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Tuesday, 28 February 2012

Do you practice low cost passive index investing?

I don't.

That's normal as I am used to arguing with the stop sign.

It's quite common to come across "investors" who will pooh-pooh the use of actively managed mutual funds. They will usually mention these 2 strong and convincing arguments: 


1) Low cost or no-load funds outperform funds with high management fees 

Especially when compounded over the long term - like in 30 years. I can't argue with that!

But doesn't it look a lot like the Discounted Cash Flow (DCF) valuation method? There are "assumptions" and my favourite line - "all things being equal".  If you have been investing for several years, when was the last time you encountered "all things being equal"?

By the way, if you are currently vested in passive index funds or ETFs, may I ask how long is your average holding period? How many "trades" have you done in a year? Especially if you are using the ETF vehicle.

Ahem, you may want to add the transaction costs into your calculations and maybe re-read the writings of John Bogle (father of index funds) from the Vanguard Group.

Quoting John Bogle and doing the opposite of what he advised is not exactly passive index investing... 


2) 75% of active fund managers underperform the index 

Can't argue with statistics (especially those not manipulated by yourself)!

To those strong advocates of passive index investing, again I ask you this question - do you stock-pick individual stocks on your own as in DIY?

I will pause here so you can listen to yourself better.

PAUSE  (shhhh)

Can I assume you do so because your individual stock-picking track record has outperformed the index?

Or you fancy yourself to be amongst the 25% of fund managers that can and do outperform the index? 


The reasons why I prefer actively managed funds 

I stress this is for me and me alone. This post is merely to call out the Emperor's clothes. Not an attack on passive index investing; which definitely works for individuals with the right matching mindset and discipline.

I am not hyper-active, but for me to sit around, do nothing, and patiently wait 30 years is not exactly my definition of "fun". I'm in it for the money; but some fun along the way couldn't hurt right! Or? 


a) Cognitive dissonance 

In the words of the Godfather III - our ships must sail in the same directions. I do like the intellectual process (I made this up) of DIY investing. Of course this applies to the thrill of finding a fund manager (notice I never say fund) that can outperform his/her peers!

It will mess with my mind if my right hand says passive index investing good, while my left hand says DIY is the way to go! I'll go bananas!

Since I do a bit of swing trading on the side, the odds of finding these 25% top fund managers are a lot better than what they say of me making money by trading - only 10% of traders make money consistently.

Does that mean if I set aside some funds for outsourcing to fund managers, my odds of making money versus me trading on my own will improve by 2.5 to 1? How's that for statistical manipulation? LOL! 


b) I don't mind paying for performance 

Honestly, what's the difference between 0.3% versus 2% annual management fees if the fund manager can outperform the index by 5% and more?

Wait. Let me check my calculator... Yup! I still come out ahead!

The longest period I've held to a mutual fund is 5 years, and the average holding period is probably around 3 years.

I don't mind paying for performance, but I practice switching horses as and when needed. Once you don't perform, you're out! No wonder I am still single... I am such a cad!

I am more fearful good fund managers will not want my money - I am either too small in their eyes, or they have more than enough clients on their hands and close their funds on me :( 


Mixed-up to conviction 

In the end, what we say, what we do, and what we believe should ideally be aligned. At the very least, when we stumble and fall, we will know the reasons why. And can take the corrective actions.

For fellow veterans, I think we've all been through our early low conviction days. This month say long term investing is the way to go, only to switch to contra trading the next month, then join IPO staging, then switch to dividend investing, punting small caps to S-chips, and now singing Blue-chips are the best! Why? Business Times say so what!

I am always laughing at myself ;)

Now I listen to myself more.

    

44 comments:

  1. it sure sound like me! buying stocks meant for investing, at the end losing my positions all due to trading.

    fish and bear craw, which one should i take? its hard on me.

    ReplyDelete
    Replies
    1. Coconut,

      I guess most of us have been there, done it!

