These are part of several changes helping universities evolve from heavily synchronous location dependent institutions to more flexible and inclusive asynchronous location independent businesses. 

Undoubtedly, during the adoption of such technological changes, many faculty staff would have complained about the watering down of the tertiary educational experience and lamented about the emerging class of graduates who can no longer be bothered ‘turning up’. Yet, if anything, Covid-19 is forcing us to confront the importance of ‘turning up’. If our off-campus students are now expected to achieve similar results via asynchronous location-independent models of pedagogy, surely many ‘real-world’ businesses should also be able to thrive, or at the very least survive, the next 18 months, and beyond?

Questions to shift your business from Dive to Survive to Thrive:

1. Critically analyse the when and where of your business operations.

    a) How important is synchronicity or temporal proximity to your business? Really?

    b) How important is physical proximity? Do you really need to be in the same place as your key stakeholders to deliver the same outcomes? 

2. Can you achieve the same outcome if time and place were not considered a fixed entity?

3. What aspects of your operations could evolve to become less reliant on temporal proximity?

4. What aspects of your operations could evolve to be less reliant on physical proximity?

5. Pick the path of least resistance to become more asynchronous or less location dependent, if achieving both is too challenging.

The luxury brand market recovered more quickly than mass appeal brands following the Global Financial Crisis. Photo: Lynn Grieveson

Ihttps://www.newsroom.co.nz/ideasroom/2020/03/21/1092476/how-business-will-survive-covid-19?fbclid=IwAR3bPhMqQvW0BNUXhalX8YUv8JA68y1LrSAc283azUSRA2Fi8InfoWOYF3I

An Simple Introduction to Value Investing

Knowledgeable investing can impact significantly on your life:  

• it can provide for a comfortable retirement, 
• send your children to college and 
• provide the financial freedom to indulge all sorts of fantasies.

Grocery shopping

Think of the search for value stocks like grocery shopping for the highest quality goods at the best possible price.  Understanding the philosophy of value investing, you learn to stock the shelves of your value store (portfolio of stocks) with the highest quality, lowest cost merchandise (companies) you can find.


More people owns stocks today than at any time in the past.  Stock markets around the world have grown as more people embrace the benefits of capitalism to increase their wealth.  Yet how many people have taken the time to understand what investing is all about?  No very many.




Making knowledgeable investment decisions can have a significant impact on your life.

Sensible investing, which can be found in the art and science of the tenets of value investing, is not rocket science.  It merely requires understanding a few sound principles that anyone with an average IQ can master.''

Value investing has been around as an investment philosophy since early 1930s.  The principles of value investing were first articulated in 1934 when Benjamin Graham, a professor of investments at Columbia Business School, wrote a book titled Security Analysis.  This approach to investing is easy to understand, has greater appeal to common sense, and has produced superior investment results for more years than any competing investment strategy.




Value investing is a set of principles that form a philosophy of investing.

It provides guidelines that can point you in the direction of good stocks, and just as importantly, steer you away from bad stocks.  Value investing brings to the field a model by which you can evaluate an investment opportunity or an investment manager.  Value investing provides a standard by which other investment strategies can be measured.



Why value investing? 

Because it has worked since anyone began tracking returns.  A mountain of evidence confirms that the principles of value investing have provided market-beating returns over long periods.  And it is easy to do.

Few investors and few professional money managers subscribe to the principles of value investing.  By some estimates, only 5% to 10% of professional money managers adhere to those principles.

Benjamin Graham, Walter Schloss and Warren Buffett are committed value investors.  Learn from their histories.

You need to invest but you don't need to be a genius to do it well.

Be patient. Patience is sometimes the hardest part of using the value approach.

The patient exercise of value investing principles works and works well.

Value investing requires more effort than brains, and a lot of patience.

Over time, investors should continue to be rewarded for buying stocks on the cheap.

Through the years, there have been changes in the methods of finding value stocks and in the criteria that define value.



Changes in the method of finding value stocks and trading

In Ben Graham's time, the search for undervalued stocks meant poring through the Moody's and Standard & Poor's tomes for stocks that fit the value criteria.  Now, you can accomplish this with the click of a mouse.  You can access almost all the data off your Bloomberg terminals.  The 10k reports or annual shareholder letters are all right there on the Internet for you to access for stocks all over the world.

Trading has changed as well.  For the most part, trading is now done electronically with no effort at all.  You can trade stocks in New York, Tokyo or London just as easily as you can in your own country.


Criteria that define value has changed over time

Just as the access to information and the methods of trading stocks have changed in the past two decades, so have the criteria for value changed.


1.  Net current assets
In 1969, the investors were looking through the Standard & Poor's monthly stock guide for stocks selling below net current assets.  This was the primary source of cheap stocks in those days.  The method had been pioneered by Graham and was very successful.  Generally, they were buying stocks that sold for less than their liquidation value.  Back then, manufacturing companies dominated the US economy.


2.  Earnings
As the US economy grew in the 1960s, 1970s, and 1980s, it began to move away from the heavy industrial manufacturing companies such as steel and textiles.  Consumer product companies n service companies became more a part of the landscape.   These companies needed less physical assets to produce profits, and their tangible book values were less meaningful as a measure of value.  Many value investors had to adopt and began to look more closely at earnings--based models of valuation.  Radio and television stations and newspapers were examples of businesses that could generate enormous earnings with little in the way of physical assets and thus had fairly low tangible book value.  The ability to learn new ways to look at value allows you to make some profitable investments that you might well have overlooked had you not adopted wit the times.


