Posted on by CTKS · 1 Comment

Year-In-Review 2022

Regrettably, it’s been a long while since I’ve written an article. Initially due to NS and subsequently because I had to hit the ground running at my internship. Now that I’m starting to get used to the intensity (hopefully), I am looking to get back into writing because I enjoy sharing what I have learnt and have also found it to be beneficial in terms of helping me collect my thoughts. In fact, this year I am hoping to write more broadly about things I’ve observed/read and learnt that may be useful to you guys. For now, since it’s the start of the year, I thought I’d take the opportunity to do a review and layout my plan for the year ahead money-wise.

Disclaimer! Nothing written in this article should be construed as investment advice.

Where are we headed in 2023?

As I am not a seer, I won’t try to predict where the markets are headed, but I will lay out some facts. From its trough in October 2022, the S&P500 has rebounded by 12%. This rally suggests that investors are optimistic that the worst is behind us – that inflation has peaked and that would prod the Fed to cut interest rates later this year, even as Fed officials insisted that it was too early to think about shifting policy.

However, recent macro economic data seems to suggest otherwise. U.S. job growth accelerated at the start of the year as employers added a robust 517,000 jobs, well above the 2019 pre-pandemic average of 163,000. This pushed the unemployment rate to a 53-year low of 3.4%, raising doubts on whether inflation is under control.

When I first saw these numbers, I couldn’t wrap my head around it. During the same period, big tech companies were announcing massive layoff every other day. How could all the huge layoffs and the talk of recession be reconciled with the strong macro economic data? I did some research and it turns out that these tech companies account for only 2% of the American workforce. The hiring is happening in a much bigger part of the economy, the service sector, which includes all kinds of businesses – everything from restaurants and hotels, to dry cleaners and hospitals. The employees in those sectors account for about 36% of all private sector payrolls.

So while I don’t know where the markets are headed, I would be cautious of declaring that inflation has peaked and I wouldn’t rule out the possibility of the Fed keeping interest rates higher for longer.

Portfolio Review

Since the start of 2022 until today, my portfolio has suffered from a decline of ~9%, slightly better than the S&P500, which is down more than 16%. While a significant portion of my portfolio is in the index, the decline was partially offset by the relatively strong performance of my Singapore investments.

Still, this is nothing to be satisfied with as it is now plain as day that it was much better to hold cash throughout 2022. However, hindsight is 20/20 so I try not to harp on it too much. The bright side is that because I deploy my capital in tranches instead of in a lump sum, I still have dry powder to take advantage of the correction that is still playing out.

After a review, I don’t see any deterioration in the fundamentals of my portfolio companies that warrants selling any of them. As I genuinely don’t know where the markets will be tomorrow, one month or six months from now, I am happy to hold what I already have in my portfolio and continue dollar cost averaging as the year progresses.

Note: This only includes my invested capital and does not include cash

Plan for 2023

As of now, I have no plans to divest any of my holdings and intend to continually invest more throughout the year, no different than what I have been doing last year. I do however, plan to make minor tweaks in allocation as I add to my portfolio.

Broad-based ETFs tracking the S&P500 and the world index will continue to form the foundation of my portfolio and I will continue to DCA throughout the year, maintaining my allocation to ETFs.

One thing that will be different for me this year is that I will be less active in looking for individual businesses to invest in, simply due to limited time and capacity. That being said, I will still continue to monitor those that are already on my watchlist. One of which, I will share more on below.

At the time of writing, I find REITs to be priced at a very attractive level with some of the well established REITs boasting 5-6% yields. The somewhat depressed prices could be attributed to the high interest rates, which translates to increased cost of borrowing for REITs. However, I believe that well-managed REITs with comfortable gearing ratio, high proportion of fixed interest debt and high interest coverage ratio will have no issues delivering satisfactory returns to shareholders. On top of that, REITs remain my only viable mean for exposure to real estate at the moment and their steady dividends can provide stability to my portfolio if markets make a turn for the worse. Thus, I have taken the opportunity to increase my exposure to REITs in the first two months of 2023 and will likely continue to add to my position if prices become even more attractive.