      Perhaps that's why investing/trading is so fascinating. It reveals all our weaknesses. And despite being kicked, slapped, and humiliated by the markets, we (at least I) still come back for more.

      LOL!

      Delete
    2. yes, i'm serious about investing, that means i have to give up (most) part of my trading mentality. one that i had grow over the years.

      my heart tells me to be what i am, but my kids have to start learning about investing, they have no trading/gambling blood.

      my term of investing is quite different from others, investing means long the market, always stay long and invested. trading can be long or short or flat. the mindset is quite different.

      Delete
    3. Coconut,

      You do what your heart tells you.

      Your kids will do what their hearts tell them.

      :)

      Delete
    4. well true, but my family are above me. the feeling is very much like torn between 2 lovers.

      Delete
    5. When it comes to our money, we will have no better choice but to get our own hands dirty and may have to learn it in hard and painful way.

      Can we really trust fund managers with our life saving?

      Read? Money Fund in Japan Told to Halt Operations

      Delete
    6. how would one start serously learning about the stock market? which stock or sector to pick for long term holding? must we go through all their financial statement? or just throwing the duct.

      Delete
    7. CW8888,

      I am not black and white; I'm shades of grey. I believe in "outsourcing" part of my portfolio to fund managers.

      I like creating internal competition and benchmarks.

      Preparing myself for self-appointment to manage my own money ;)

      Also, mommy says must share my toys with others mah. LOL!

      Even once upon a time big giants like Kodak and Elpida also went bankrupt...

      That's why I love what you say - focus on RETURN of our capital before (blinded by) returns on capital.

      When money leaves our hands, even to relatives, it may never return...

      Delete
    8. Coconut,

      I can't believe it! After so many years of trading you still lost on where to start with investing?

      Then it hit me... And I apologize for my presumption.

      When learning certain new kung fu, we must first discard whatever we have learned before. I admire your courage to press the "reboot" button.

      By the way, I hope you're not acquiring "Dong Fun Bu Bai" kind of kung fu ;)

      Delete
    9. when did i say i'm good in stocks/property investment? i really traded stocks only 3 years back. 3 years i know nuts about shares. even property i hold longest 5 years haha.

      why are you surprise? traders are usually poor investor, and good investor are usually poor traders. if you are a good trader cum investor, than you must be multi-M or B.

      Delete
    10. on a second thought, i think my defination of investing and yours are quite different. i consider you as a trader, not investor.

      as an investor, you must really know what are you buying for keeps.

      Delete
    11. smol, why not write about the different between trading and investing? ofcos there are similarity too. it will be fun and learning.

      Delete
    12. Last I heard from my lawyer is that now court letter can be issued directly to the spammer's Facebook wall.

      Do kindly inform Fat that everything he had done on cyber(attacking me and many others) can be easily tracked and may be used during a court hearing.

      May god give me strength.

      Delete
    13. Coconut,

      Thanks for the idea! I'll collect some inspiration this week.

      Hmm, how to write it without sounding too textbook? Should I use humour, satire, or metaphor?

      I've got my first request!

      Delete
    14. well you are the best, don't ask me haha.

      to see the different, i guess we have to start from the extreme. for example, a trader will want to grow its capital (cash in trading accounts) as large as possible, while the investor will want to grow his investment (mainly assets) as large or many as possible.

      for trader, cash is the tool. for investor, assets are their tool. so the trader wants to keep all in cash while the investor don't want any idling cash.

      Delete
    15. and ofcos no textbooks, just your own idea so many can comment. we all got the chance to learn.

      Delete
  2. The best part is you call yourself a investor when you are actually a gambler. When the market goes your way, you go to forum and brag. When you lose money, you quarrel with yourself.
    Cyber is very easy to track nowadays, you think you can bluff?

    Anyway, why you still no balls to post the low hei and bowling pics in your ugly afact website?

    ReplyDelete
    Replies
    1. CW8888,

      No worries.