3.  Earnings growth 
There was a great deal of money to be made buying companies that could grow their earnings at a faster rate than the old industrial type companies.  Warren Buffett said that growth and value are joined at the hip.  The difference between growth and value was mostly a question of price.  Paying a little more than just buying stocks based on book value and the investors found great bargains like American Express, Johnson & Johnson, and Capital Cities Broadcasting.  Companies like these were able, and in many cases still are able, to grow at rates significantly greater than the economy overall and were worth a higher multiple of earnings than a basic manufacturing business..


4.  Leveraged buyout business
In the mid-1980s, the leveraged buyout business (LBO) was born.  The US economy was emerging from a period of high inflation and high interest rates.  Inflation had increased the value of the assets of many companies.  For example, if ABC Ice Cream had built a new factory 5 years ago for $10 million and was depreciating it over  10 year period, it would have been written down to $5 million on ABC's books.  However, after  years of inflation, it might cost $15 million to replace that factory.  Its value is understated on the company's books.  Using the factory as collateral, the company might have been able to borrow 60% of its current value or $9 million.  This is what LBO firms did with all sorts of assets in the 1980s.  They would borrow against  company's assets to finance the purchase of the company.

The record high interest rates of the late 1970s and early 1980s drove stock prices to their lowest levels in decades.  The price-to-earnings ratio of the Standard & Poor's 500 was in the single digits.  With long-term Treasury bonds yielding 14%, who needed to own stocks?  The combination of significant undervalued collateral and low PE ratios made many companies ripe for acquisition at very low prices.  

A typical deal in the mid-1980s might be done at only 4.5 or 5 times pretax earnings.  Today, that number is more in the range of 9 to 12 times pretax earnings.  This period was a once-in-a-lifetime opportunity to buy companies at record cheap prices in terms of both assets and earnings.

By using this model to screen for companies that are selling in the stock market at a significant discount to what an LBO group might pay, this  LBO model gave one more way of defining "cheap"


{Summary:  Price to Book Value, Price to Earnings and Leveraged Buyout Appraisal Value]




Value Investing

The basic idea of buying stocks for less than they are worth and selling them as they approach their true worth is at the heart of value investing.

The methods and criteria have changed over the years and they will evolve further with the march of time and inevitable change.  What is important is that the principles have not changed.

On balance, value investing is easier than other forms of investing.  It is not necessary to spend eight hours a day glued to a screen trading frenetically in and out of stocks.  By paying attention to the basic principle of buying below intrinsic value with a margin of safety and exercising patience, investors will find that the value approach continues to offer investors the best way to beat the stock market indexes and increase wealth over time.



Patience is sometimes the hardest part of using the value approach 

When you find a stock that sells for 50% of what you determined it is worth , your job is basically done.  Now it is up to the stock. 

• It may move up toward its real worth today, next week, or next year.  
• It may trade sideways for 5 years and then quadruple in price.  
• There is simply no way to know when a particular stock will appreciate, or if, in fact, it will.   

There will be periods when the value approach will under-perform other strategies, and that can be frustrating.

Perhaps even more frustrating are those times when the overall market has risen to such high levels that we are unable to find many stocks that meet our criterion for sound investing.

It is sometimes tempting to give in and perhaps relax one criterion just a bit, or chase down some for the hot money stocks that seem to go up forever.  But, just about the time that value investors throw in the towel and begin to chase performance is when the hot stocks get ice cold.

It is time in the market, not market timing, that counts.

There is no short-term timing strategy that works accurately and consistently

Many people believe that the fastest way to the highest market returns is by short-term trades that are accurately timed.  But many years in the investment arena, there is no short-term timing strategy that works.  

All nature of pundits have come and gone over the years.

• For a short time, any of them may be right and may make one or two amazingly accurate predictions.  
• Eventually, all of them lose the interest of the public when the predictions prove inaccurate.  

There is no sure way to accurately and consistently time short-term market movements, and again, the research of scholars have highlighted this.



Better in the market invested in value stocks than play the timing game

It is simply better to be in the market, invested in the value stocks that offer the highest potential return, than to play the timing game.

• Between 80 and 90% of the investment return on stocks occurs around 2% to 7% of the time.  
• It is a daunting task to find a way to reliably predict the 7% of the time stocks do well.  

As a long term investor, the real danger and threat to your nest egg is being out of the market when the big moves occur.  You simply have to accept that you must endure some temporary market declines.  

The reality is (and it has  been proven) that the biggest portions of investment returns come from short periods of time but trying to identify those periods and coordinate stock purchases to them is nearly impossible.  Two issues are at play here, both equally important:

(1) short-term timing doesn't work; and
(2) the highest returns are achieved by being fully invested in the market at nearly all times so that you can capture the times when stocks rise the most.  You have to be in the game to win it!



Long-term value investing is like flying long distance

Long-term value investing is like flying from Singapore to London.  While you may encounter some air turbulence over Europe, if your plane is in good shape, there is no reason to bail out.  You will eventually reach your destination safely, and probably even on time.

The same goes for investing.  If your portfolio is well constructed, a bit of market turbulence is no reason to bail.  You will reach your financial goals.