Finally, T-bills remain a good place to park short term cash, with the latest issue yielding 3.9%. As I’ve mentioned on my telegram channel multiple times, I have been adding to my T-bills position throughout 2022. However, they are more of a short term investment and I hope to recycle the capital into equities and REITs should prices become more attractive in the later part of this year.

Biggest Mistake of 2022

No doubt, I have made many mistakes in 2022. None, however, is as costly as this one of omission. In mid 2022, I had my eye on LVMH, and conducted due diligence on the business and its various brands. Even without owning any of their products, I appreciated the ubiquity of their brands and how they are synonymous with wealth and status. The brilliance of Bernard Arnault has also been something I have read about and admired for quite some time. The world’s largest fashion house thus checks all the right boxes. Ultimately, I chose to hold off on buying any LVMH shares because the market levels looked frothy.

Fast forward to today, the share price has increased by more than 40% while my portfolio has slumped along with the markets and I still don’t own a single LVMH share, so I am literally slapping myself for that mistake.

At today’s prices, I am calling it over-priced, so check back in a year to see whether I am right about that… Nonetheless, LVMH is one of the companies that I will be watching closely this year.

I must admit, it’s great to be writing again and I really hope the stuff I share is beneficial to you guys. In view of my commitments, I am looking to publish less often but dive into greater detail each time and hopefully provide greater value in each article. I already have a couple of exciting ideas, so stay tuned!

Posted on by CTKS

Inflation, Interest Rates and Time Value of Money

Given the recent jitters in the markets driven by inflation data, talks about tapering and rising interest rates, I thought I’d write an article discussing the issue at hand. Don’t get me wrong, I have previously shared about the futility of attempting to predict macroeconomic trends and my view has not changed. However, it is still important to understand these fundamental concepts and what they mean for investors.

Inflation

Inflation in layman terms is an increase in prices. This phenomenon is caused by an imbalance between supply and demand. As the pandemic threatened to force the global economic machine to a grinding halt in 2020, governments around the world rushed to prop up demand by flooding the markets with liquidity. However, the production of goods could not keep up with surging demand, driving prices up.

In other words, inflation results from efforts to get something for nothing. If the governments gave away money by taking away an equal amount through taxation, no inflation would result as the balance between supply and demand would be unchanged.

Consensus amongst most economist seems to be that a low and stable inflation is desirable for economic growth while deflation and persistently high inflation are both detrimental to economic growth.

Interest

Interest is the price of time. It measures the cost of having or doing now what we hope to be able to pay for later. Anything bought with borrowed money will cost more than buying with cash upfront. The difference is the price of time. This is true whether the borrower is an individual, a company, a city or country.

The buyer of time takes on an obligation to return the borrowed money and pay for the right to use the money now. In other words, debt.

There is nothing inherently good or bad about debt and interest. Debt is a merely a tool. Whether it is beneficial or detrimental depends on how one uses it. Many people have been ruined by debt. Many others have made their fortunes with borrowed money. The difference is whether the time borrowed is used profitably so that it is worth it.

Time value of money

This is a concept that is central to investing. Simply put, a dollar today is worth more than a dollar tomorrow. This is true for the following reasons

  1. Inflation means that a dollar can buy more today than the same dollar can tomorrow
  2. The ability to invest means that you may incur a opportunity cost
  3. The risk of not being paid back as the entity that owes you money may go bankrupt means that you would want to be paid as soon as possible

These three factors have similar effects. The promise of being paid $1,000 ten years later is worth less than $1,000 today. In fact, you will likely accept $800 if you believe that you are able to get a fair rate of return by investing your money elsewhere.

When we invest, we are forgoing spending that sum of money today. In order for this to be worthwhile, we must receive the same amount of money in face value plus some as compensation for the erosion of purchasing power, opportunity cost and the risk that we are undertaking.

Tying it all together

The relationship between interest rates and inflation is as such.

