Monday was the Chinese New Year, the start of the Lunar Year of the Monkey. In Chinese cultural traditions, there is a cycle of 12 lunar years in which each year is represented by one of 12 animals. With us being at the start of a new year and the Monkey being the ninth animal in the 12-animal cycle, I thought that it could be a good time now to have a look at nine important investing mistakes that can trip up investors in the Year of the Monkey and beyond. Avoiding the big blunders that one can commit…
Monday was the Chinese New Year, the start of the Lunar Year of the Monkey. In Chinese cultural traditions, there is a cycle of 12 lunar years in which each year is represented by one of 12 animals.
With us being at the start of a new year and the Monkey being the ninth animal in the 12-animal cycle, I thought that it could be a good time now to have a look at nine important investing mistakes that can trip up investors in the Year of the Monkey and beyond.
Avoiding the big blunders that one can commit in investing is important, perhaps even more so than trying to make winning moves. With that, here are the nine big mistakes:
(Before I start, I’d like to point out that I’ve already written about the first seven mistakes in separate articles in here and here. For those who’ve already seen them, you can skip to the last two mistakes. For those who would like a recap below, please feel free! And for those who’ve yet to see them, welcome!)
1. Not realising how common volatility is
Stocks like Riverstone Holdings Limited (SGX: AP4) and Raffles Medical Group Ltd (SGX: R01) have been some of our local stock market’s biggest winners over the past nine years since the start of 2007.
|Company||Share price gains: 1 Jan 2007 to 5 Feb 2016|
Source: S&P Global Market Intelligence
But along the way, their shares have been very volatile.
Chart 1 above shows the largest peak-to-trough losses that both companies have suffered in each calendar year from 2007 to 2015. As you can see, double-digit declines were simply par for the course for both Riverstone and Raffles Medical.
Volatility is a common thing in the stock market. It does not necessarily mean that anything is broken.
2. Mixing investing with economics
Economic trends and investing results can at times be worlds apart. Cigarette consumption in the U.S. had shrank by nearly half from 640 billion sticks in 1981 to 360 billion in 2007. Official statistics are no longer available after 2007, but the downtrend of cigarette consumption in the U.S. is likely to have continued since then.
But interestingly, the U.S.-based cigarette maker Altria had seen its shares gain 172% in price alone since its international operations were spun-off on 28 March 2008. This compares against the mere 40% return that the S&P 500 (a U.S. stock market index) had enjoyed over the same period.
3. Anchoring on past stock prices
Thinking that a stock will return to a particular price just because it had once been there can be a terrible mistake to make. In a 2014 report prepared by J.P. Morgan, 40% of all stocks in the Russell 3000 index in the U.S. from 1980 to 2014 had suffered a permanent decline of 70% or more from their peak values.
I had done a similar study recently too. On 15 January 2016, there were 813 equity listings in Singapore and on that day, I tried to determine the number of stocks from that group that had met both the following criteria:
- Is down by at least 50% from its all-time high
- Its all-time high had occurred before 1 January 2010
What I found was that 41% of my universe of stocks had both characteristics. Given that the stocks’ all-time highs had happened more than six years ago, it’s likely that the losses of many of those in the 41% group are permanent.
Simply put, there are stocks that fall hard – and then stay there.
4. Assuming that blue chip stocks are safe
In Singapore’s stock market parlance, the term ‘blue chips’ is used to refer to the 30 components of the Straits Times Index (SGX: ^STI). It also carries a positive connotation. But, a stock need not necessarily be a safe investment just because it’s a blue chip.
The current version of the Straits Times Index was launched on 10 January 2008 after a revamp. Companies like Cosco Corporation (Singapore) Limited (SGX: F83) and Noble Group Limited (SGX: N21) were part of index back then during the launch.
|Company||Total returns (including reinvested dividends) from 10 Jan 2008 to 5 Feb 2016|
Source: S&P Global Market Intelligence
The table above shows their returns since 10 January 2008. As you can tell, they have been anything but great investments. It’s worth noting that their business results have been horrible over that period of time depicted in the returns-table; this is shown below:
|Company||Profit change from 2008 to last 12 months|
|Cosco||S$303 million to –S$99 million|
|Noble||US$577 million to –US$46 million|
Source: S&P Global Market Intelligence
At the end of the day, it’s the business’s performance which matter – not a company’s blue chip status.
5. Think a stock is cheap based on superficial valuation metrics
If you were transported back in time to 10 March 2009 (the day Singapore’s stock market reached a bottom during the Great Financial Crisis of 2007-09) and saw Global Yellow Pages Limited(SGX: AWS) and Pacific Andes Resources Development Ltd (SGX: P11), you’d likely think that both shares were incredible bargains.
|Company||Price-to-book ratio: 10 Mar 2009|
|Global Yellow Pages||0.20|
|Pacific Andes Resouces||0.27|
Source: S&P Global Market Intelligence
As the table above shows, both companies had stunningly low price-to-book (PB) ratios on that date. But unfortunately, even as stocks in Singapore have rebounded strongly in general since then, both Global Yellow Pages and Pacific Andes have seen their shares basically collapse.
|Company||Stock Price change: 10 Mar 2009 to 5 Feb 2016|
|Global Yellow Pages||-91%|
|Pacific Andes Resouces||-85%|
Source: S&P Global Market Intelligence (Pacific Andes has been suspended from trading since November 2015)
The reason why both companies had been such big losers should be clear when we look at their corporate performance. From 10 March 2009 to today, Global Yellow Pages had seen its profit shrink from S$0.976 per share to a loss of S$0.309; over the same period, Pacific Andes Resources’ profit had slipped from S$0.069 to S$0.013. Both stocks have turned in horrible business results.
