Risk is NOT a 4-Letter Word

My father-in-law retired from the practice of medicine a few years ago. During his fifty-year career, not only did he establish himself as a highly skilled and dedicated physician, he also displayed a head for numbers as they relate to investments. And because he was smart enough to enlist the aid of a savvy financial advisor, to plan for the future and nurture his investment portfolio, him and his wife are now enjoying a financially stress free retirement, living a comfortable existence courtesy of dividends and interest generated mostly from stocks and a sprinkling of bonds.

That said, not everyone shares his tolerance for investment risk taking. In this regard, one of his colleagues (let’s call him Dr. Aversion), was more inclined to place his discretionary cash in a bank savings account, earning a sometimes decent, sometimes woeful rate of return. Regardless the amount of interest earned, Dr. Aversion gained comfort from watching his bank balance grow, and he slept well at night knowing his money was not subject to stock market whims and fancies.

Now, keep in mind here that, save for a brief stint in California early in his career, my father-in-law lived and worked in Canada. And in this northern nation, the vast majority of medical docs are civil servants owing to the publicly funded health care system. While they are certainly paid well enough to afford a comfortable lifestyle, the pay is nowhere near the lavish sums heaped upon some State side physicians.

Dr. Aversion too was a Canuck based doc. One who didn’t understand the role that investments would play during his retirement. Who didn’t get that a pile of cash sitting in a savings account generating relatively meagre interest would dwindle once he retired, once his primary revenue stream (i.e., salary) came to an end.

Today, predictably, Dr. Aversion is paying the price for his unwillingness to become educated about investments and the role of risk, for clinging to the illusion of safety represented by cash. A few years after retiring in his early seventies, reality gave the good doctor a cold, bare handed slap. And he sold his luxury home and downsized to more modest accommodations because he needed to raise cash for living expenses.

Now near the age of 80, Dr. Aversion is doing his best to hold steady on the financial front, having finally enlisted the guidance of a financial expert. And though he is not likely to slip into poverty, he certainly will not return to his once financially stress free lifestyle. Though he was a fine physician, Dr. Aversion was an inept steward of his family’s money.

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You Want Success? Embrace Risk

In the investment world, ‘risk’ refers to the probability of losing part or all of your investment. Risk is not, as way too many people view it, the same as volatility. And it’s volatility that turns investors into scaredy-cats. And scaredy-cats make terrible, horrible, no-good investment decisions that most often turn into losses.

You see, volatility is part and parcel of the stock market. It’s simply the stock markets nature, ingrained in its DNA. If you understand this, then you accept the ups and downs and wild rides. Because you are confident that, based on more than 100 years of stock market performance, if you hang on for long enough, the stock market will smile upon you.

Check out the chart below published by Investors Friend:

total-real-26-2016Unlike other assets, stocks go through severe ups and downs from time to time. And investors with a long term horizon know this. They know that media noise heralding the end of the financial world as we know it (think 2007-2009 meltdown), is just that: noise, distraction, media publishing their usual ‘the sky is falling’ nonsense because it makes for good copy, believing readers want to be fed fear.

But if investors can muster the will to stomach the occasional precipitous fall in their portfolio value, they will be rewarded. When? No one can say for certain. Still, I’ll venture out on a limb here and say … it’s only a matter of time.

Let’s use the 2007-2009 meltdown as an example. Global markets dropped what, 40% or so? And for those who ingested a daily dose of Gravol to help calm nerves and restrain the fear impulse from hitting the sell button? Well, these folks reaped juicy rewards.

Check out the chart below (which is current only to 2015; sorry folks, a bit outdated. Given the continued market climb from 2015 through 2017, you can safely add on an even higher return than that shown by the chart):

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So, we’re talking more than a doubling or tripling of your money if you invested in 2009. And the way to have made this happen if you’re not the type to buy individual stocks but still wanted exposure to stock markets? Buy passive index Exchange Traded Funds (ETF).

How do you get a piece of the 30 blue chip companies comprising the Dow Jones? Buy an ETF such as the SPDR Dow Jones Industrial Average ETF (NYSEMKT:DIA).

Prefer to focus in on the technology sector? Buy Fidelity Nasdaq Composite Index ETF (ONEQ).

More comfortable investing in the broader market? Consider the Vanguard S&P 500 Index ETF (VFV). With each of these ETFs, your fortune is tied not to one individual company stock, but to all of the companies that make up the stock markets.

With each of these ETFs, your fortune is tied not to one individual company stock, but to all of the companies that make up the stock markets. (chewy bit: I do not own any of these ETFs, and am not recommending them one way or another. However, I do recommend you use these ETFs as a starting point for your research).

 

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Time Is On Your Side … Until It’s Not

On the issue of investing, Dr. Aversion was paralyzed by fear. And while fear led him to grow his cash stash, it wasn’t enough to last him for 20 or 30+ years of living post-retirement. Because today, you’re actually losing money by holding funds in a savings account, i.e., the rate of inflation is higher than interest paid so, in effect, these funds are worth less at the end of each year.

What would have happened if Dr. Aversion had a better understanding of stock markets, was willing to embrace at least some risk during the past 50 years? Most likely, he would not have downsized his home, nor would he be worried about outliving his money.

The huge, colossal, gargantuan, mistake that folks make is paying attention to stock market daily gyrations underpinned by self-serving political and media generated fear.

If we can block this out, if we can educate our self about the true nature of the stock market leading to a clear understanding of what it is we’re doing when investing, if we accept that volatility does not equal risk, and that we should have at least a three, five, ten, twenty or more year investing horizon, then we’ll be just fine.

And with patience as our ally, we’ll get to that place where our money is working for us, a place that affords us a financially stress free retirement not unlike that currently enjoyed by my father-in-law.

 

 

Inside An Investor’s Mind

Little more than one year ago, I bought shares in Canada’s largest airline, Air Canada (TSE:AC), at about $9 per share. At the time, my investor geek friends (naturally, I count myself among the geeks) questioned whether jello had replaced the brain previously inhabiting my head.

Historically, you see, the airline industry has not been friendly to investors. That, I suppose, is putting it mildly. For the brutally honest take, lets defer to legendary investor and gazillionaire, Warren Buffett, who called the airline business a ‘death trap’ as recently as 2013.

From one notable quip to another, Buffett offered this in your face sketch:

“If a capitalist had been present at Kitty Hawk back in the early 1900s, he should’ve shot Orville Wright; he would have saved his progeny money.”

So … if I haven’t been invaded by jello, what makes me think I know more about investing than Buffett?

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Research, Research, Research, Before You Buy

Let’s get this out of the way: I fully recognize the limits of my investing chops. Besides, comparing myself to Guru Buffett? Really? He’s a self-made gazillionairre. I’m not. Enough said.

Then what was I thinking?

To start with, life is nothing if not teeming with change. And that includes the aviation industry. So when I read a research report issued by TD Securities (TSE:TD)(TSE:NYSE) that argued the case for AC, saying that the airline was massively undervalued, and slapped a $21 target price on a stock hovering around $9, I took notice.

But, hey, it’s just a research report. And it’s essential to keep these reports in perspective, to understand that the company issuing the report may be self-interested (i.e., they may own the stock directly or through a subsidiary). That if you have ten securities companies issuing reports on one publicly traded company, often, nine will have a ‘buy’ or ‘hold’ recommendation and one lone voice will issue a ‘sell’ recommendation.

What does this all mean? While stock analysis may be informative, prudent and reasonable, it’s also self-promotional. By way of research reports, analysts do what they can to support the investment industry, to get investors to enter and stay in the game.

So while TD’s report was intriguing, it wasn’t enough to convince me to buy AC.

And the $21 target price? Which was more than double the current value?

Every investor must absolutely, positively, take these with a healthy grain of salt, skepticism and doubt. If I’m not making myself clear, how about this: Do NOT make investment decisions based solely on a stock analyst saying a certain stock is about to lift off, destination moon.