Predicting short-term stock market direction is a fool's game

Predicting short-term stock market direction, however, is a fool's game and is disservice to the investing public.

Long term, the market is going up.  Always has, and most likely always will.

Market timers like to think they can capture large returns by jumping in the market to profit during periods when stocks are up, and jumping out of the market when stocks are down. 

• It may get you ahead for a brief period but you will quickly give up gains when abrupt events that could never have been predicted (such as the tragedy of 9/11, geopolitical evens, and even weather cause brief downturns that are almost always followed by rising prices).  
• You will also give up your profits to the increased costs of trading from commissions to taxes.

The majority of investors buy high and sell low.

All manner of studies have proven, in many ways under many scenarios, that the majority of investors buy high and sell low.

1.  Peter Lynch, the legendary and highly successful manage of the Fidelity Magellan Fund for many years, once remarked that he calculated that more than half of the investors in his fund lost money.  This happened because money would pour in after a couple of good quarters and exit after a couple of not so good quarters.

2.  Nobel Prize winner William Sharpe found that a market timer must be right a staggering 82% of the time to match a buy and hold return. That's a lot of work to achieve that could be accomplished by taking a nap.

3.  Even worse, other research shows that the risks of market timing are nearly two times as great as the potential rewards.

• Between 1985 and 2005, the annually compounded rate of return for the Standard & Poor's 500 Index was 11.9%.  
• However, a recent research study concluded that the average investor only compounded at 3.9% over that period.  
• Why?  The research paper concludes that most investors head for the hills during period of market declines, thinking the decline will go on indefinitely. Once the market has rebounded, they return, having missed the best part of the rebound.

Day by day, minute by minute prices are so widely available

One of the more difficult factors in maintaining a long-term approach is that prices are so widely available.  We can check the value of all of our stock holdings day by day, minute by minute.   We can see how they fluctuate around short-term factors, and in many cases this information can make us a little nervous.

An example of a successful commercial real estate broker who saved at least half of his earnings each year.  His money was invested for the long term, and he could afford to leave it invested.  But he could not stand to see the prices of stocks rise and fall each day.  If he owned a stock and it closed down on a particular day, he was deeply upset.   He did not realise that bonds also fluctuate in price; but since he could not check their closing prices every day he was not worried.  He got his regular interest check, which he reinvested and was happy.  Over the ensuing 10 years, his municipal bond portfolio grew at an assumed interest rate of 5%.  If the same funds had been invested in the Standard & Poor's 500 index, he would have made 15.3% annually compounded rate of return.  His loss for not being invested in stocks was staggering.

Would you take a minute-by-minute pricing approach with anything else you own?  

How would you react if your house was priced every day and the quotes listed in the local newspaper?  Would you panic and move if you lost 2% of your home's value because a neighbour didn't mow his lawn?  Would you rejoice and sell if it went up 5% in one day because another neighbour finally painted his house.

A collection of businesses bought at  excellent prices is no less a long-term asset than a piece of real estate and should be treated the same way.  Prices will fluctuate both up and down.  What is most important is that you own the right stocks when the market does go higher.  

You have to play  to win.  

Using the tenets of value investing and always keeping in mind the margin of safety, the odds of winning with our approach are a bit better than playing the lottery and is is far more remunerative than sitting on the sidelines.

Missing the 10, 30 and 50 best days in the market

According to an investment study, if you had ridden out all the bumps and grinds of the market from 1990 to 2005, $10,000 invested would have grown to $51,354.  

If you have missed the 10 best days over that 15-year period, your return would have dropped to $31,994. 

If you had missed the 30 best days - one month out of 180 months - you would have made $15,739.  

Had he missed the 50 best days you would have come out a net loser, and your $10,000 would now be worth only $9,030.



The evidence is clear.

It is pretty close to impossible to consistently make money market timing, and you are better off investing for the long term, riding out the bumps. 

Value investors have the extra security of knowing that they own stocks that have one or more of the characteristics of long-term winners  and that they have paid careful attention to investing with a margin of safety.

It is a marathon, not a sprint.

Buy and Hold? Really? Depends on your AGE and NEEDS

How should you choose between stocks and bonds?

Financial advisors are risk averse.  Their risk aversion may have less to do with your financial situation than their reputations.  Conventional wisdom is that a portfolio that is invested one-third in bonds and two-thirds in stocks is the way to go irrespective of the level of your assets.  The one-third, two-thirds formula is the standard.  It is safe because that is what the herd recommends.

The conventional model of portfolio construction, the one-third bonds two-thirds stocks, requires that you periodically rebalance your holdings.  By this, they mean that if your stocks had a particularly great year and now are 75% or 80% of your portfolio, you should sell some stocks and invest the proceeds in more bonds.  That is like selling your winners and reinvesting in your losers. 

• How smart is that?  
• If you already have enough cash to ride out three down years, why do you need more?

The major brokerage houses issue "asset allocation" formulas depending on their view of the stock market in the near term.  This sounds like market timing.  
However, people are different.  Your financial assets and your needs vary tremendously.  

• What if you have a lot of dollars and need only a pittance to maintain your lifestyle?  
• Why would you invest one-third of your money in an under-performing asset?

The two most important considerations in formulating an asset allocation formula are:

• age.  and
• how much money you have to support your desired lifestyle.