      It's private "jiang hu" dispute started elsewhere but continued here. I am just a puzzled bystander.

      We stay out.

      Delete
    2. on the case of out sourcing, i agreed with CW, you either manage yourself or if you have no confident just keep in safer place like saving or FD.

      on second thought, owning a stocks is also out sourcing of your money. so first must find a good management.

      Delete
    3. Coconut,

      To use your golfing analogy:

      1) When you play golf, do you drive your own cart or walk yourself? (Some people prefer outsource trading/investing to computers!)

      2) Do you carry your own clubs or use a caddy?

      I prefer the human touch. And if others can carry my balls, I very happy (pun intended)

      LOL!

      Delete
    4. Owning stocks is we do the betting ourselves. The other way is to pass our money to other people to bet for us. LOL

      Delete
    5. smol, do you have any idea how heavy is the golf bag? i rather go for force match than carrying my own golf bag.

      in our club, we use golf cart. balls? no no no, we use many haha.

      Delete
    6. right CW, owning stocks is like horse betting i agree, but still we must first assume all horses can run and second, make sure i can identify young and strong horses, not old and dying one.

      Delete
    7. Coconut,

      Exactly! I don't mind tipping others to carry my golf clubs. This way, I can enjoy the walking exercise and avoid using the golf cart ;)

      Disclaimer: I don't play golf and have no clue to what I am talking about golf.

      Anyway, I find it interesting that professional golfers have caddies that do more than carry clubs ;)

      Delete
  3. first you attack the dividend investors now you attack the indexing people. you look very confident that you can outperform the market much better than the index.

    the title of this article is talking about indexing but it generates into managed accounts. else this becomes the most headline grabbing post trying to gain traffic on indexing.

    ReplyDelete
    Replies
    1. Anon 03:49,

      Its irony, satire, and self-mockery (and I hope some humour).

      I either outperform or under-perform the index - depending on which day of the year you ask me ;)

      Delete
    2. Hi SMOL,
      We can write what we like.It is good for keeping our grey matter elastic. But we must keep on searching for what suits us best. And to each his own is very true in the Stock Market.

      Extract from a book:-

      {The investor who can perform self-analysis and determine his
      investing specialty has a real advantage. Focus equals power. Focus on your strengths should lead to success. To put it another way, do what you are good at! The challenge is the self-analysis. Are you self-aware enough to determine which investments you are good at making? When you can pull this off, you have unleashed your inner guru. The author believes that everyone has one; you just need to find it.}
      Ha! Ha!

      Delete
    3. Hello Temperament,

      I find you an inspiration. With your "seniority", you could be engaging in "I tell you what" or "wa kali kong".

      But no. You are always searching and learning; keeping an open mind.

      By the way, because of you prodding on hedging, I am now exploring the VIX index. It's lagi more imperfect hedge but it's good to know other hedging flavours other than my current plain vanilla flavour ;)

      Must exercise the grey matter!

      Delete
    4. smol, it always the same thing, if you go in early, it will work like hedging with VIX. but when the method is widely used, stay out.

      so trading or investing, research yes but with lots of creativity.

      Delete
    5. Temperament allow me to add. trading and as well as investing i guess has 2 parts. it not just simple as knowing and execute your strength. knowing your weakness and execute, oh yes execute your weakness is equally important.

      like a war, you can't just simply attack if it is your strength, you also must defense. its tough.

      Delete
    6. Hi Coconut,
      You are damn right. The author of the extract has said when you have found your strengths, you must have discovered where your weaknesses too.

      It's like i want to let my SGX portfolio runs and runs with the BULLS in the Market but i still can't find a suitable inverse index or ETF to hedge. Meaning time factor is taken out of the equation unlike normal Options.
      So i have not "execute" my weakness because i am still searching for one.
      You are damn right. You are very cheem too. Respect.
      Cheers!

      Delete
    7. how to hedge a SGX portfolio??? can we?