Superficial valuation metrics can’t really tell us if a stock’s a bargain or not. Ultimately, it’s the business which matters.
6. Not investing due to fears that a big crash is just around the corner
My colleague Morgan Housel wrote recently (emphasis mine):
“The whole wisdom of black swans is that people underestimate their impact. But overestimating can be just as dangerous.
Accurately diagnosing a rare disease might not be an accomplishment if you made 100 dangerous false-positive diagnoses before it. And accurately predicting a financial crisis isn’t an accomplishment if you spent your whole career before it falsely predicting doom.
Even at the bottom of the Great Depression, stocks fell back to where they were in 1924, five years before the peak (adjusted for dividends and inflation). So anyone predicting doom five years too early would have been better off just living through the market crash of the 1930s rather than avoiding it.
As the saying goes, more money has been lost preparing for bear markets than in actual bear markets.”
The italicized portion of the quote from Morgan is really worth highlighting. At the start of 2006, shares of Vicom Limited (SGX: V01) and Dairy Farm International Holdings Ltd (SGX: D01) were trading at S$0.93 and S$3.62 apiece. As a reminder, 2006 was less than two years before the Great Financial Crisis started rearing its ugly head.
But guess where Vicom and Dairy Farm were trading at their lowest points during the financial crisis? The answer: S$1.40 for Vicom and S$3.92 for Dairy Farm. That’s right – during the pits of the crisis, both companies had share prices that were higher than just a few short years before.
7. Following big investors blindly
It may be a mistake to copy the moves of famous investors blindly. Just ask Morgan. Nearly nine years ago – during the Great Financial Crisis – Morgan had made his “worst investment” ever. Back then, Morgan saw that one of his favourite investors had started investing in a mortgage lender.
Without digging further into the company, Morgan simply followed in. Unfortunately, the company went bust, Morgan lost his investment and the big-name investor… earned a decent return. What?! How? Here’s Morgan explaining:
“As part of his investment, the guru I followed also controlled a large portion of the company’s debt and and preferred stock, purchased at special terms that effectively gave him control over its assets when it went out of business. The company’s stock also made up one-fifth the weighting in his portfolio as it did in mine. I lost everything. He made a decent investment.”
We may never be able to know what a famous investor’s true motives are for making any particular investment. And for that reason, it may pay to never follow anyone blindly into the stock market.
8. Not recognising how powerful simple, commonsense financial advice can be
To expand on this, I’d like to turn to Morgan again. In a recent article of his, he wrote:
“Investing has… simple behavioral changes that massively improve results, but are often ignored by professionals because they’re not intellectually stimulating.
Take saving. The goal of investing is to have enough money to meet future goals. One of the easiest and most effective ways to do that is saving more money. But telling people to save more money is absent from investing commentary for the same reason smoking cessation is absent from Pfizer’s research lab: It’s not their problem, even if it’s the right solution to the problem.
Or take dollar-cost averaging. You buy the same amount of stocks each month come rain or shine. It’s so boring. You’ll get booed off TV recommending it. But it’s so hard to beat as an investing strategy. Like quitting smoking, as advice it is as dull as it is effective.
Almost everyone can improve their investing results by increasing the amount of time they’re investing for. But good luck starting a hedge fund with that pitch. It’s not exciting enough.”
Simple advice can be very useful and powerful for many investors. But they’re sometimes ignored because they’re too simple, despite how effective they can be.
9. Not recognising the dangers of leverage
The use of leverage – or borrowed money – to invest can derail even the best investors. The legendary Warren Buffett and Munger have been close business partners for decades now at the helm of Berkshire Hathaway and they are also perhaps two of the most well-known investors around the world today.
But, in the 1960s and 1970s, when Buffett and Munger were still early in their careers, they were actually part of a trio along with an investor called Rick Guerin.
According to Buffett, Guerin was as good an investor as himself and Munger. But there was a crucial difference between Guerin and the other two investors: Guerin was in a hurry to get rich quick, and so, invested with borrowed money to hasten the wealth-building process.
It backfired in the fierce 1973-1974 bear market in the U.S. (which saw stocks there fall by nearly half) when declines in stocks meant that Guerin had to meet margin calls. To raise cash for the margin calls, Guerin had to sell his Berkshire stock to Buffett for less than US$40 apiece. The same Berkshire shares are exchanging hands at nearly US$200,000 each today.
Leverage can be great when used wisely. But should any investor choose to invest on margin, it’d pay to be fully aware of the risks involved.
If you'd like more investing insights and important updates about Singapore's stock market, you can sign up for The Motley Fool Singapore's free weekly investing newsletter, Take Stock Singapore right here.
Also, like us on Facebook to follow our latest hot articles. The Motley Fool's purpose is to help the world invest, better.
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, Vicom, Dairy Farm International Holdings, and Berkshire Hathaway.