Nominal interest rates = Inflation + Real interest rates

The higher the rate of inflation the greater the cost of buying time – in other words, the higher the interest rate.

One of the greatest delusions is that the government can keep interest rates low while continuing to inflate the money supply. Sounds awfully familiar? This delusion stems from the widespread belief that the FED controls interest rates. In reality, the FED does not dictate interest rates as they are merely one of the factors that influence interest rates.

Looking at the divergence between inflation and interest rates today, it is only a matter of time before both converge.

However, the million dollar question isn’t “when will interest rates rise?” or “is hyperinflation coming?” No one has the answers to these questions. Instead, investors should all ask this question: “what type of businesses do well regardless of inflation?”

Traditional wisdom says that businesses with the greatest tangible assets will do well during times of inflation. This sounds intuitive but there is actually one type of business that does even better during periods of high inflation.

During periods of high inflation, the capital light business will do much better. The winning formula is intangibles of lasting value with relatively minor requirements for tangible assets. All things equal, the less capital intensive business will do better than asset-heavy businesses in the face of inflation.

By intangible assets, I am not referring the intangible assets and goodwill stated on their balance sheets that are likely not worth anything close to their stated value. When I refer to intangible assets, I mean economic goodwill in the form of competitive advantages that are difficult to quantify. This exists in various forms such as pervasive reputation with consumers based on past experiences with products and personnel (Amazon), brand name (Apple, Coke), being the low cost provider (Costco), network effect (Facebook) and many more.

Why do these companies do better than others during inflationary periods?

It goes without saying that when we invest, we want our investments to grow in real terms (ie be able to purchase more goods and services). This is done by achieving a rate of return in excess of inflation. And the best way to do so is to invest in businesses that are able to raise prices easily without investments in a lot of assets. Companies with these two qualities are able to earn returns far in excess of inflation (think about the companies mentioned above).

Note that throughout the entire article I give no thought to what the FED is going to do, whether inflation is here to stay or what interest rates will be tomorrow. It’s not that these are unimportant. They do influence the markets but they are simply unpredictable. Investors will do much better if they focus their efforts on things that they can control, such as picking excellent companies.

Posted on by CTKS · 3 Comments

Three Fund Portfolio – For Lazy Singaporeans

For those who have been following my website for a while, you will know that I am a huge proponent of passive investing. This strategy involves buying and holding ETFs that track a broad index. The philosophy behind this strategy is encapsulated in this quote from John Bogle, the founding father of modern day index funds: “don’t look for the needle in the haystack, just buy the haystack!”. In today’s complex and uncertain world, keeping our investment strategy simple is perhaps one of the wisest things we can do.

Proponents of this method of investing, known as “bogle heads”, have popularised a three fund portfolio that is inspired by John Bogle’s simple and low cost investing strategy. Typically, a three fund portfolio consists of the following:

  1. U.S Stocks
  2. International Stocks
  3. Bonds

However, given that this portfolio was created with the U.S. context in mind, I have adapted the three fund portfolio to suit my personal goals and preferences and Singapore’s unique context (many blue-chip stocks and REITs, no withholding taxes on dividends and the CPF system).

Here is an outline of the three fund portfolio adapted for Singaporeans.

1. An ETF that tracks a broad index

When it comes to passive investing, there is a plethora of ETFs to choose from. For starters, choose which index you would like to track. For instance, there is the S&P 500 index, the total U.S. stock market, the Russell 1000 index, world indices, etc.

If you would like to invest exclusively in the United States, your choice will be between the S&P500 index, the total U.S. stock market and the Russell 1000 index. From here, it will depend on whether you would like some exposure to small and mid cap stocks. If you do, pick the total U.S. stock market fund. Else, the S&P500 and Russell 1000 index are fine as well.

If you believe that the other markets could provide greater returns than the United States in the years to come, I would suggest opting for an ETF that tracks a world index. These indices typically have about 60% allocation to the United States and a 40% exposure to the rest of the world, providing adequate diversification away from the United States.

