The Straits Times published an article written by Lim Chow Kiat, the group chief investment officer of GIC, on 21 Apr 15. This article was among others which perpetuates the long term view of capital deployment. The rest of the articles can be found here.
I would like to talk about some of the points that Mr Lim mentioned in his article which are very similar to BigFatPurse’s perspectives.
1. “[O]pportunities in price-value divergence”
BigFatPurse strongly believes that there are inefficiencies in the pricing of businesses in the stock market, in some stocks but not all. Firstly, not all the listed companies get equal attention or coverage by the analysts and media. This is apparent in small cap stocks and information about changes and developments in these companies are not passed down uniformly to the market participants. This result in incorrect pricing of these stocks and a potential possibility that investors could buy these stocks at a price way below its value. Vice versa, the stocks can also garner so much attention that the stock price extended way beyond the value of the company.
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Hence, as value investors, we search for stocks with price-value differences and buy them as cheap as possible.
2. “We are also mindful that long-term investing does not oblige us to buy and hold for long periods. The holding period depends more on price and value than time.”
Most investors are spoilt by the efficiencies and conveniences which technology has brought to us. Coupled with the fast pace of life, investors have been cultured to expect things to happen as soon as possible. With this instant gratification desire, investors also expect their stocks to make money almost immediately after they have invested. This is an unrealistic expectation imposed on the stock market and it will bring self-created disappointments for the investors. Hence, investors are often discouraged to stay invested long enough to reap the profits.
We get a lot of questions about the duration of our investments. We have established that this is an uncertainty and no one can accurately know in advance. Our usual reply would be to give ourselves five years for the investment to work out. And it is worthwhile to wait when we can buy a stock at half price against its value, and sell it at its value to achieve a 100% gain. 100% over 5 years would give a CAGR close to 15% per year which is a very respectable return. Sometimes the profit taking can happen within 1 year, others may take longer. Investors should let go of the need for certainty because the stock market doesn’t provide it.
3. “Marked to peers” can be a powerful (and damaging) psychological driver of such flawed decision-making.”
It is always more comfortable to buy a stock when almost every analyst or the media coverage spoke highly about it. It is also more comforting to buy when the price of the stock has been trending up, which serves as a ‘proof’ that it is a good stock. Our caveman ancestors left us with the herd mentality which had helped them survived attacks in their times. This herd mentality causes us to seek safety in numbers and we used it as a social proof in today’s context. A long queue at a hawker stall ‘proves’ that the food is delicious. A movie with a high number of positive reviews is a good watch. While most of these activities are pretty useful for our herd mentality, it is very expensive to do it in the stock market. It pays to be a contrarian in the stock market but it is uncomfortable to do something against the crowd.
4. “The minimum time horizon for performance measurement is five years.”
An investor can make extremely high returns within the first few years but it isn’t a true reflection of his investment prowess. Success has two factors, luck and skill. It is predominantly luck if we measure investment success in a short time. There isn’t a scientific explanation or determination of what is a decent timeframe to review your investment results. The rule of thumb that we agree with Mr Lim is 5 years. It is a long enough time frame for the investor to encounter a few market corrections or even a stock market crash. The long run returns is a truer reflection of skill.
5. “[C]onfidence that the investment strategy will most likely turn out right, even if current market prices indicate otherwise.”
BigFatPurse believes the stock market is based on a variable ratio and variable interval reward system. This means that an investor cannot know in advance the size of his profits he would eventually receive and the time he can take the profits. Given the variable nature, an investor can be punished by the market in the short term even if he had invested in a fundamentally sound stock. In another occasion, he could have been rewarded with big profits even though it was just a speculative stock with no real value. Investors are generally too fixated on the outcomes and got confused by the variability. We believe the process is more important because it is something we can control, and logic tells us that the right process would bring upon the desired outcomes. We cannot control the outcome so why worry about it?
6. “Long-termism and a value orientation are at the heart of all we do, but to put these principles into practice requires constant vigilance and discipline.”
The strategy to slim down is to eat less and exercise more. But it is easier said than done.
One way to get successes in the stock market is to identify value buys and have the patience to wait for the investment to work.
Most investors do not lack the awareness of these requirements to invest successfully. They just find it hard to execute the logic and are tempted to follow their emotions, which is an easier path to take.