Because here’s the thing about target prices: they’re educated guesses, nothing more. Granted, securities analysts have access to more information than your typical investor, and may have more of an understanding of a particular industry and inner workings of a particular company. But, and this is hugely important, they do NOT know where a stock is headed, no matter how confident and blustery they appear.

 


Off Target

Consider a research study published in 2006 by Mark Bradshaw of Harvard Business School and Lawrence Brown of Georgia State University. These two guys examined nearly 100,000 12-month price targets issued by analysts from 1997 to 2002.

And here’s what they found: only 25% of stocks were at or above target at the end of a 12 month period; and less than 50% of stocks exceeded the target (then fell back) at some point during the 12 months.

This is their conclusion:

“Target price forecasts are overly optimistic on average, and … analysts demonstrate no abilities to persistently forecast target prices.

This evidence is consistent with prior findings of low abilities of various experts to forecast interest rates, GDP, recessions and business cycles, and the infrequency with which actively managed funds beat the market index.”

Okay, fine. Then are price targets and analyst reports of any use? Sure. Read the reports. Understand the rationale for slapping on a high price target. But don’t be sold. And certainly don’t let these reports be your only information source upon which investment decisions are made.

Getting back to AC, reading TD’s report was step one. After which I reviewed AC reports issued by other securities firms; researched and compared other airlines based within Canada, USA, and elsewhere; and read domestic and foreign newspapers, searching for information about the airline industry. And after taking time to digest all this information, I made the decision to buy AC.

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The Times, They Have A Changed

It just so happens that as I was contemplating purchasing shares in AC, Warren Buffett was considering buying certain American based airlines. And after word got out that Buffett invested nearly $10 billion in four airlines in late 2016, he had this to say:

“It’s true that the airlines had a bad 20th century. They’re like the Chicago Cubs. And they got that bad century out of the way, I hope.”

As an investor, what did Buffett’s considerable investment do for my psyche, for my decision to buy AC? Reflexively, I experienced a boost, felt good about my call. ‘Hey, look at me, I got in the game before Buffett.’

Then I talked myself down. I mean, what did it really matter that I spotted an investment opportunity before Buffett? It meant nothing other than I may have had access to some similar information. And just because Buffett is buying airlines, that in itself is no reason for me to buy. Because my investment objectives are likely different than his. Because he can afford to lose $10 Billion, and I’ll be hurt if I lose a lot less. And most importantly, even though Buffett is an investing genius, he’s human (gasp!) – no, really, he is – and he too experiences losing investments.

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Higher and Higher … Not

This week, nearly one year after my buy of AC, the stock soared to $22. More than doubling my money. Well, look at that, the TD analyst was right! Uh huh. And on 50-75% of his other predictions he was wrong. So, as my teenage son would say: whatever.

Still, I have to tell you I was feeling good. To my thinking, I bought low, and sold high. The perfect trade. And I rode that wave of satisfaction for about 24 hours. Because the next day, I read a new report issued by TD. Seems that they have now upped their target price to $34. Other securities analysts have also increased their target price, most to the mid and upper 20s, with one lone voice calling for a fall back to the teens.

And for a few minutes after reading these ambitious price targets, jello does jiggle my brain. Suddenly anxious, I’m thinking, uh oh, did I sell too early? The analysts say AC stock is going even higher! I could make even more money! Oh no! Why did I sell?!

The insanity then passes. BuddhaMoneyLama takes hold, reminding me that greed sucks. Telling me to be grateful for my good fortune, for my wisdom to sell at a peak. All is good now. Mental balance returns.

Will AC go higher still? Maybe. Do I care? No. Because I’m no longer invested. Because I’m satisfied with my profit and am now looking forward to investing the proceeds in other companies that offer better value.

And I’m certainly not buying the analysts bluster that the stock will now rise another 75%. I mean, this is what analysts do. If they’re lucky enough to make a correct call on target price, as soon as the price is reached or within spitting distance, they raise their target even higher. ‘Hold forever; the stock will go up, up, up!’ And they do this because it’s their job, to entice more people to invest in the stock market.

Here’s what I have to say to that: don’t succumb to jello brain. Once a security has reached YOUR target price, whether on the upside or down, stay disciplined and sell. Say thank you very much. And move on to the next investment.

 

 

 

 

 

 

 

Stock Market UnderBelly: Part II

A friend of mine, Tom, is a marketing expert. After reading the post published earlier this week (The Stock Market’s Dark Side), he flashed me a thumbs up for telling it like it is in the stock market world. Then he urged me to go further, not only because the subject matter makes for a good story, but …

“because people should know about the promotional side of the stock market, have their eyes wide open, before deciding to become an investor.”

So hats off to Tom for inspiring me to write Part II. To explaining to you why it would be wise to carry healthy skepticism toward corporate press releases, media reported snippets from CEOs, and any other sort of promotion be it splashy, widely circulated headlines, small time investment newsletters, or the ever more popular personal finance blogs (BuddhaMoney included).

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Let Me Tell You A Story …

Our society is huge on promotion. Whether it’s selling political drama on the right or left, running shoes, the latest Hollywood flick, toothpaste, tourism, financial products … whatever good or service or viewpoint is out there, it’s being promoted in big and small ways.

That’s all good. I mean, if old-fashioned word of mouth isn’t bringing in as much business or converts as desired, then you turn to other mediums to build awareness, bring in customers, and drive sales. This is simply how our system of commerce works.

The problem, however, arises when we’re not fully aware of the rules of the game, not seeing promotion for what it is, believing, hook, line and proverbial sinker, that the advertisement is completely truthful. When this happens, we’re bound to be disappointed, maybe taken for a ride, because the vast majority of promotion is about story telling. And commercial story telling, by its nature, involves suspending reality, manufacturing illusion, exaggerating a little or a lot here and there for the purpose of drawing more eyeballs, opening more wallets.


Watch Out For Cow Pies

Sticking to the financial world, noise is constant and relentless. Partly because the corporate arena is crowded  and you may have to raise your voice if you want to be heard.

Fair enough. And partly because the folks running banks, corporations, mutual funds, index funds, whatever financial product or service provider is out there, know full well how to play the human propensity toward fear and greed.

They know that, for too many folks, dangling fear and/or greed under the nose sells. And this isn’t cool, fair, or kosher.

Because it’s not a level playing field. Because financial service providers have vastly more information than Jane or Joe Consumer, and not sharing that information is detrimental to J or J Consumer. And when this happens, financial service providers are acting purely out of self-interest (i.e., with intent to gain more business) having little or no regard to potential harm done to honest folks handing over their hard earned money. And that … well … that’s just not the sharing, caring world that we want for our kids, or our self.

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Alright then, since it’s not a level playing field, since we don’t have access to certain relevant information, and are sometimes fed misleading information, what do you do?

You block out the noise and cut through stinky cow pies. Here’s a few pies I stepped around this morning while scanning through financial websites:

  • Sell These Stocks Before Market Closes!
  • Runaway Stock Baffles Analysts!
  • How One Man Turned $50,000 Into $5 Million!
  • Biotech Stock Explodes After Drug Announcement!
  • This Is Not An Investment Opportunity You Want To Miss!

Now, you may read these headlines, all of which are taken from small publications with important sounding names, find them mildly amusing and not give them another thought. But some folks don’t. Some folks click on the link, then get sold on shady content that feeds their investment decisions.

Unfortunate? Yes. Because here’s the thing: no legitimate, worth your time publication is going to run headlines like that, the purpose of which is none other than to draw you in. And once you’re in, that’s when the real selling starts. And if persuaded to buy (sigh), you’ll likely lose money.

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All Dressed Up

Major media players, multi-billion dollar companies, aren’t all that different from the small fish. In fact, because big media and big corporate have much deeper pockets, their promotions may be a less obvious sell, slicker, and more persuasive to a wider audience.

Take Nike, (NYSE:NKE) for example (I could have used any large corporation-not picking on Nike here). Are their shoes really better than Adidas or Reebok or any other shoe manufacturer? Because Michael Jordan is paid a gazillion dollars to promote Nike shoes, and you went out and bought Nike shoes, will you become a better basketball player, will you become like Mike, or just feel more cool? (I own Nike shoes because they’re comfortable and I can buy them on sale at discount outlets).