The ETFs I picked for my own portfolio are CSPX, which tracks the S&P500 Index and VWRA, which tracks the FTSE All-World Index. Both of these ETFs are Irish-domiciled ETFs, which are more tax efficient for Singaporeans compared to their US-domiciled counterparts. Additionally, they are of the accumulating type as I would like to maximise the compounding effect while minimising costs. For more information on Irish-domiciled ETFs and how to choose one that suits your preferences and goals, check out my article here.

For investors who only wish to pick one ETF, I would go with VWRA because it provides greater diversification and exposure to emerging markets such as China as well.

2. Singapore Dividend Stocks

One of the advantages of investing in Singapore is that there are many high dividend yielding stocks (blue-chip stocks and REITs) and no taxes on dividends. This is why so many Singaporeans are obsessed with dividends (myself included). While dividend stocks may not produce spectacular capital gains compared to high growth companies in the United States, I would argue that there is still a place in our portfolio for them. In investing, we should not seek to maximise our returns but instead seek to build a resilient portfolio that generates adequate returns. These dividend stocks are typically more stable and continue to pay dividends during times of economic downturn (albeit less). A steady stream of dividend income is extremely desirable as it can help tide us over a crisis or challenging period. The Covid-19 Pandemic is the perhaps the perfect example to substantiate my point.

In terms of dividend stocks in Singapore, there are two main ETFs to consider.

  1. SPDR STI ETF (Ticker: ES3)
  2. Lion Phillip S-REIT ETF (CLR)

As I am not a fan of the Straits Times Index (STI), I invest directly into the banks (OCBC, DBS and UOB) instead (mainly because they have higher yields than the STI and tend to perform better). If you would like to stick with the most passive form of investing, dollar cost averaging into the STI is fine as well.

Additionally, the S-REIT ETF is an excellent ETF to include in your portfolio. It boasts a higher dividend yield than the STI and Singapore’s vibrant REIT market is definitely something that we should take advantage of. Read my article on REITs to find out why I think they remain a worthy investment today.

At this point, some of you might say that my portfolio has more than three funds and deviates from the most passive form of investing (buy and hold ETFs). However, I would argue that the additional work required to invest in the banks and the S-REIT ETF is minimal and well worth it. Furthermore, no harm in having greater diversification! That being said, there is nothing wrong if you wish to stick with only three funds, just pick either ETF (STI or S-REIT) and stick with it.

3. CPF

Lastly, I have opted to replace bonds with the retirement system that Singaporeans have a love-hate relationship with. Despite the limitations of CPF, namely not being able to receive any pay outs until much later in life, CPF has “bond-like” characteristics that makes it a suitable replacement. Let me explain my thesis.

Firstly, I have an extremely long term horizon as I am investing for retirement. Thus, the fact that I am not able to touch my CPF money does not bother me as I have the intention of leaving the money in there for as long as I can. Of course, there is a chance that I will need cash urgently (due to a recession or emergencies). This makes the case of first having an adequate emergency fund.

Next, CPF provides a 4% rate of return that is essentially risk free (as it is guaranteed by the Singapore government which is rated triple A, the highest possible credit rating). This is much in excess of any triple A rated bond in the world.

Essentially, the CPF system makes it a bond on steroids that can give us steady, guaranteed pay outs well into our retirement as long as the Singapore government does not default. Given our government’s history of prudence and huge reserve, this is extremely unlikely.

Even if you are intending to pursue FIRE, CPF can be your safety net, allowing you to still achieve an adequate retirement in the event that your FIRE plan falls through.

Either way, we are forced to make monthly CPF contributions from our salary, which should be form quite a substantial part of our portfolio. However, if you want to allocate a larger portion of your portfolio to CPF, you can make voluntary contributions which can lower your taxable income as well.

That being said, I would like to add a caveat that I am mainly investing for retirement. The CPF system should only be seen as a replacement to bonds if you have an extremely long term horizon. If you are intending to take money out to make a big ticket purchase, consider having greater allocation to stocks and actual bonds.

Thus, a Singapore three fund portfolio will look something like this:

  1. VWRA
  2. STI ETF or S-REITs ETF
  3. CPF

Finally, we come to portfolio allocation.