Jeremy Siegel's book - Stocks for the Long Run

In every rolling 30-year period between 1871 and 1992, stocks as measured by an index, beat bonds or cash in every period.  

In rolling 10-year periods, stocks beat bonds or cash 80% of the time.  

Bonds and cash did not beat the rate of inflation over 50% of the time.  



So why would anyone own a bond?  The answer comes back to age and need.

If you are young (20 years to 35 years) and have a job that pays your bills, you can take a long view on investments.

A lot of what you do in investing is just simple common sense.  Many investors think they should be proactive and keep looking for ways to tweak their investment portfolio when just sitting tight, if they made the correct choices in the first place, often would be the better course.





Examples: 

Asset allocation is based on age and need.

1.  A friend liquidated an asset and wished to invest in the stock market.  However, he will need this money for a project he is working on at end of the year.   He should not invest this money in stock, as his need for the money did not anticipate any setback in the stock market.  If he could not be in for the long term, he should not be in.

2.  In early 1980s, a widow inherited a $4 million account with an investment firm and in addition $30 million of Berkshire Hathaway stock.  She anticipated retiring and needed some income going forward.  She had lived comfortably but modestly, given her wealth.   The reason she was so rich was because all her assets had been well invested in stocks.  Her accountant replied that she had all her assets in the stock market which was, by definition, risky. He suggested a charitable remainder trust into which she could put the Berkshire stock, sell it without paying any capital gains taxes, and reinvest the proceeds in bonds for current income.   On the other hand, her investment advisor replied even if the stock market dropped 50%, she had enough money to live comfortably until her very old age and asked why she would want to stop enjoying the benefits of future appreciation. She decided to leave everything as it was and received her income needs out of the money she had invested with the investment firm.   A number of years later, she reviewed her plan.  She had $180 million.  Today, she has upward of $300 million.  

When is a bargain not a bargain?

Once you have assembled a list of likely bargain candidates, you have to determine

• which to put your money into and 
• which to avoid and move on.

Many of the companies in your initial list are cheap for a reason;; they have fundamental problems that make them decidedly not valuable.

On the list of value candidates whose stock price had fallen significantly in the past were Enron, Global Crossing, MCI, US Airlines and Pacific Gas and Electric.   These companies ended up filing for bankruptcy and shareholders lost a significant portion of their investment if not all their money.


To achieve your wealth-building goals, you have to determine 

• why a company's shares are cheap and 
• which ones have little chance of recovery.

1.  Too much debt

The first and most toxic reason that stocks become cheap is too much debt.  In good times, companies with decent cash flow may borrow large amounts of money on the theory that if they continue to grow, they can meet the interest and principal payments in the future.  UNFORTUNATELY, the future is unknowable, and companies with with too much debt have a much smaller chance of surviving an economic downturn.  

Ben Graham explained that he used a simple yardstick to measure health.  A company should own twice as much as it owes.  This philosophy can help you avoid companies that owe too much to survive.


2.  Company falls short of analysts' earnings estimates.

Analysts seem to be more focused on short-term earnings gains than future long-term success   These quarterly or yearly earnings estimates have been proven to be notoriously unreliable.  Routinely, large and good companies get pushed to new stock price lows because they missed the estimates of the thundering herd of Wall Street  Missing earnings is not fatal, and it tends to create opportunity for the value buyer; if the trend continues, however, the shares will likely continue to fall.


3.  Cyclical stocks

Some cyclical stocks may show up on your list of potential bargains.  They are highly dependent on how the economy is doing.  Industries like automobiles, large appliances, steel and construction will experience lean times and stock prices are likely to reflect this fact.   Although we have had recessions of varying lengths and depths, the economies of industrialised nations have always rebounded.  It is important to note that in the bad times, cyclical companies with heavy debt loads may well face insurmountable problems.  Adhering to a policy of avoiding overly leveraged companies will serve you well.


4.  Labour contracts

Stocks may also fall because of labour contracts.  During good times, some companies and industries cave into labour union demands that were affordable at the time.  Little did they realize that they were mortgaging their future.  As new competition unburdened by costly labour contracts enters their industries, their profits disappear.  In many cases, the unions have been unwilling to grant concessions.   It is never easy to give back something you have, even if not doing so threatens the very existence of the company you work for.  Although holding on to expensive contracts may or may not benefit management or the unions in the long run, the one person that most assuredly does not benefit is the stockholder.  

Many large corporations (old-line industrial companies) have pension liabilities - benefits promised to workers - that they simply will be unable to pay  Generally speaking, if a company has excessive pension liabilities or there exists a contentious labour environment, it may be best to put these companies' shares on the no-thank-you list.


5.  Increased competition

Highly profitable industries attract new competition.  The most serious form of this comes when an industry in one country has high-priced labour or expensive regulatory rules.  Other nations unburdened by such costs can often produce and export the same goods cheaper.  Think China.  Throughout the world, countries have seen foreign manufacturers of automobiles, appliances and other goods make significant inroads into their market.  If a company is facing strong competition from a more efficient competitor with lower costs, it is perhaps best to utter those comforting words "no, thank you" and move on to the next candidate.


6.  Obsolescence

Obsolescence is another potentially fatal cause for falling prices.