Aside from product quality workmanship, Nike isn’t selling guarantees. Plain and simple, Nike sells its shoes in the best way it knows how: by placing a storyline in your head. And we, the consumer, read into the ad whatever we want. And once we own the product, we feel whatever we want to feel, we perpetuate whatever illusions we like.

Financial companies are no different. Let’s use Blackrock Inc. (NYSE:BLK) as an example. The largest asset manager in the world, and provider of index funds and mutual funds, says this on its homepage:

“A suite of 18 low cost funds that can help make your long-term investment goals a reality.”

Yes, the funds could do that. And they could just as well blow up in your face. But Blackrock doesn’t mention this. However, in keeping it legal, Blackrock does state, in teeny, tiny print at the bottom of the page,

“The funds are not guaranteed, their values change frequently and past performance may not be repeated.”

Okay, good for them, check off the box next to full disclosure. But, really, how many people are reading teeny, tiny print? Even if you do read it, is the message really sinking in? I mean, it’s boring legalese with no emotional resonance.

Fact is, most of us focus on the stuff that gets our juices flowing, that makes us dream of rich, comfortable retirement years. And the ideal placement for emotional triggers is the top page. This is where Blackrock seems to promise to make my investment goals a reality. Shouldn’t I believe what they say? In short, nope. Trusting in any sort of promotional literature would not be wise, especially a promotional hook that is completely undermined by the teeny tiny legal print.

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Keeping It Honest

By healthy skepticism, I mean ask questions. Ask what is the motivation of a company to issue this or that press release, to have their CEO run the talk show circuit, or invite media to corporate sponsored events.

Know that certain major publications lean politically left or right (the center seemingly in hibernation) and this will influence both what information they present and the way in which they present information.

Know that stock analysts, those people who like to make you think they have a crystal ball when it comes to stock forecasting, are in the sales game too. Sure, they have access to company and economy specific information that we don’t, but their predictions remain simply that, predictions.

Know also that stock analysts almost always issue BUY or HOLD recommendations. SELL recommendations are exceedingly rare. Why? Do all stocks go up, indefinitely? Do all companies succeed?

The only reason SELLS are rarely issued is because analysts are engaged in their own form of stock promotion. And the last thing a stock analyst wants is to influence stock markets to move lower.

There’s a ton of promotional noise out there. The sooner you’re able to recognize noise for what it’s worth, the better informed you will be, the wiser decisions you will make.

ps. big thanks to Tom for the inspiration and a bit of promo in support http://www.reinfluenceinc.com/.

 

The Stock Market’s Dark Side

Elon Musk, founder and CEO of Tesla Inc. (NASDAQ:TSLA), recently did something highly unusual: he disparaged his company. Specifically, he knocked …

Elon Musk, founder and CEO of Tesla Inc. (NASDAQ:TSLA), recently did something highly unusual: he disparaged his company. Specifically, he knocked Tesla’s share price, saying it is “higher than we deserve.” Whether true or not, to publicly state that your company is not worth its current trading value is not only rare, it’s virtually unheard of. It’s just not what a CEO does.

Because in addition to assuming responsibility for day to day operations, a CEO also acts as a company’s primary media pitchperson, head cheerleader, numero uno fan, selling the company’s virtues to the public and financial analysts. And always with a positive spin. Unless you’re a rare breed known as Musk, so it seems.


Sales, Man, That’s What Corporate Life Is All About

I’m not here to riff on corporations as evil entities myopically bent on achieving profit and maximizing shareholder value, all the while paying little heed to contributing to the social good and society at large. To varying degrees, some companies adhere to a social conscience, others don’t. For better or worse, such is the diverse nature of organizations, and humanity.

Still, regardless of how much or little a for-profit company gives back to its employees, communities, and our world, they all share something similar: they’re in the sales business. Whether selling goods or services, companies need sales to generate revenue to turn a profit to stay in business. And selling involves promotion, marketing, and advertising. And if you have a media friendly CEO, well then, all the better for driving sales, all the better for business because that CEO’s favorable image connects with consumers, persuading consumers to use, watch, listen to, or wear a company’s product.

Think Steve Jobs and Apple. Media loved writing about Steve, and Steve knew how to play the media, to manufacture himself as a near mythical legend, and position Apple as not only best in class but in a class of its own worthy of sticker prices considerably higher than rivals products. This sort of image making, however close or far removed from reality, impacts consumers buying habits and investors desire to own the stock, and consequently bid up share price.

Now, I’m not saying that Steve wasn’t a genius visionary or that Apple doesn’t make exceptional products. Instead, what I am saying is that you can have the most excellent product or service on the planet but if relatively few people know about it, and sales lag, then the company will soon fade away.

Apple doesn’t have that problem. They remain as extraordinary at the sales game as they are at manufacturing. And to this day, their image among consumers remains intact, best in class. As does their market value, which is higher than any other company on this planet, by far.


Promotion, Man, That’s What The Stock Game Is All About

Whether you’re a stock market behemoth like Apple or Google (NASDAQ:GOOGL), or a teeny tiny penny stock, in one way or another, you’re promoting your stock, i.e., you’re selling the merits of owning your stock because you want more buyers than sellers; this is how share price marches upward.

The typical medium in which behemoths promote their stock is mainstream media. Be it an interview with the CEO, a quote, a prediction as to what comes next in the stock market or economy, an annual meeting turned Woodstock for Capitalists (i.e., Berkshire Hathaway’s (NYSE:BRK.A) annual shareholders meeting), or a product unveiling (i.e., Apple’s annual Worldwide Developer’s Conference).

And while the CEO may firmly, honestly, believe in what they are promoting, we the consumer would be wise to interpret their words with a grain or two of salt. Because they’re just words. In the investing game, words are not enough. Not even close.

Numbers, not words, tell the story. On a basic level: Revenue, Expenses, Profit, these matter more, so much more, than words. I mean, words can be beautiful and flowery and convincing, and we’re all susceptible to oratory charm. But it’s important to see words for what they are, and in the financial world, words decidedly take a back seat to numbers.

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When The Numbers Don’t Add Up, Run!

Penny stocks are a different animal.

Technically, a penny stock is defined as any stock that trades for less than $5 / share. But for our purposes, a penny stock is one that trades for less $5 / share AND is not listed on a major stock exchange AND is a small company AND is often illiquid (i.e., relatively few shares are traded each day, making it difficult to buy and sell).

Now here’s the dark side of penny stocks: scammers LOVE them! And they can make a small fortune off people who don’t know any better, people who chase pots of gold and ends of rainbows, people who lay their bet on spam email promoting the latest and greatest 10 cent stock promising to power through to $10 or $50.

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The typical penny stock company touted by scammers? Little to no revenue, little to no shares traded daily, little to no business prospects.

And the angle, the hitch, the hook? The company says (words, words, words) that it’s changing its business model and is now in a HOT SPACE. For example, if the price of gold takes off, the company will morph into a gold mining company. If biotech is hot, you guessed it, the company reinvents as a biotech company.

Then, if it’s a big time scammer, they pay a promoter(s) serious coin (we’re talking hundreds of thousands to millions of dollars) to scream about the INCREDIBLE, UNBELIEVABLE, FANTASTIC investment opportunity presented by this itsy bitsy shell of a company. And the promoter(s) sends out millions of emails, many press releases, and arranges for inclusion in hundreds of investment newsletters and stock chat rooms. This is the modern version of a boiler room (i.e., refers to a bunch of guys [rare for women to engage in this activity] hard selling stocks to random people over the phone – well depicted in the movie, Wolf of Wall Street).

Once the word is out, once enough people have been suckered into becoming buyers of this worthless stock, the scammers start selling. Because, you see, before all of the promotional activity was set up, the scammers arranged for most, maybe all, of the issued stock to be in their name or, if sophisticated, the name of a faceless corporation. The faceless corporation gives them cover from regulators who have rules regarding the boundaries of promotional activity.