      Delete
    8. The closes hedges i know are "Ultra Short S&P 500 ETF" and "ProSharers UltraPro Short S&P 500." This only works if we presume STI INDEX will TRACK S&P 500 quite closely. i also not sure if there is a market when you need to sell them in a severe Bear Market. We also need to choose the %(ratio)of Hedging carefully. If i want to use these 2 hedges, really there is a lot more work to do. Besides there is a premium to pay. There is really no free lunch in this world.

      Delete
    9. let say you really want to hedge, there is this STI put warrant you can hedge your portfolio. there is expiry date and beside premium, you will probably have to pay the spread if there is volatility, lots of complication. beside, whose mentioned are s&p index, you don't get a direct hedge. these are SGX products.

      why anyone want to hedge? if you are not overly expose, why worry, its a trending up market. like smol said, if you really think there is a bear market coming, you can short the SIMSCI index futures, you got to have a future account.

      so in my opinion, just reduce your portfolio size when you have no confident in the market, simplest way.

      hedging, spreading are arbitrage strategy used by more competent traders and institutions.

      Delete
    10. usually, they are the one that take the other side (as oppose to you) of the trades. they earn your premium and spread.

      Delete
    11. Thanks.
      i know what you say about hedging is very true. That's why for 23+ years i have been doing just what you recommend:-"just reduce your portfolio size when you have no confident in the market, simplest way." This is also recommended by:- {A Value Investor’s Perspective on Tail Risk Protection:
      An Ode to the Joy of Cash
      James Montier.}

      But i think it may be worthwhile if i can buy an "insurance" (if there is such a SGX's product) that allows my SGX portfolio runs and runs with the BULLS in the Market but i still can't find a suitable inverse index or ETF to hedge. Meaning time factor is taken out of the equation unlike normal Options.
      Of course i still need to choose how much to hedge and when to effect the hedge when the Market heads South.

      Thanks for reminding how dangerous Options trading is.
      i was once a commodities Options rookie working for a "FLY BY NIGHT" HK Brokerage in Singapore. i was never good at trading Options. Before i really learn anything worthwhile except how dangerous trading Options(with OPM of course), the "Fly By Night" really take off. So i never touch Options trading till today. Even many "Professionals" die standing. One famous case in Singapore is Nick Leeson.

      Delete
  4. Temperament,

    Oi? You worked in of those bucket shops before? Interesting!

    My greeks horrible so options are out for me too :(

    I guess we have to wait patiently for inverse ETFs to be introduced in SGX. It's a matter of time.

    ReplyDelete
    Replies
    1. Yes, i was only 20+ then. --"A little calf who don't know the Tiger then." So you see, it's always "GREAT TO BE YOUNG". Alas! We all are allowed to be young once only. Ha! Ha! i mean "once foolish time" is more than enough.
      And yes hope SGX will introduce Inverse STI INDEX or Inverse STI ETF. Meanwhile, we can not let the BUllS run wild. We have to try to get out before the BULLS turn and charge at us.

      Delete
    2. HK bucket shop? i remember one of them who took the clients money and run. i started with "hall rich", what a nice name!

      temperament, you misunderstood option trading. and if there is such thing as inverse STI ETF, you still have to pay premium in the form of "inverse" dividends!

      so no need to wait haha.

      Delete
    3. a quote from a friend of mind, "no need to pay ah? people (financial institute) eat what?".

      Delete
    4. Yes, not only i have to buy first (Short STI index if there is such product), i also must decide how much(%)of hedging relative to my long SGX portfolio and when to sell the Short. (When to take effect). That's execute my "weakness" like you say. So it's like buying an insurance for the downside of my long SGX portfolio when Market turns bearish.

      Delete
    5. no, there is no such product as short STI index. or short STI ETF.

      if there is one, i garantee you have to pay premium in the form of dividends as well as borrowing cost. it will not be pretty.

      Delete

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