Although the last large scale manufacturer of buggy whips or hand-cranked automobile starters made a very fine product, there was simply no longer a need for its product.  There may be some small demand for these products, but a company that depended on them for most of its sales would soon be out of business

Consider the field of technology.  The rate of "creative destruction" has never been faster.  Newer and better products turn up every day making the older products obsolete  The new products are a boon to the consumer but the bane of the legacy company.  

Today, we can go online and order any movie from NetFlicks and never have to leave the comfort of your own home.  For this reason, you should avoid companies that are subject to technological obsolescence.  The world is simply changing too fast to depend on products and services that someone else can deliver better and for less cost.  Avoid these.


7.  Corporate or accounting frauds

These are perhaps one of the most dangerous reasons for share price drops is corporate or accounting fraud.

Although these crimes against investors are the exception and not the rule, and most CEOs are dedicated leaders who care about their companies and their shareholders, fraud does happen.  In recent years, the world has experienced some of the largest cases in history, Enron, Parmalat, Tyco, WorldCom and others.  Regulators have since done much to help prevent future occurrences but there will always be some form of shenanigans.

Criminals exist in every walk of life.  There is almost no way to uncover fraud before it becomes public.  By the time it is discovered, it is too late  The best the investor can do is to steer clear of financial reports that seem overly complicated.


8.  Companies you do not understand or are not comfortable with

If there is something you do not understand or are not comfortable with, put these in the no-thank-you pile.   If a company has too many problems - too much debt, union and pension problems, stiff foreign competition, they too go to the no-thank-you pile.  You have the luxury of filling your portfolio with stocks you are comfortable with and want to own for the long term wealth building it offers.



Summary

You should approach your list of investment candidates with a healthy dose of scepticism.

You should stick to businesses you understand and for which there is an ongoing need (products or services).

You should also like food, beverage, and consumer staples like detergents, toothpaste, pens, and pencils - the stuff you consume on a daily basis. Many of these products engender brand loyalty that keeps the same product day after day, week after week.  We are all creatures of habit, and we will usually repeat our consumer preference when we go shopping.

Your best friend in the whole investing world is your no-thank-you pile.  Knowing your no-thank-you pile gives you the value investing opportunities to build your wealth building portfolio.

Falling Prices can be a double-edged sword

Risk is more often in the price you pay than the stock itself.

Markets have fallen time and again because of some political or economic announcement.  Similarly, individual stocks and sectors often fall on weaker than expected earnings or unforeseen events.

During market sell-offs, the rapid decline of prices brought bargain issues that an investor could buy for a lot less than their pre-collapsed prices.

As others are selling in reaction to news reports, you can load up with value opportunities that can benefit from the subsequent price recoveries.  It is important to understand that the prices of solid companies with strong balance sheets and earnings usually recover.  If the fundamentals are sound, they always have and they always will.

From 1932 to today, the studies confirm that when bad things happen to good companies, they recover and usually quite nicely in a reasonable amount of time.  It has also been shown that high performance seems to beget lower returns, and low performance leads to higher returns in nearly all markets.  Today's worst stocks become tomorrow's best stocks and vice-versa.



Catching a falling knife

There is danger in trying to catch a falling knife, but even when stocks dropped 60% in one year, and bankruptcy and failure rates jumped fourfold, opportunities abounded.

Remember that one of the chief tenets of the value investing approach is to always maintain a margin of safety.  You can lessen the chances of buying a failure and increase your portfolio performance if you stick to the principle of margin of safety.  Don't try to catch an overpriced, cheaply made falling knife.

When stock prices fell after the bear markets, many investors were decimated.  On the other hand, value investor like Warren Buffett, was thrilled with all the bargains he found as a result of the collapse and said now was the time to invest in stocks and get rich.  The average investor and many professionals, having suffered through a bear market, wanted nothing to do with stocks and missed out on the chance to load up at these low prices.

You just had to catch the babies being thrown out with the bathwater.


Summary:

1.  Buying stocks that have fallen in price and yet still offer a margin of safety has resulted in successful investments.

2.  Although many find it difficult to leave their comfort zone and buy stocks that have fallen, those of us buying cheap stock realise that the bargains are found in the sales flyers and the new low lists, not in the highfliers (popular stocks) and the new high lists.





Examples:

Bear market of 1973 to 1975 Crash of the Nifty Fifty
The stock prices fell an average some 60% and many investors were decimated.  Warren Buffett in an interview with Forbes in November 1, 1974, described himself as feeling like an "oversexed guy in a harem".


1980s
Some of the large public utilities in US overcommit to nuclear power with disastrous financial results and fell into financial difficulty.  Many of them even had to file for bankruptcy to work out their difficulties.  After the Three Mile Island accident, the world interest in US nuclear power practically ground to a halt.  Few portfolio managers or individuals wanted to invest in these companies.  But those brave few who invested in Public Service New Hampshire, Gulf States Utilities, and New Mexico Power ended up with enormous returns over the balance of the decade as the  companies worked out their problems and returned to profitability.