And if the CEO of Penny Stock Corp. says he doesn’t know who is behind the promotion, and the regulators cannot identify the promoter, then Penny Stock Corp. CEO has no worries. And he dumps his stock to pie in the sky investors who bid up the price. Until, that is, buying momentum halts, selling ensues, and stock price craters in a matter of hours or days.


The Case of Dry Ships

But you need a real life example. So let’s briefly describe what happened recently with a company called DryShips Inc. (for the full story, check out the detailed accounting here).

In November, 2016, DryShips disclosed a huge loss and suspended debt payments to preserve liquidity. Shortly after, the company, with a market value of close to $5 million, didn’t just catch fire, it was a veritable inferno! In just four days, the stock price leapt more than 1500%!

On November 8, its stock was priced at $5107, with a grand total of 38 shares being traded. Two days later, price jumped to $13,328 with more than 5,000 shares traded. Come November 15, price it $81,760 with more than 9,000 shares traded. By November 29, price had tumbled to $4849.

The journalist who wrote the article referenced above ends his story by referring to the “stock’s mysterious rally.” Well, other than being able to prove who was pulling the scam strings, there’s no mystery. The stock blasted higher owing to deceitful manipulation and nefarious promotional activity. Because absolutely nothing related to the company’s business activity justified a massive move in volume and price. And at the end of the day, guess who loses? Right, Joe/Jane Investor who were suckered into buying worthless paper.

As an investor, you do not want to get anywhere near this kind of stock. So please do your best to ignore any spam investing emails, ignore talk of a stock being “the next Facebook”, ignore any and all penny stocks because buying penny stocks is akin to gambling, not investing, and nine and half times out of ten, you will not exit your stake a happy camper.

Dividends: The Ultimate Second Income

Bored with the same old games, my 11-year old son and teenage daughter rummaged through the games closet and found an ancient relic, Monopoly. And as I excitedly told them about its history, that is was invented by self-described anti-monopolist, Elizabeth Magie, in 1903, that its purpose is to illustrate the hazards of concentrating land in private monopolies, my kids looked at me as if what they were hearing was, ‘blah, blah, blah’, rolled their eyes in tandem, and walked away.

Not an unexpected response. I mean, hey, the kids just want to be free to play, not weighed down by an adult (that would be me) spewing historical facts and economic theory. And play they did.

From time to time, they would ask me to clarify rules, which I was only too happy to oblige. Eventually, after surreptitiously spying on them from the kitchen, watching and listening as they learned rules and strategy, I came in from the cold and asked, ‘Can I play?’

Of course, being the adult whose headspace has not yet adjusted to the idea of summertime freedom, to the idea that summer is a time for letting it all go, for letting it all be, for being here, now, the Dad in the room (that would be me) had a hidden agenda.

And as I sat on the family room rug, took a seat at the playing board, and chose the Hat piece because the RaceCar was swiped by my son, I prepared to teach the kids a thing or two about the joy of property ownership.

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Interest and Dividends Rule

In other blog posts (see Property Investing: Need To Knows and Thinking About Investing In A Condo), I’ve discussed upsides, downsides, and things to be on the lookout for when buying real estate as an investment. And I also batted around the advantages of owning Real Estate Investment Trusts (REITs). Whether we’re talking about owning REITs (i.e., stocks that pay monthly dividends) or real property (i.e., bricks and mortar buildings with tenants paying rent), the beauty of both is … they’re Income Generators.

I love Income Generators! What’s not to love? In essence, you’re paid for being the owner. An ‘income stream‘, is the somewhat poetic phrase describing the monthly cash flow that makes its way to your pocket.

While playing Monopoly, I tried explaining the concept to the 11-year old as he insisted on buying RailRoads (a kid with a fervent imagination, a romantic at heart, naturally he finds RailRoads captivating) instead of Marvin Gardens or Tennessee Avenue.

Listen, even if you own all four RailRoads, you collect only $200 each time someone lands on Pennsylvania or Reading or the others.

So.

So? You know how much rent you collect when someone lands on Tennessee and you’ve put up a hotel? $950!

I don’t care. Besides, I have way more money than you!

True, you do have more money. But I have more properties. And eventually, you’ll be paying that money to me for landing on my properties. Then Ill have the properties AND the money, and you’ll be left with bubkus.

I still want the RailRoads.

Ya well, kids see something special about trains and RailRoads. I get it. As for that particular game, it played out as expected, the kid coming up short. Same in the next game. But the third time around, the kid’s romantic heart took a back seat to his competitive nature. Taking a page from my playbook, the kid gave first priority to property accumulation, knowing that this was the eventual way to riches. At least in the game of monopoly.

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Knowing The Deal

Let me back up a moment. I’m not saying you’ll become wealthy if you own property. It may happen but it’s far from certain. But I am saying that property ownership is a truly excellent, outstanding way to generate income. That said, income is only one half of the equation. The other half being expenses.

When you own real property, like a condo (Thinking About Investing In A Condo), it’s absolutely essential to get a firm handle on expenses. Because if expenses outstrip income, then you have to revisit the question of … what’s the purpose of this investment?

If it’s not about generating net income, then it’s all about capital gain, i.e., expecting property value to increase before you sell the property. And if capital gain is the sole purpose, then you’ve ratcheted up risk level because you just don’t know what the property will be worth tomorrow or ten years from today.

Personally, I’m a big fan of REITs. And I’ll step outside my usual commentary and say that I prefer individual REITS over a REIT Index Fund. Why? Because while the REIT Index Fund typically offers less price volatility as compared to owning one or two or a handful of individual REITs, it will also pay a lower dividend, sometimes much lower.

So, I’m willing to trade off more volatility for more income. And I’ll do so knowing that REITs in general are not a volatile group like, say, technology stocks. And they usually do not see wild price swings.

Granted, you also won’t see price gains like you might in the technology sector. But I’m good with that. I’m good with owning stable REITs that offer relatively smaller price gains and a healthy dividend.

And I’m real good with watching the monthly dividend deposits to my account, knowing my total ownership expense is $9.99 for each purchase and sale.

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What Kind Of Income Are We Talking About

Let’s say you have a spare $100,000. And you want to invest in property. You could apply that 100k as a down payment toward a condo. Incur the costs of taking on a mortgage, monthly condo fees, legal fees, title fees, any property transfer tax. Then find a renter. And hope the renter is reliable, cares for your property, and minimizes your maintenance costs.

And maybe you would turn a profit each month. It just depends on the numbers involved. And you, being a BuddhaMoney enthusiast, would crunch, crunch, crunch all the numbers before making your purchase decision. I’m not trying to be a wet blanket here; these are just some of the realities of property ownership.

Or you could take that 100k and buy a few REITs. I lean toward REITs listed on the Toronto Stock Exchange because their dividend yields tend to be much more generous than those offered by companies with U.S. listings.

While there’s a whole bunch to choose from, I’ve listed a few below (though I want to emphasize that I’m not advising, telling, suggesting or otherwise whispering in your ear to go out and buy any of these REITs without first doing your research):

  • Pure Industrial REIT (TSE:AAR.UN). Pure Industrial’s portfolio concentrates on industrial properties located in both Canada and the U.S.A. It pays a yield of 4.65%.
  • Slate Office REIT (TSE:SOT.UN). Slate owns Canadian based commercial properties, with an emphasis on office buildings. It pays a yield of 9.65%.
  • RioCan REIT (TSE:REI.UN). RioCan is Canada’s largest REIT with a market cap near $8 Billion (CAD). It focuses on shopping centers, retail and mixed use properties. It pays a yield of 5.80%.
  • Dream Office REIT (TSE:D.UN). Dream owns a stable of office properties throughout major urban Canadian cities and pays a yield a whisker under 8%.

So for simplicity sake, let’s say on 100k the average yield for these four REITs is 7%. That’s $7,000/annually, less trading fees which would equal $9.95 x 4 = $39.80. And the bonus is that dividends are taxed at a lower rate than interest income (think rental income) meaning more money in your pocket.

