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“We Do Not Expect Any Surprises” – Really?

We do not expect any surprises’ is frequently used by forecasting experts when discussing the future state of the world on almost all aspects of life. You hear the phrase used in sports, politics, economics, the financial markets etc. but there is an intense irony in the statement. By definition, a surprise is something entirely unexpected; an occurrence of an event that takes place outside all the scenarios a person has thought about – you most certainly cannot predict a surprise.

According to Nassim Taleb, author of The Black Swan, most of the world’s most important events are actually black swans: highly improbable, inherently unpredictable events that have massive impacts that can be positive or negative.

The tragic attack on Pearl Harbour by Japanese forces on Dec 1941 was a black swan event for Americans and most of the unsuspecting world (besides the Japanese generals, of course) that pushed America to enter World War II and eventually led to a victory for the Allied forces. The March 2011 tsunami in Japan that led to the Fukushima Nuclear Plant disaster was also a black swan event; nobody predicted the tsunami with adequate notice.

Investors in Tokyo Electric Power Company, which runs the Fukushima plant, could not have predicted an estimated 3273 billion yen in nuclear damage compensation-related expenses for the company before March 2011 – these are the surprises that cannot be predicted.

We Can’t Predict, but We Can Prepare

So, life is governed by inherently unpredictable events – but how can we apply this in investing? In short, we can’t predict, but we can prepare.  There are many areas in life for which we can’t predict the future but yet still take note of; deciding to purchase life insurance, making a CPF nomination, or deciding whether or not to bring an umbrella out with you by checking out the weather forecast.

Similarly, in investing matters, instead of focusing on short-term price-movement predictions or trading on margin hoping to eke out wins on a 0.01% movement in prices, we can prepare by investing in profitable companies that are free from the burdens of debt.

Credit markets can dry up in an instant, like during the Global Financial Crisis of 2007/2009, and threaten the survival of companies that depend on refinancing for their debts. Just look at General Motors (NYSE: GM), which was crushed under a mountain of debt totalling USD$94.7 billion (with only USD$37.6 billion in cash) and had to be bailed out by the US government.

In Singapore, we contrast that with companies like Vicom (SGX: V01) and Boustead Singapore Limited (SGX:F9D).

The vehicle, commercial and industrial testing and inspection services company, Vicom, has grown profits by 13.7% per year since 2008 and has raked in a cumulative $109.5 million in profits in that time. Its fortress-like balance sheet, with $66 million in cash and no debt, would be greatly beneficial to its financial survival in a rough economic climate.

Boustead, an infrastructure engineering and geo-spatial imaging technology company, had net margins averaging more than 10% over its last 6 financial years. Its most recent Q2 2012 report also saw its half-year net profit soar by 53% year-on-year on the back of a 24% increases in sales. The financial stability of Boustead is also strong with $220.9 million in cash and only $42.2 million in debt.

Investing in financially secure companies that are making real profits would be a great way to prepare a portfolio for any unpredictable economic shocks. Companies with the strongest balance sheets are able to better survive the worst of times and come back with roaring profits when the good times cycle back.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore Contributor Chong Ser Jing doesn’t own shares in any companies mentioned.