Below are rough guidelines I intend to use to portion my portfolio at different stages of my life. Do note that these just rough numbers and are subjected to change depending on numerous factors.

In my 20s, I intend to be aggressive as I wish to attain financial independence as early as possible. Thus, I have a huge allocation to U.S. and international stocks (VWRA and CSPX). I also have a small allocation to Singapore REITs and blue-chips (namely the bank stocks), which I picked up last year when they were at huge discounts. Finally, my CPF makes up less than 10% of my portfolio as I am not working yet. Currently, my portfolio looks something like this:

US + Rest of the world: >70%

Blue-chips and REITs: 20%

CPF: <10%

For the next 5-10 years, my portfolio will likely look similar in terms of allocation. I intend to continue to DCA monthly into CSPX/VWRA, only adding to Singapore REITs and blue-chips if they are selling at huge discounts.

In my 30s-40s, CPF as a percentage of my portfolio will likely increase substantially due to mandatory and voluntary contributions. At the same time, I will start to allocate more money to dividend stocks and cut back on growth stocks in order to start building a dividend income in order to achieve financial independence. My portfolio will likely look something like this:

US + Rest of the world: 40-50%

Blue-chip and REITs: 30-40%

CPF: 20%

In my 50s and beyond, I will hopefully have achieved financial independence. I intend to do this by having the bulk of my investments in dividend paying stocks. This will allow me to have a steady stream of dividends to fund my desired lifestyle. However, I will still be allocating some money to growth stocks so that my portfolio will still achieve desirable rate of return.

US + Rest of the world: 10%

Blue-chips + REITs: 60%

CPF: 30%

As with most other things in life, there are no hard and fast rules in investing. What may work for someone else may not work for you. I adapt ideas from other successful investors, copying what I deem fit and omitting the rest. In fact, my own plans, preferences and goals may be subjected to change and so will my portfolio allocation as well. The key is to remain flexible in order to create a resilient portfolio that works for you.

Posted on by CTKS · 1 Comment

Real Estate Investment Trusts (REITs)

The Singapore Stock Exchange hosts a vibrant ecosystem of Real Estate Investment Trusts (REITs). From homegrown names such as CapitaLand to foreign REITs such as Manulife US, there is a plethora of REITs for us to pick from. In this article, I will cover the basics of REITs and what makes them a great investment vehicle for building long term wealth.

What are REITs?

REITs, or Real Estate Investment Trusts are companies that own income-producing real estate across a range of property sectors. The shares of such REITs are traded on stock exchanges just like those of a typical business, giving the shareholders a right to a small portion of the rental income the REITs collect from renting out their properties.

REITs structure

Before investing in REITs, it is essential that you understand the typical process of how a REIT operates in Singapore.

  1. Unitholders and REIT sponsor come out with initial capital
  2. REIT manager is employed to manage the group of properties
  3. REIT manager receive fee for its asset management service
  4. Capital employed to acquire income-producing properties
  5. REIT manager hires team of property managers to run day-to-day operations
  6. Property managers receive fee for services provided
  7. Net property income is deposited in trustee’s account
  8. A trustee is employed to safeguard unitholders’ interests. Trustee only release funds when property deeds are properly accounted for and verified
  9. Trustee earns fee for services provided
  10. Unitholders (you and I) receive income distributions every 3 or 6 months

For a more detailed explanation of how REITs in Singapore work, read this article.

Reasons you should invest in REITs

1. Allow retail investors to take part in the wealth creation by the real estate sector

Of the 10 richest people in Singapore, 5 of them derived their wealth partially or wholly from real estate. This is a testimony to the wealth that the real estate sector can create. While investing in REITs will not make us a millionaire overnight, it allows us to take part in the wealth creation of real estate. This is because REITs make investing in real estate affordable and accessible to retail investors. Few people will be able to fork out millions to invest in real estate but REITs will allow us to gain exposure to real estate investments with only a few hundred dollars.