Putting money to work for you. Generating an income stream. All helps toward building your wealth.

 

Hot Stocks Burn!

A little bit of knowledge can be dangerous, so its been said. And in the stock market, oh man, ain’t it the truth! Especially in a boom market like the technology heavy NASDAQ.

During the past nine years, ever since the financial world began healing from the Great Recession, the return on a NASDAQ index fund has been relentlessly positive.

Sure, temporarily, price dips into the dreaded valley of bears but give it a day or two or thirty, and charging bulls wrestle momentum forward as price resumes its heady ascent. Currently, the NASDAQ stands above 6110. A mere one year ago, it was at 4800. That’s a 27% gain in one year! Such a gain is outrageously potent when considering that equities historically return an average closer to 8%.

‘Ya, well, that was then, this is now. Get on board the gravy train or stand there with your hands in your pockets, money in a savings account and earn your 1%. Good luck with that!’

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Derailments Happen

More or less, that’s what Jake said to me the other day. Jake is in his late 70s. His wife, Nancy, passed away several years ago. Until bidding farewell, Nancy held the title of family investing guru. Despite having next to no knowledge nor experience with investing, Jake figured, how hard can it be?

And since he’s taken over the portfolio reins, Jake has done well. As have others who have invested in American based index funds.

But here’s the thing: Jake attributes success to his investing prowess. Fact is, Jake has no knack for investing, no know-how, no prowess. I don’t say this as a knock against Jake. Not at all. He’s a fine person with a warm disposition and a kind heart. It’s just that I know Jake well enough to understand that he’s been following the crowd.

And the investing crowd has been riding a tsunami sized wave of good fortune since late 2009. And for anyone whose investment days only just started after the last recession ended, it’s quite possible that all they’ve known are good times.

Cool. Good. Excellent for all who have seen their portfolio grind and bump higher and higher as the NASDAQ, S&P 500, Dow Jones continue to break records. And should Stock Market Gods continue to stoke global economies and shine light upon corporate profits then, hey, whose to say that, far from nearing its end, this party isn’t just getting started?

Hmmmm … hope for the best, nothing wrong with that. But choose to remain blind to the fact that the longest period of sustained economic growth in the USA was 10 years (1991-2001), that from the 20th century onward, recessions typically occur every three to six years, that we are currently in year nine of the economic expansion cycle … and you may be in for a nasty turn of your portfolio.

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This Is Not Chicken Little Calling

Jake talking:

‘Australia is experiencing its 26th consecutive year of economic growth; old age doesn’t derail economies, something has to kill them; consumers are spending; banks are lending; full employment; property prices rising … tell me: where’s the dark, foreboding cloud indicating recession and stock market collapse? Huh? Where?’

Absolutely, Jake. All signs look positively stellar. I mean, who can argue with what you just said or the zooming stock prices of Amazon, Apple, Google and Facebook this year? Wowzers!

But you know what? The stock market, and life, is about looking forward, not backward. Sure, we check out history to learn from others, to learn what worked and what didn’t. Still, as far as my limited knowledge reveals, we humans don’t know what’s coming in the next minute nevermind the next year or two or ten and beyond.

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What’s This Game All About

I’ll give Jake this: economies of the developed world are healthy and look to be getting stronger. And in year five and six and seven and eight, and now nine of the US expansion, pundits have been tripping over themselves to call the next recession and stock market downturn. Yet all they’ve done is fall flat on their face as growth continues and stock markets chug along.

But does this mean you shouldn’t be careful? (yes, yes, be careful!) Re-assess your portfolio? (again, yes!) Consider selling winners and taking profit (oh, yes!) rather than staying fully invested and letting all the chips ride? (yikes, don’t do that!).

Why? Because managing your portfolio is about managing risk. There is ALWAYS risk in your investment portfolio with some assets inherently riskier than others. And you can best manage risk by coming up with a plan that allocates fixed percentages of your portfolio to different asset classes.

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Laws Of Gravity Still In Play

Okay, real world example instead of blathering on: let’s say Jake’s plan involved allocating 20% of his investment portfolio to equities in the technology space, either through buying individual stocks or index funds. And with the gains Jake has made in the tech sector during the past few years, tech’s share of Jake’s total portfolio has ballooned to 45%.

Having too much exposure to tech, i.e., too much risk, makes for a portfolio out of balance. Because when (not if, but when) there’s a market fall, you can be sure that those tech related gains will wither if not evaporate entirely.

Now, since Jake wants to maintain technology exposure at 20%, assuming he accepts sage guidance from BuddhaMoney, he’ll happily sell 25% of his tech assets, pocket the profit, and reinvest elsewhere.

For example, maybe Jake will bump up his fixed income allocation (currently at 20%) and buy a Bond index or individual bonds because he wants to reduce portfolio volatility. Or maybe with interest rates seemingly, finally, on the rise, he’ll put his money to work in financial companies, banks and insurance, since their bottom lines tend to benefit from rising rates. Or increase his cash holdings (nothing wrong with cash; best to be patient and wait for opportunity rather than rushing into investment action).

Whatever Jake decides, the most sensible course of action is to maintain a balanced portfolio, diversified across asset classes (i.e., stocks, bonds, real estate), industries, and geographically. Because booms don’t last forever, crystal balls are the stuff of dreams, and the laws of gravity will not be repealed any time soon.

 

 

 

Canadian Bank Stocks Rock

On the global stage, Canada is a minor player. And going by the numbers, you may not expect much on the economic front: with a population (36 million) less than California, Canada ranks 10th for gross domestic product (GDP); and 32nd for GDP per capita. But numbers alone don’t tell the whole story. The thing is, on several fronts, seemingly polite Canadians don’t hesitate to punch well above their weight.


Incredible Cash Machines

For those with a long term investing horizon (that should be everyone, since investing is a long game), who believe that capitalism is going to stick around awhile, the population will grow owing to domestic baby creation, immigration, and ever increasing life spans, and that consumers and businesses will continue to rely on financial institutions … you can’t go wrong with the big five Canadian banks.

These are hulking, multinational corporations operating in a well-regulated (i.e., government oversight) home environment. These are companies that churn out profits to the tune of 1 to 3 BILLION dollars every three months. And who give back to shareholders in the form of dividend increases and share price growth.

On a stock risk/return measure, there isn’t a much safer bet.

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Closer Look

  • Consider Royal Bank of Canada (TSE:RY)(NYSE:RY), Canada’s largest bank with a $137 Billion market value. Though more than half of its revenue is generated from domestic operations, this is expected to change in the near future as RY has significant American based operations, as well as conducting business in 35 other countries.

Adjusted for stock splits, in 1998, RY traded above $22. Today, it’s trading at $92. And while you’re enjoying the stock ride, every quarter the bank pays a healthy dividend to shareholders. During the past 17 years, dividend payments have increased from 13.5 cents per share to 0.87 cents per share. Typically, dividends are increased twice/year, because they make so much money! Currently, the percentage dividend payout is about 3.75%.

  • Next up is Toronto-Dominion Bank (TSE:TD)(TSE:NYSE), nipping at the heels of RY with a $118 Billion market value. TD also maintains a large American presence and is now counted among the top 10 banks in the USA.

Adjusted for stock splits, in 1998, TD traded at above $8. Today, it’s trading at $63. Like RY, dividend payments commonly increase twice per year. During the past 17 years, dividend payments have increased from 10.5 cents per share to 0.60 cents per share. Currently, the percentage dividend payout is about 3.8%.

  • Bank of Nova Scotia (TSE:BNS)(NYSE:BNS) is the most international of the Canadian banks. With a market value of $92 Billion, BNS operates in 55 countries not including the USA.

Adjusted for stock splits, in 1998, BNS traded at $34. Today, it’s trading at $76. Dividend payments commonly increase twice per year. During the past 17 years, dividend payments have increased from $1.00 per share to 2.88 per share. Currently, the percentage dividend payout is about 4.0%.

  • Bank of Montreal (TSE:BMO) (NYSE:BMO) sports a market value of $61 Billion and has substantial US operations.

