I remember a conversation I had a few years ago when I was asked, “Do you think the hardest part about investing is in estimating the value of a business, given the unpredictability of life?” I said, “You’d be surprised, but the hardest part is to simply stay the course.” Joel Greenblatt, a highly successful hedge fund manager with a phenomenal track record, said as much when he wrote the following in his book The Little Book That Still Beats The Market: “The unpredictability of [the stock market] and the pressures of competing with other money managers can make…
I remember a conversation I had a few years ago when I was asked, “Do you think the hardest part about investing is in estimating the value of a business, given the unpredictability of life?”
I said, “You’d be surprised, but the hardest part is to simply stay the course.”
“The unpredictability of [the stock market] and the pressures of competing with other money managers can make it really hard to stick with a strategy that hasn’t worked for years. That goes for any strategy no matter how sensible and regardless of how good the long-term track record is.”
Even the best investing strategies can’t work all the time (though they’d work over time) and the temporary losses that we may have to face can cause fear to set in and make us start questioning our own judgement.
One of the most sensible things an investor can do when investing is to simply lengthen his time horizon as doing so can dramatically reduce his odds at making a loss.
To that point, if you were to measure the Straits Times Index’s (SGX: ^STI) returns (without adjusting for both dividends and inflation) at the start of every month from 1988 to August 2013, there has never been a rolling 20-year period in which an investor would have lost money in the index. Meanwhile, someone who’s more trigger-happy with a holding period of just one year would see only a 59% chance of sitting on a gain.
But, as humans, we’re loss averse, meaning to say we feel way more pain when we lose something as compared to the pleasure we get when we gain something of equal value. This makes it hard to sit through the market’s ups-and-downs even when we know it may be better to just hang on, or even when we’re on the path to massive long-term gains.
And boy are there ups-and-downs.
Let’s take Raffles Medical Group Ltd (SGX: V01) for instance. The healthcare services provider has been a phenomenal long-term winner in Singapore’s stock market, posting share price gains of 950% since the start of 2005 as a result of consistent and material growth in its net income and free cash flow (both financial metrics are important measures of a company’s true underlying economic worth).
Source: S&P Capital IQ
But, the company wasn’t immune at all to painful short-term declines.
Source: S&P Capital IQ
The chart above shows the maximum annual peak-to-trough loss (known as drawdowns) that Raffles Medical Group’s shares had experienced from 2005 to 2014. And as you can see, in those 10 calendar years, the healthcare outfit’s shares have suffered a maximum drawdown of more than 10% in nine of those years.
Foolish Bottom Line
Understanding financial statements and the nuts and bolts of valuing a business is not exactly a hard thing to do. Staying the course when it comes to investing, now that might be the emotional version of “rocket science.”
But, given the benefits of investing for the long-term (in terms of increasing our odds of success and giving us the time to partake in a great company’s value-compounding capabilities) it’s important for all of us to make an iron-clad commitment to ourselves to stay the course.
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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 writer Chong Ser Jing owns shares in Raffles Medical Group.