Granted, past performance does not guarantee future performance. However, there are many factors that point towards a buoyant real estate sector in the years to come. First, Singapore’s land is scarce, limiting the supply of real estate. Additionally, as a politically stable country with a business friendly government and high skilled workforce, Singapore remains an attractive location for many businesses to set up their operations. Thus, Singapore continues to enjoy strong demand for real estate. These factors exert an upward pressure on rental and property prices. With many multinational corporations looking to enter the ASEAN market and the rise of high tech manufacturing, Singapore’s real estate sector will likely continue to enjoy tailwinds for the foreseeable future.

2. Pays good dividends

REITs in Singapore are required to distribute 90% of their taxable income to unitholders to qualify for tax transparency treatment. Under this treatment, the REITs are not taxed on income distributed to shareholders. Essentially, this regulation encourages REITs to pay higher dividends. This is why REITs have such high dividend yields compared to other blue chip companies. For instance, S-REITs (Singapore REITs) average a dividend yield of 5.6% in April 2021. This is very impressive compared to the 3-4% dividend yield of the Straits Times Index, which tracks the 30 largest public listed companies in Singapore.

Furthermore, unlike the United States which levies a 30% withholding tax on dividends for non-residents, Singapore does not tax dividends. This means that what we see is what we get. The dividend paid by REITs go straight into our pockets!

3. Provides diversification away from stocks

The third reason to include REITs in your portfolio is that it provides some diversification away from stocks. Despite their slight correlation, a mixture of REITs and stocks will make your portfolio less volatile (as observed from the graph below).

Some may argue that REITs do not provide sufficient diversification away from stocks due to their correlation, citing the example where both stocks and REITs alike suffered greatly during the 2009 financial crisis. However, this observation fails to take into account the underlying reasons of the 2009 financial crisis. The 2009 subprime mortgage crisis stems from the real estate bubble and was one that affected the entire world economy. Thus, it is to be expected that both stocks and REITs will be similarly impacted. On the other hand, in instances such as dotcom crash in 2000, stocks suffered greatly while REITs continued to deliver solid returns. This is because the dotcom bubble was mainly confined to technology stocks. In cases such as this, REITs do serve as an adequate diversification away from stocks. For additional reading on the correlation between REITs and stocks, check out this article.

4. REITs are relatively stable

The stability of REITs can be attributed to the stringent regulation implemented by the Monetary Authority of Singapore. One of which, is the maximum gearing ratio (debt-to-equity) of REITs. In essence, this regulation limits the amount of debt REITs can take. In light of the Covid-19 Pandemic, the Monetary Authority of Singapore raised the gearing ratio limit for REITs from 45% to 50%, giving REITs more leeway to take on more debt in these trying times. If you think about the ongoing Evergrande saga, excessive debt will make a company more risky.

Additionally, there are many more intricate details of the regulation of REITs in Singapore. These regulations are outlined by MAS and can be found here. In my opinion, these regulations are very desirable as they make the REIT environment in Singapore controlled one. This protects retail investors (you and me), making REITs relatively stable investments for investors seeking passive income.

Limitations of REITs

  1. Securitization of REITs resulted in them behaving like stocks

Much like stocks, REITs are traded on a stock exchange and volatility. This is unlike traditional real estate, which have relatively more stable prices.

  1. May not experience that much growth

This is because majority of earnings are paid out as dividends and are thus not reinvested to achieve more growth.

That being said, I would not see these as disadvantages or risks of REITs. The two points above come as a trade-off, something like a necessary evil for us to take part in the real estate investment and enjoy the high dividend yields synonymous with REITs.

The simple way to invest in REITs

Those who have been following my blog for some time already know what I am going to say. As I have previously wrote in my article titled “How To Start Investing With Little Money”, ETFs are the perfect way for the novice and/or lazy investor starting with a small capital. With as little as a $107 dollars at the time of writing, you can gain exposure to 27 high quality REITs in Singapore by investing in the Lion-Phillip S-REIT ETF (ticker: CLR).

For a more in depth comparison between the 3 REITs ETF that are listed on SGX, refer to this Seedly article.