Adjusted for stock splits, in 1998, BMO traded at $32. Today, it’s trading at $93. Dividend payments commonly increase twice per year. During the past 17 years, dividend payments have increased from $0.25 per share to 0.90 per share. Currently, the percentage dividend payout is about 3.8%.

  • Canadian Imperial Bank of Commerce (TSE:CM)(NYSE:CM), weighs in at $42 Billion market value. Outside of Canada, CM has operations in the USA, Europe, Asia, Australia, Latin America, and the Caribbean.

Adjusted for stock splits, in 1998, CM traded around $36. Today, it’s trading at $106. Dividend payments commonly increase twice per year. During the past 17 years, dividend payments have increased from $0.33 per share to 1.27 per share. Currently, the percentage dividend payout is about 4.8%.


What To Buy and When

You’ll get opinions all over the map on the issue of which bank stocks offer the best investment potential. Although I’m not about to throw my hat in the ring here, I will say that sound arguments may be made for any of the banks listed in this post. And if you can’t decide which one belongs in your shopping cart, then you may want to opt for one of the following exchange traded funds (ETF):

  • ZWB, Covered Call Canadian Banks, issued by Bank of Montreal, currently pays a +5% yield with a 0.72% management fee.
  • XFN, S&P/TSX Capped Financials Index, issued by iShares, currently pays a 3% yield with a 0.55% management fee.

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The Magic Key: BUY ON SALE!

Whether you buy an individual bank stock or an ETF, your portfolio will greatly benefit from patience.

Currently, bank stocks are trading at about 10% off their 52-week high. This is what I call a middling discount. It’s a decent entry point and you’ll do well in the long run. But you’ll do better if you wait for a deeper discount like what was on offer in January, 2016, when bank stocks were beaten up, so much so that their dividend yields were between 4.5% – 5%, which is a fantastic yield for companies of this quality and size.


If You Can’t Beat ‘Em, Join ‘Em

Sure, there are valid complaints about bank fees and services, and sometimes banks do jump offside, strong arming consumers to pay for unnecessary services. And that’s a topic for another day. For now, from a practical investor perspective, it sure is worth your while to own some of these incredible money making machines.

Think about it: you know those monthly fees you pay out of pocket? Well, wouldn’t it feel better to take from the bank’s pocket, in the form of quarterly bank dividends, to cover the cost of those fees and more? That said, as good as it feels, there are bigger issues at play than taking satisfaction from reaping financial revenge.

Canadian banks offer boringly, consistent profitability. When financial institutions around the world were melting down in 2007-2009, Canada was held up as the model banking system and its banks as the model banks. Yes, Canadian bank share prices were hammered during this time but that was only because investors predictably panicked (in retrospect, this time period was an extraordinary buying opportunity). The banks themselves were never at risk of harm.

Boring isn’t a problem. In the world of investing, boring is often exactly what you want. You want the unassuming turtle portfolio that grows little by little, year after year. The one that makes you wealthy.


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Enter Buddha

Be patient and wait. Ordinarily, the mind does just the opposite. Grumbling for that which has not happened. Complaining, not grateful. Desiring instead of creating the capacity to receive. Create the capacity to receive and much will happen.

 

Risky Business

Starting in late 2007, and continuing throughout the so-called Great Recession, conventional talking heads prophesized the end to America’s reign; tea leave readers foretold China’s economic belly flop; the European Union threatened to unravel, to be undone first by Greece, then Portugal, then Ireland, then Spain, then … and the all mighty consumer stopped spending thus greasing the downward spiral.

With eyeballs bugging out left and right, folks terrified of an impending crash landing fled financial markets. Too risky, too dangerous, they said. So equities were dumped en masse and shelter was sought under cover of Government Treasury Bills and mattresses.


And Now … The New And Improved America

Nearly a decade later, the American economy has healed. U.S. manufacturing is undergoing a renaissance, fracking has transforming the energy sector for better or worse, housing markets are humming, unemployment targets have been exceeded, and, as a matter of self-interest, global economies are cheering, and benefitting from, America’s phoenix like rise. Compared to the dark days, the financial world as we know it is at relative peace.

And in the wake of perceived macro economic risks falling by the wayside, stock market indices are hitting one new high after another. Feeling secure about domestic and global economic prospects, investors continue to pour record amounts of cash into equity index funds and mutual.

Seems like a smart move, yes? I mean, with systemic, default, credit, liquidity, operational and market value risk sirens no longer screaming, isn’t now the perfect time to get into the stock market, to shoulder more risk in exchange for higher return?


Reality Check

Risk. It’s double-sided. In the investing world as in life in general, risk may simultaneously present danger and opportunity. Yet, many people hear the word risk and run, as if it’s a fatal hazard to avoid. And sometimes it is. Sometimes, after plotting bar charts, measuring graphs, researching and analyzing, doing due diligence until the cows come home, we rightly conclude that the chance of potential harm outweighs any possible reward.

At other times (i.e., Great Recession), we get scared. Emotions drive decision-making. We panic and sell into downdrafts at a loss. Then we stand on the sidelines biting our fingernails, waiting for calm to return, convincing our self that we’re safer bearing the risk of not investing.

Are we safer on the sidelines when markets implode? Or we missing out, failing to capitalize on golden opportunities?


Fear of Loss May Equal Loss of Opportunity

When it comes to investing, emotions are your nemesis. When they take over, we become blind to unbiased data.

We minimize the fact that North America has experienced more than forty economic recessions during the past two hundred years. We overlook the reality that every one of those recessions came to an end, that the sun never stopped rising, and growth eventually resumed an upward trajectory.

Meaning? That recessions are part of the natural capitalist cycle, and that while extreme volatility has been known to cause shallow breathing and digestive issues, it may also be understood as a measure of temporary price fluctuation. Not loss (unless you sell at exactly the wrong time), but fluctuation. And these fluctuations often present opportunity for gathering low hanging fruit leading to juicy returns.


Mental Wonkiness

Why the persistent, near universal investor short sightedness? Why, without fail, does the appetite for equities decrease when markets are volatile and increase when markets are stable?

Blame one of the biggest risks of all, the risk residing between our ears, that conceptual notion called The Mind.

Embedded in the mind is fear, a primal emotion. According to behavioral finance’s prospect theory, fear saddles investors with what is called loss aversion, i.e., we place more weight on the pain associated with loss than the good feeling resulting from gain.

True, it’s only a theory. But just for fun, test it out. Ask yourself, what emotions did you feel back in 2007-2009 when reading successive month end statements showing lower and lower portfolio values? And when daily media reports gluttonously shared the feast of bad news how often did your stomach turn? Did those feelings make you want to buy stocks or bolt for the exit, courtesy of fear?

Fear overpowers the investor’s two most effective weapons: logic and rationality. Without these, we’re practically defenseless against the onslaught of panicky herds. And certainly, unlike Warren Buffet, we forget that market uncertainty may be our friend.


Profiting from Uncertainty

Late 2008, holding fast to the conviction that global capitalism wasn’t flat lining, Mr. Buffett wrote a cheque for the tidy sum of $5B to buy Goldman Sachs (NYSE:GS) preferred shares yielding a hefty ten percent (equals $500M/annually). At the same time, he buys warrants allowing for purchase of 43.5M common shares at $115.

Three years later, GS buys back the preferreds at a ten per cent premium (another $500M for Buffet; another day at the office) and, as of the time of this writing, GS commons trade near $215 making for a plus 90% value increase.

When most everyone else was sprinting to the bunkers, how could Buffett be sure that stock market declines were not a harbinger for the end of the world as the Mayans predicted?

Well, other than stating the obvious that hindsight is 20/20, I’m not going to pretend to have an answer. But I’ll go out on a limb and say that, as a student of history, Buffet knew the following:

  • Since the 1940s, the Dow Jones Industrial Average (DJIA) has declined by at least 20% more than 12 times;
  • Since 1906, the DJIA has been on an upward climb, moving from 100 to near 21,000; and
  • About every five years or so, there’s a temporary market pullback before resuming the march to new heights.