Late 1980s and early 1990s
The fall of Drexel Burnham, the junk bond powerhouse and the implosion of the high-yield debt market, along with collapsing real estate prices, caused what is now know as the savings and loan crisis.  This crisis spread from the smaller S&Ls to the largest banks in the country.  Venerable institutions such as Bank of America and Chase Manhattan Bank fell to prices at or below their book value and had price-to-earnings ratios in the single digits.  Wells Fargo was hit particularly hard because it appeared to have significant exposure to a rapidly declining California real estate market.  Investors who did their homework and invested in banks during this time earned enormous returns over the decade that followed as the industry went through a merger boom that generously rewarded shareholders.  You just had to catch the babies being thrown out with the bathwater.


1992
After Bill Clinton took office, he appointed his wife Hillary to head a committee on health care reform that proposed a drastic program that would have dramatically, curtailed the profits of the pharmaceutical industry.  All the leading drug company stocks declined sharply.  Companies like Johnson & Johnson, fell to a level of just 12 times earnings.  Most investors shied away from the industry.  Investors who saw the opportunity in Johnson & Johnson realised that the stock was selling for the equivalent value of the consumer products side (Band-Aids and Tylenol) of the business.  You got the prescription pharmaceutical part of J&J for free.  Once Hillary care was a ded issue, the stock of J&J and the other pharmaceutical companies brought outsized gains to investors willing to take the plunge.


9/11 disaster
After the disaster of 9/11, American Express was viewed as being too dependent on air trael, and its shares fell from the ppprevious year's high of $55 to as low as $25.  Although American Express may have been facing some travel-related struggles, it was an enormously profitable company that sold at just 12 times earnings.  Investors who realized that companies of this quality are rarely this cheap and that the income stream from the credit card business offered a margin of safety have been amply rewarded in the years since.  American Express is another example of how catching the right falling knife can sharpen returns with high-quality stock at low prices.

Investing planning in the midst of Covid-19 pandemic

POSTED ON APRIL 18, 2020, SATURDAY



WITH history as our guide, equity markets always recover after panic selling, especially when it is triggered by events such as a war, a catastrophic event or a pandemic. Therefore, as far as investing planning is concerned, the strategy is to stay invested if you are investing for a medium or long term financial goal.


Financial Times published an article earlier this year titled “Investors look to history for clues on market impact of coronavirus” and quoted the chief global market strategist of an international investment firm, “Investors are looking back at previous epidemics in an effort to anticipate how badly the coronavirus outbreak could affect already shaky global markets. It is important that we don’t panic but really look to history as a guide.”

It also reported that JP Morgan has assessed the market impact of past outbreaks, notably

• SARS (November 2002 to July 2003), 
• swine flu (March 2009 to August 2010), 
• Ebola (December 2013 to June 2016) and 
• the Zika virus (March 2015 to November 2016).

In each of those cases, a sharp initial stock market decline quickly gave way to a recovery. Head of global and European equity strategy at JP Morgan in London, remarked, “The more equities fell initially, the more they subsequently rebounded. These episodes did not lead to a prolonged period of selling and were a buying opportunity within weeks.”

Of course, we gather that this coronavirus called Covid-19, resembles SARS, with about 80 per cent of its genetic code similar to SARS. It spreads pretty much similar ways, and with similar symptoms. But SARS seems to have a higher fatality rates.

At time of writing, Covid-19 pandemic is still unfolding and in some countries, its spreading has not peaked. Scientists are still trying to understand this new virus and there is a certain degree of uncertainty about how and when this pandemic will end.



Stay invested

Try not to switch out to lower risk/volatility fund if your investment time horizon is medium (three to five years) to long term.

I have observed this phenomenon of investors reacting emotionally to market panic, and switching to low risk funds when the 2008 financial crisis hit.

Smart Investor magazine in its January 2009 edition, carried an article titled: “Investors Seek Low Risk Option” with the quote: “During uncertain times, investors tend to flock towards cash or invest in structured, capital guaranteed funds, and in some cases money market funds” and also “Out of 70 funds launched in year 2008, the bulk were capital protected funds.”


In 2008 and 2009, many fund houses launched low risk or even capital guaranteed funds to suit the risk-averse appetite of investors at that time.

The consequence? Investors who reacted emotionally and switched to or got locked in to low risked funds actually missed the boat when market rebounded eventually.

Investors are allowed to be worried about volatility, but it can be managed intelligently by using the averaging strategy, either using cost averaging or value averaging.



Review and restructure your unit trust portfolio

Now the crucial thing for you to do is to engage a licensed financial adviser to conduct a portfolio review on all the existing unit trust funds you have purchased, both cash or using your EPF.

This is to see if your portfolio is damaged or is still relevant in view of the present market conditions versus your investing objectives. At the same time, it is essential to re-structure your portfolio so that you are in a better position to take advantage of the rebound later.

Even though market analysts can’t agree whether the market recovery will be a V-shape, U-shaped or even L-shaped scenario, by re-structuring your fund portfolio, you can weight it more heavily on sectors, countries or regions which are more lightly to recover from the pandemic.

Countries which are aggressive on testing and with prudent Covid-19 strategy in place are more likely to recover faster.

Not all the sectors of the economy will be impacted negatively in a pandemic situation. In actual fact, certain sectors of the economy will do relatively well.

The other factor is of course how quickly a vaccine can be available to end the pandemic.

Governments of many countries in the world now have actually learnt well on how to handle the market panic caused by Covid-19 after the experience accumulated after the 2008 financial crisis.

We are seeing both monetary and fiscal policy tools being rolled out aggressively by many governments at the same time when pandemic control measures are being announced.