Finally, I would like to end of this post by debunking a common misunderstanding that REITs are for those nearing retirement and unable to take on greater risks. In my opinion, there is a place in everyone’s portfolio for stable income producing assets such as REITs. The pandemic is perhaps the best argument for this as stable dividend pay outs can potentially tide us over a tough period. As usual, the exact proportion of your portfolio allocated to REITs should be tailored to your personal goals and preferences. Join my telegram channel here where I share more of my research!

Posted on by CTKS · 2 Comments

4 Reasons Why You Should Invest

Still on the fence about whether to invest? In this article, I will make the case of why investing is essential, and perhaps even necessary for most of us.

The first reason why you should invest is because earning and saving is only half of the equation to building wealth over the long term. When we work, we are “exchanging” our time for money. As we only have 24 hours a day, there is a limit to how much we can work and how much money we can earn using our time. If we want to maximise our earned income by working more hours, we will eventually have to work at the expense of having less time to rest or to do things that brings us joy. Worst still, our mental health will deteriorate and we may become at risk of burning out. Personally, I view investing as making your money work for you, even when you are asleep. As your income from investing increases, it can supplement your main income stream and this means it will free up more time for you to do the things you love such as pursuing your hobbies or spending time with family and friends.

This brings me to my next point, which is that investing can help diversify your sources of income. Diversification one’s sources of income is a topic that is not talked about enough. One only needs to look back at the past year and a half to see why diversifying our income streams is necessary. As Covid-19 ravaged the world and forced many economies into lockdown, many people lost their jobs. If our day job is our only source of income, losing it means having to survive on stimulus checks an watching our savings whittle down. During the same period, the stock market has continued to chug along, rewarding those who remain invested. Thus, a second source of income via investing could potentially help tide us over in a time of crisis. Furthermore, research has shown that generally, the more sources of income you have, the more income you tend to make. With dividends and capital gains being the most common income streams after earned income, investing in equities is a good place to begin.

Next, I view investing as a way to protect your savings against inflation, the silent killer. Today, cash sitting in the bank earns an interest of 0.05%, essentially nothing. Imagine that you saved up a respectable sum of $50,000 by the time you are 30 years old. If you were to leave this sum in the bank, it will be worth less than $33,400 in real terms by the time you reach 50 years old (assuming an average inflation of 2%). Essentially, you would have lost over $16,600 by simply doing nothing. Investing, on the other hand, allows us to earn a return greater than the inflation rate. This grows our savings in real terms, protecting them from being eroded by inflation. Inflation is so deadly because it lurks in the shadows and goes largely unnoticed. By the time people feel its effects, it is often too late. Thus, the sense of assurance we feel when we have loads of cash in our bank account is a false one. If you are not convinced about the threat of inflation, just ask your parents how much a cup of coffee or a bowl of noodles cost when they were a student! Thus, while returns on investing in stocks are not guaranteed, leaving your retirement savings in the bank is a sure way to have your savings eroded.

Lastly, being able to retire on savings alone is a luxury. For someone who earns the median wage of $4,500 in Singapore from 25 years old to 60 years old, being able to save $1 million dollars for retirement seems like an impossible uphill task. They would need to save $2,380 a month, more than 50% of their income, in order to hit this goal. If the same person were to dollar cost average into an ETF that has an 8% annual return on average, he will only need to contribute $465 each month to achieve the goal within the same time period of 35 years. Now that is a much more achievable goal! While I admit that this is a theoretical example, the 8% return is a rather conservative one given that the S&P500 has a historical average return of 10% annually. Furthermore, by saving and investing more than the $465 there will be more leeway for any potential setbacks.

I hope that this post has convinced you about the importance of investing in order to achieve achieve our financial goals more easily. While there are indeed risks involved, as with most things, avoidance is not the solution. Instead, we should recognise the risks involved and understand that successful investing can be achieved with the right strategy and mindset. Thankfully, these are well within our control. If you would like to learn more about investing, check out my other posts on how to invest here. Additionally, I will be sharing which ETFs I personally DCA into monthly so click here to join The Dollar Sapling telegram channel and stay tuned!