Related, I wouldn’t be surprised if Buffet’s faith in the upward trend of financial markets mirrored a similar faith in civilization as so eloquently stated by Franklin D. Roosevelt in 1945 (quoting Rev. Endicott Peabody, Roosevelt’s former teacher):

“Things in life will not always run smoothly. Sometimes, we will be rising toward the heights, then all will seem to reverse itself and start downward. The great fact to remember is that the trend of civilization is forever upward; that a line drawn through the middle of the peaks and valleys of the centuries always has an upward trend.”


Learning From The Giant

Though there will never be another Warren Buffett, we mere mortals may learn from him. During the next recession (a matter of time), investors would do well do pop an antacid or two and consider buying fundamentally sound, large cap, domestic and global companies that happen to get sideswiped by general hysteria.

As for today, some market indices are trading at or near record highs. For the most part, the easy money’s been made. So this brings us back to the question, is now a good time to buy equities?

Some say, yes, buy now. Others say the present day rotation into equities is little more than another chance for sheep to get fleeced. While a third investor subset isn’t so sure, believing there are still too many question marks and it would be best to wait for greater clarity.

The thing is, the future is never clear. So for investors, it’s more about injecting rational thought and sidestepping fear. It’s more about asset diversification and long term perspective, rather than timing purchases. Do this, and balance and wealth are bound to grow.

 

 

 

Prairie Investors Do It Better

If you haven’t visited Winnipeg, Manitoba, well, put it on your list of places to go. Smack dab in the geographical middle of nowhere, some 450 miles…

If you haven’t visited Winnipeg, Manitoba, well, put it on your list of places to go. Smack dab in the geographical middle of nowhere, some 450 miles (735 km) north of Minneapolis, flatter than the proverbial pancake, the 8th largest Canadian city is the antithesis of La La Land; gritty and real, its people genuine and down-to-earth.

And the sky! Oh man, the immense prairie sky is reason enough to visit. Perennially blue, sometimes painted with light, fluffy clouds, home to sunshine more than 300 days each year, the sky is truly Awesome with a capital ‘A’; it’s size, it’s scope evoking a sense of wonder, mystery, and boundless freedom.

That’s what I experienced when visiting last weekend. Walking about town, I couldn’t stop myself from repeatedly looking up, marveling at nature’s deep blue canvas. And as I daydreamed, I wondered how the Winnipeg sky affected people. I mean, is the sky’s awesomeness related to the sense of humility typical among prairie folks? Does it transmit power to its residents in the form of industriousness, creativity and ambition, all characteristics unusually common in North America’s bread basket region?

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Billionaire Peg

For short, locals call Winnipeg ‘the Peg’. And its here, in the Peg, where an unassuming billionaire named Bruce Flatt was born and raised. You probably haven’t heard of Flatt. Outside of corporate Canada and America, few investors know the name.

But if you are familiar with Flatt, the CEO of Brookfield Asset Management (TSE:BAM.a) (NYSE:BAM), then you know that his investing acumen has been favorably compared to that of Warren Buffett. Not least because, since 2002, BAM shareholders have taken comfort in average annual returns of 19%! Phenomenal.

The extraordinarily refreshing thing about Flatt, which may have to do with living his formative years under the great Prairie sky, is that he’s not looking to make headlines or go for rides to St. Barts with the cool kids on their $50 million private jets. In fact, the guy is so self-assured that he often takes the subway to his office whereas financial peers are driving their Bentley or being chauffeured.

Despite his being a member of the billionaire club, like Buffett, Flatt sees no need to accumulate stuff, to artificially inflate his sense of worth by surrounding him self with expensive toys. Whereas Buffett has lived in the same stucco house in Omaha since 1957, Flatt lives in a modest two-story brick house in Toronto.

As for his office? Given that he runs a $38 Billion (USD) company, you might be thinking corner office with all the trimmings. But you’d be wrong. Instead, Flatt is content with a cubicle set near a window. Well then, surely the office is outfitted with expensive art work, like so many other wealthy corporations? Nope. None. Unless you count a cartoon showing white sheep heading toward a cliff as a lone black sheep moves in the opposite direction.

Smart, humble, determined, focused, Buffett and Flatt both know who they are. They’ve done the inner work. They know their values. And they act in accordance with their values, not wasting time or money running with crowds or building an image. Nah, with these two, what you see is what you get. How refreshing.

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Humble Investors Rock

We learn best by doing. And we can learn faster, with fewer mistakes, by learning the ways of exceptional investors. So, without further ado, let’s check in with the man called Flatt and consider his wisdom.

  • Long Investment Horizon

Every successful investor has a long-term outlook, including Flatt. Here’s a quote, “We’d rather earn a 12% – 15% net return over twenty years than a 25% return over three.”

What Flatt is getting at is that the 12% – 15% return is sustainable over a long time period whereas 25% returns are not. He’s not investing for the short term, looking to make a killing fast. He’s well aware that the turtle wins the race. And the race is a marathon, not a sprint.

  • Positive Perspective

When global financial markets were tanking in 2007-2009, Flatt acknowledged the difficulties ahead. At the same time, he was looking ahead to opportunities for the next 25-60 years.

Then he went ahead and started investing in infrastructure plays – pipelines, wireless towers, power generation, alternative energy, ports and toll roads – areas where he saw tremendous long term growth, based on a tea leaf reading predicting upward global productivity and growth. So far, his reading is proving to be prescient.

For us non-billionaires, the takeaway here is to not get caught up in doom and gloom when markets fall. Rather, focus on your next opportunity; focus on moving forward.

  • Buy On Sale

Buffett said,

“Price is what you pay; value is what you get. Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down.”

Excellent investors patiently wait for buying opportunities; they buy quality companies on sale. Flatt has taken a page from Buffett’s playbook in this regard.

He bought Australian construction and real estate giant Multiplex at a bargain price once it was teetering on bankruptcy; purchased a significant piece of infrastructure behemoth Babcock and Brown when it was in bankruptcy; in 2010, acquired 26% ownership of bankrupt mall operator General Growth for a tidy $2.6 billion (USD) which, today, has generated more than $10 billion (USD) profit for BAM.

While the non-billionaires among us don’t have this kind of pocket change lying around, we can wait for stock market opportunities in the form of share price pullbacks among quality companies. Instead of being fearful when stock prices drop, shift perspective and recognize opportunity.

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Blue Sky Ahead

Confident enough to follow your instincts, sensibly maintaining healthy skepticism about crowd behavior, wise enough to live in accordance with your values, understanding that simply because you have money doesn’t mean you have to spend it, perceptive enough to recognize opportunity where others lock into fear … these are a few worthy traits of excellent investors. Traits that Flatt and Buffett possess. Traits that you too may develop, with or without exposure to a colossal prairie blue sky, although Flatt [Manitoba] and Buffett [Nebraska] certainly make the case for a Prairie advantage!

 

 

Emotions Are Not Your Friend

Coming up on ten years ago, during the Oh-My-Goodness-The-Sky-Really-Is-Falling-This-Is-The-Big-One-Retreat-To-The-Bunker-And-Hunker-Down era, a friend of mine I’ll call Dwayne for the purpose of this post, liquidated his healthy, six-figure investment account.

It was 2008, Lehman Brothers had collapsed, Bear Stearns had collapsed, Merrill Lynch had collapsed, panic swept through Wall Street and Main Street, global financial markets teetered, tottered, wobbled, and reeled, and conventional wisdom had reckoned the end of capitalism to be nigh.

Dwayne, certain that impending Armageddon would leave fiat currencies worthless, resolved to eliminate perceived financial danger. He would protect himself and his family by using much of his cash stash to buy gold. Speaking with me about his intentions, Dwayne insisted not only that his actions were perfectly reasonable, they were also the only sane path forward.

Brushing aside my assertions that fear was driving an extreme, irrational response to cyclical market gyrations he, in turn, charged me with misguided hope for the future. Whether fear or hope, the fact is that underlying both of our ways of thinking were, dare I say it, feelings.