The knowledge in virology now is definitely more advanced and authorities in various countries are acting more quickly this time around compared to 17 years ago when SARS erupted. And along the way, scientists have acquired more knowledge about ebola, MERS and other viruses that emerged since the time of SARS in 2003.

You can also see countries and citizens who had the previous SARS experience doing much better than those countries who have not learnt how to handle a SARS-like pandemic.

Meanwhile, sophisticated and institutional investors are actually quietly picking oversold and undervalued stocks in time of panic selling now.

Stay invested. Be smart. Dollar cost or value average to manage the downside risk. Market volatility will be there as the ugly numbers are not out yet.



Lee Khee Chuan ChFC, CLU, FLMI, B.A..  Lee is a chartered financial consultant, chartered life underwriter, fellow, life management institute and a CMSRL license holder, franchisee of Rockwills and Islamic estate planner with A-Salihin Trustee Bhd.


https://www.theborneopost.com/2020/04/18/investing-planning-in-the-midst-of-covid-19-pandemic/

Federal govt has limited fiscal space

POSTED ON APRIL 13, 2020, MONDAY




KUCHING: Malaysia’s stimulus package is larger compared with other major Asean economies, but analysts cautioned that the federal government now has limited fiscal space.


The research arm of Kenanga Investment Bank Bhd (Kenanga Research) observed that in terms of share of GDP, Malaysia’s stimulus package is relatively large compared with other Asean economies, standing at 17.6 per cent of GDP, while Singapore’s stood at 12 per cent, Thailand at 12 per cent and Indonesia at 2.5 per cent.



“Although it may have additional support measures should the pandemic situation worsen, hindering economic activities for a prolonged period, we view that the federal government has limited fiscal space,” Kenanga Research said.

“Generally, a fiscal stimulus could come from budget surplus or, in some cases, a drawdown from a national reserves.

“But, if a country’s balance sheet is still saddled with a deficit then issuing debt to finance the stimulus may only be the main option.”

Meanwhile, Kenanga Research highlighted that with a forecast debt of RM869 billion by end-2020 and an estimated outstanding debt as at March 2020 of RM822.5 billion, the balance of net debt issuance for the remainder of the year is around RM46.5 billion.

The research arm noted that this registered below the leftover debt space at an estimated RM61.7 billion, allowing the government to maintain its compliance to the aforementioned debt limits.


“In fact, the government still have a remaining fiscal space of about RM15.2 billion (one per cent of GDP), should the need for additional fiscal injection arises.

“Malaysian government debt remains attractive among investors amid low interest rate environment in the advanced economies.

“In 2019, the government issued RM135.2 billion gross debt comprising 94.5 per cent of domestic borrowings and another 5.5 per cent of foreign borrowing (samurai bond).


“It is worth noting that the government received RM190.9 billion bid within the first eight months in 2019, far larger than the amount of total gross debt needed.”



Based on the current deteriorating economic condition and market sentiment, this year, the research arm expected gross debt issuance to register between RM130 billion and RM150 billion.

According to Kenanga Research, from the liquidity perspective, data suggests that the banking system condition remains conducive, with adequate funds to support financial intermediation.


It further highlighted that outstanding excess liquidity placed with Bank Negara Malaysia (BNM) was at RM156 billion, as at March 2020.

This could be expanded further, as the research arm viewed that the BNM has a room to lower the Statutory Reserve Requirement ratio (SRR) by another 100 basis points (bp) to match the Global Financial Crisis-low of one per cent (March 2009), releasing an estimated RM17 billion (1.1 per cent of GDP) worth of liquidity into the market.

“This gives a rather sizeable impact as the statutory deposits account for almost 30 per cent of the excess liquidity.

“Of note, previously in March, the SRR was reduced by 100bp to two per cent and dealers were granted flexibility to recognise Malaysian Government Securities (MGS) and Malaysian Government Islamic Issues (MGII) of up to RM1 billion as part of the SRR compliance.

“BNM estimated the move to result in a RM30 billion, two per cent of GDP, worth of liquidity injection into the system.”

Kenanga Research went on to highlight that banking system deposits held by statutory agencies amounted to RM78.2 billion, as at February 2020.

The research arm also noted on temporary BNM financing, whereby section 71 of the Central Bank of Malaysia Act 2009 allows the BNM to extend temporary financing (maximum 12.5 per cent (RM30.6 billion) of the projected revenue (RM244.5 billion as stated in the federal government’s budget tabled in the Parliament) to the government due to revenue deficiencies.

“The government is obligated to repay BNM no later than three months after the end of the financial year the financing was made and BNM cannot extend any further temporary financing until the outstanding amount is fully repaid.”

On another note, against the backdrop of an unprecedented economic downturn and premising on the national reserves’ purpose of supporting the country, not only during a financial crisis, but also in the event of a national disasters or emergencies, Kenanga Research opined that Malaysia could perhaps emulate Singapore’s best practice of managing its reserves.

The research arm recapped that Singapore is among the few if not the only country in the world that has so far tapped into its national reserves to support its economy and to combat the negative impact brought about by the Covid-19 pandemic.

“Perhaps there is a need to relook, among others, at section 68 of the Central Bank of Malaysia Act 2009, whereby it broadly states that BNM shall hold and manage the foreign reserves in line with the policies and guidelines established by the Board.

“More empathy on the welfare of the people or rakyat should be considered as part of the policy objectives in times of need apart from playing a role to ensure a stable and sound financial system.”


https://www.theborneopost.com/2020/04/13/federal-govt-has-limited-fiscal-space/

How would you decide to restart the economy?

OPINION
How would you decide to restart the economy?

By Mohamed A. El-Erian
April 9, 2020


The tentative optimism in parts of Europe and the US about a turning point in the rate of coronavirus infection is encouraging more people to start thinking about how and when to restart economies. It is a crucial and complex issue involving an unusual range of risks, uncertainties, difficult judgments and trade-offs.

I certainly don't have an easy answer, and neither do people I talk to whom I respect greatly. With a view to generating ideas, how about collectively engaging in the following thought exercise?

Imagine you, as the leader of a liberal democracy, have to make the decision based on the following conversation among three sets of experts - which, for simplicity, we will aggregate into a single expert each on health, the economy and social behaviour.


Health expert: I have good news. Because of our social-distancing policies, we are seeing a turn in the rate of infection of citizens.

Social behaviour expert: That's great news, especially as I hear that more people are starting to wonder whether the huge disruptions to virtually every aspect of their daily lives were worth it. Adjustment fatigue is really setting in.

Economic expert: It's great news indeed. We need to urgently lift the sudden stop to economic activity. Unemployment is soaring. Even otherwise-viable businesses are facing bankruptcies. And our relief efforts are not just costing a lot, but they are less effective than we had hoped for because of the need for better delivery pipes. Can we start normalising economic activity as soon as possible?



"The longer we maintain this economic standstill, the more we risk turning an already unavoidable deep and sudden recession into a financial crisis and, with that combination, a multiyear depression."
Economic expert



Health expert: Not so fast! Yes, we are doing better, but we are nowhere near out of the woods. Immunity is at least a year away, if not longer, be it through a vaccine or herd immunity. Our ability to treat the ill is still limited essentially to just keeping them alive and comfortable as they fight this dangerous virus. We don't have proper drug treatments yet. And let's not forget the difficulty we have in identifying the asymptomatic carriers of the virus. Without that, we can't even think of effective tracking and tracing. If we lift social distancing now, we risk a dangerous relapse that will overwhelm our health system.

Social expert: Wow, that's well said. We would also risk a general loss of trust in medical advice. The government would lose credibility. And the risk of social unrest would increase.

Economic expert: Yes, but if we continue with the sudden stop, we invite multiplying short- and longer-term problems. Our economy, indeed our society, is not wired for social distancing. We are inflicting real damage that risks undermining not just this generation but future ones. The longer we maintain this economic standstill, the more we risk turning an already unavoidable deep and sudden recession into a financial crisis and, with that combination, a multiyear depression.

Social expert: You have a point there. We are worried already about the risk of domestic violence and a deeper opioid crisis.



  "Every day we gain is a big victory, and not just in terms of flattening the curve. We are also getting to know this terrible virus better, helping us in efforts to develop better treatments and vaccines.
Health expert



Health expert: You all have valid points. But every day we gain is a big victory, and not just in terms of flattening the curve. We are also getting to know this terrible virus better, helping us in efforts to develop better treatments and vaccines. Our testing capabilities are increasing, as is the supply of personal protective equipment, ventilators and other crucial material. And let's not forget about what we are learning from other countries that were hit before us, including on testing and post-crisis tracking. Time is in our favour. We are seeing an enormous effort by private industry, and not just pharma and tech.

Social expert: Tracking and testing? You mean this idea of a passport that would allow us to run a multi-track society, with one "safe" segment re-engaging in normal activities and another having to wait? This needs to come after we develop more buy-in for the intrusive method of granting and maintaining the passport, especially as we will have to do a lot of random testing and disseminate sensitive health information, not just about the coronavirus but also pre-existing conditions. It only works if we have broad-based buy-in and, even better, if there's a bottom-up effort that we can capitalise on. We are not China. We are a liberal democracy with more respect for privacy and individual rights. And we also have to be honest about the need to address both conscious and unconscious biases that such selectivity brings out, even if it's health based.

Economic expert: Can't we at least start with partial reopenings. The answer to unusual risk and unsettling uncertainty is not paralysis. There is risk in whatever we do. I would opt for opening up parts of the economy before it's too late to avoid the cure being worse than the disease.

Health expert: Yes, there are risks and uncertainties involved. And that's exactly why we cannot afford a relapse and the spike in infections and deaths that would come with that.

And if we reopen too early, households themselves may hesitate to re-engage in normal life. That would defeat the point of taking the risks in the first place.

Now it's up to you, the decision-maker. The best that these three experts can do is to offer you alternatives and to make explicit the trade-offs that come with them. And it's far from perfect, given that we are still operating in a fog-of-war context.

There are likely to be unknown unknowns and, with that, a high risk of collateral damage and unintended consequences - whatever decision you make.

Well, this is part of a generation-defining moment, and it's your decision. What's your call? .

Mohamed A. El-Erian is a Bloomberg Opinion columnist. He is the chief economic adviser at Allianz, the parent company of Pimco, where he served as CEO and co-CIO. He is president-elect of Queens' College, Cambridge, senior adviser at Gramercy and professor of practice at Wharton.

Bloomberg