Whoa Whoa Whoa Feelings

At their core, investment decisions are emotional decisions. And, unfortunately for investors, irrational, short-term thinking too commonly supercedes logic and reason. The result? We buy or sell a security not based on objective, diligent research but moreso rooted in emotional responses triggered by screaming headlines, doom and gloom pundits or chicken little next door.

Why is it do difficult to block out these meddlesome emotions?

The answer lies partly in the perpetual tug o’ war between two radically different parts of our brain. While the prefrontal cortex wires us for rational, long-term thinking, the limbic system is geared to short-term emotions leading to irrational decisions.

Being human, and being predisposed to fluctuating degrees of emotional bias, we will (make no mistake about it) mess up here or there.

So, for those investors not blessed with Vulcan heritage (for those readers not familiar with Mr. Spock / Star Trek, think ice in your veins), how do you rein in wayward behaviour for the purpose of minimizing risk and maximizing profit?

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Striving for Clarity

Modifying our behaviour (be it investment or otherwise) is not a simple task. If it were, there would be a whole lot more champion investors weighing in on scale with Ben Graham, Irving Kahn, Warren Buffett and Peter Lynch.

Famously, Buffett is quoted as saying,

“The secret of getting rich on Wall Street is you try to be greedy when others are fearful and fearful when others are greedy.”

Aside from his other talents, Buffett understands that emotions play an integral role in investing. For the rest of us mere mortals, we would be wise to emulate the Omaha Oracle and, gulp, get in touch with our feelings (the ‘gulp’ is for the guys, given the guy tendency to shy away from f, f, f … feelings).


Emotional Rescue

A useful starting point is the Investor’s Cycle of Emotions. The Cycle helps to shed light on (a) the kinds of events responsible for activating certain investment related emotions; and (b) how these emotions may affect our decision-making behavior:

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  • Optimism. We buy when feeling positive about the future.
  • Excitement. Paper gains reinforce belief in ourinvesting prowess. We consider how this new money may be put to use.
  • Thrill. When gains grow, overconfidence sets in.
  • Euphoria. As gains continue, we begin ignoring risk and expect each investment to be successful. Here we encounter maximum financial risk.
  • Anxiety. Incurring unrealized losses as investment values decrease we rationalize that, being long-term investors, our investments will ultimately bear fruit.
  • Denial. Markets slide. Investments go into free fall. We bravely maintain confidence in our investment choices and hold onto hope that values will rebound.
  • Fear. The markets unrelenting descent brings confusion. We begin to doubt our investments will ever again increase in value.
  • Panic. Frozen, we do not know what to do.
  • Capitulation. Convinced that our portfolio has suffered irreversible damage, as a matter of eliminating risk to ensure survival, we sell everything.
  • Despondency. We decide never to make another stock market investment. Here, when the herd is despondent, we encounter maximum financial opportunity. [for example, when Warren Buffett agreed to loan $5 Billion to Goldman Sachs during the height of the Great Recession. Three years later, with the recovery underway, Goldman Sachs paid back the loan and Buffett pocketed a tidy $3.7 Billion profit].
  • Depression. We try to makes sense of what we believe to be our foolish actions.
  • Hope. Time heals. Eventually, clouds disperse and we attribute our loss to the reality of experiencing a down cycle. We start looking for new opportunity.
  • Relief. Tentatively, we re-enter the stock market. Our investments turn profitable. Faith returns. The Cycle begins anew.

Sound exhausting? Familiar? In capitalist markets like our own, this scenario plays out time and again because it’s not a matter of if markets go down, but when.

Now, I’m not saying that loss may be avoided simply by cultivating awareness of your emotional responses. But I am saying that, if you know how the typical investor’s emotions play out when bulls stampede or herds blindly rush for exits, then you’ll be in a stronger mental position to dodge infection of fear, act rationally and productively manage your portfolio.


Taming the Limbic System, Maximizing Investment Dollars

Because excessive emotional reactions will make for an unhappy investor, the best you can do is learn to understand and effectively manage your emotions.

Alternatively, farming out decision making to an objective, emotionally detached Robo-Advisor or one of the human variety, may be worth looking into. Whatever you choose, keeping a lid on detrimental emotions is important.

One of these destructive mental states is GREED. Left unharnessed, greed is powerful. And when greed takes over, when logic is shunted to a corner and we watch an investment run up 25%, 50%, 100%, 200%, and continue holding on because we’re hoping for more so we can buy that new car or take that European vacation, we perilously ignore the unlikely repeal of the law of gravity.

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So how do you soften the penchant for wanting more? Focus on risk management. Focus on the possibility of losing instead of winning. Focus on satisfying your needs instead of wants. Ask yourself whether, based on prudent research, you would make an investment at the current price. If not, then let reason be your guide, stay disciplined to your exit strategy and listen to the voice imploring u to ‘sell’ when your target price flashes green.

Another harmful way of thinking involves OVERCONFIDENCE. Research shows that close to 75% of people judge themselves better than average at, well, everything. Of course, by definition, about half of any group must be less than average.

In the realm of investing, overconfidence leads investors to take on more risk than initially anticipated, commonly deviating from a methodically crafted investment plan only to be trampled by emotions gone wild.

And when stocks go down, emotions again push reason to the sidelines. Investors continue to hold, often believing that by not selling they will avoid the pain and regret of having made a poor investment decision and embarrassment of reporting a loss on their tax return, or telling their accountant or spouse.

First comes losses, second comes pain, third comes regret.

Behavioral finance experts claim that the prevalence of fear of regret stems from people’s unwillingness to accept responsibility for pain they caused themselves. And when you’re stuck in the regret phase, you’re mired in the past, beating yourself up, and unable to get back in the game.

Since wallowing doesn’t benefit anyone, for your own well being, it’s essential to ride out regret by learning to accept loss, accept mistakes, and acknowledge the fact that even well-researched investments may, and will on occasion, turn sour. Once you’re moving forward, remember to carry with you lessons learned and, in the future, stick to an investment plan honed during a period of calm reflection.


Hope is not a Strategy

Too many folks are prone to chasing investments whose value is going up. According to research, we become overly optimistic about past stock market winners and excessively pessimistic about past losers.

Apparently, neither optimism nor pessimism is justified since, over time, extreme winners underperform and extreme losers outperform. Yet, we can’t help ourselves. Maybe we’re just too excited to hop on for the ride, carried away by the hope that we’re going to hit it big.

Consider this little gem:

As of March 13, 2017, a company called Stemcell United (ASX:SCU) was effectively worthless trading at one penny on the Australian Stock Exchange. Then, on March 14, 2017, the company issues a press release stating, “SCU to pursue opportunities in Medicinal Cannabis sector.’

Well, this general, vague, zero details statement was enough for speculators to move the price to $1.09 on March 14. That’s right, from one penny to $1.09 in one day. Insane. Still, before the day was out, the stock closed at 41 cents. And as of yesterday, the stock was priced at 13 cents.

The outrageous stock price movement had nothing to do with company fundamentals: the company has no revenue, sells no product and offers no service. But what it did have was a statement saying that it would enter the potentially lucrative marijuana industry. And that was enough to fuel the dreams of hordes of speculators.

The point being: whether you’re buying a penny stock or a behemoth like Apple (NASDAQ:AAPL), you’ve got to look in the side view mirror, the one where it says that past performance gives no indication of future returns. Then look ahead and keep in mind that investments should be made on the basis of solid business fundamentals and favorable prospects, not because hopes and dreams spurred us to the bottom of an investor pile on.


Embrace the Rational Path

Human nature is inherently paradoxical.

Impulses and emotions clash against reason, contributing to adverse investment decisions. As investors, our goal is to discipline the mind such that we recognize emotional reactions and learn to manage their potentially harmful consequences. And though there is more than one path to investing success, all include abiding by decision-making emphasizing cold logic rather than runaway emotions.

Whatever path you choose, consider what ninety-three year old Charlie Munger, Berkshire Hathaway vice-chairman, said when asked how he became such a successful investor: “I’m rational.”