Posted on by CTKS · 2 Comments

How to Start Investing With A Small Capital

If you have read my other post on The 8th Wonder of the World – Compound Interest, you would have understood the importance of investing as early as possible. However, there can be many reasons that impede one from investing early. Common reasons include lack of time, money and knowledge. Thus, I am going to share with you my personal story of how I started investing and how you can, too.

As investing is only a means to an end (with the end being financial independence), it is crucial that you check out my other post on how to embark on your journey to financial independence and make sure that you have completed the steps I shared in that post before investing.

First, let me share the 3 biggest challenges I personally faced when I started to invest with a small capital.

1. Insufficient funds for diversification.

Each time that you wish to purchase shares of a company, the minimum you have to purchase is one lot of shares. In the United States, one lot of share is one share. However, the lot size of Singapore listed companies is 100 shares. Thus, if I wish to purchase shares of DBS, I would have to buy a minimum of 100 shares. At the current price of $30, one lot of shares will cost $3,000 (100 x $30). If I were just starting out with $5,000, DBS will take up more than half of my portfolio, leaving me with insufficient funds to diversify my portfolio sufficiently.

2. Commission fees were eating into my returns

The need for diversification combined with a small starting capital also means that each position in my portfolio would be relatively small. For instance, if I wanted to maintain diversification by investing $5,000 equally across 10 companies, I would only have $500 for each company. Thus, commissions would be a large percentage of each position. When I first started investing, I used a non-custodian broker that charged $25 per trade (non-custodian brokers usually charge higher fees than custodian brokers). If I were to buy one lot (100 shares) of Frasers Centrepoint Trust which has a share price of $2.30 at the time of writing for $230, $25 would be 10.9% of my purchase. The average cost of each share would thus be ($230+$25)/100 = $2.55, 10.9% greater than the market price. Essentially, I have instantly made a 10.9% loss on my investment just by buying it. Of course, the average cost could be lowered by making a bigger purchase as the same commission of $25 would be spread out over more shares. However, as I was just starting out, I did not have the luxury of buying many lots as the need for diversification means that I cannot have too much of my portfolio in a single stock. Thus, this reduced my returns on investment substantially.

3. Lastly, I did not have sufficient knowledge to choose many stocks and did not have much time to expand my knowledge.

As one of the best investors in the world, Warren Buffet, always says “invest in companies within your circle of competence”. This means that you should invest in businesses that operate in industries you understand. This can be the industry which you work in or companies you interact with daily because your career experience will equip you with knowledge of the industry that an outsider will not have. As a customer, you will have first-hand knowledge of the product or service the company provides. As someone serving National Service, my circle of competence is unsurprisingly small. While it possible to widen your circle of competence by doing research, it is very time consuming to do so. As I spent 5 days a week in camp, I had to do most of my research over the weekends. Amidst juggling to spend time with my family and friends and pursuing my interests, I did not have much time to do much research. As such, my research on a single company would span several weekends and the list of companies that I wanted to look into never seem to end. Thus, I made very slow progress in finding great companies to invest in.

Reflecting on these challenges, this is how I would have invested differently if I could go back in time: I would have dollar cost averaged monthly or quarterly into ETFs. An ETF is a security that tracks an index, sector, commodity, or other asset, which can be purchased and sold on the stock market like a normal stock. For instance, the S&P500 is a stock market index of the largest 500 companies listed on the stock exchanges in America. By purchasing one share of an ETF that tracks the S&P500 index, you will essentially own very small percentages of the 500 largest companies in America. As the share price of the companies that are part of the index go up, so will the price of the ETF. In Singapore, there are also ETFs tracking the Straits Times Index (STI), which tracks the performance of the 30 largest companies listed on the Singapore Stock Exchange.

From the get go, an ETF will solve the first issue of having insufficient diversification as an ETF that tracks a stock index is highly diversified. By buying a single share of an ETF tracking the STI, you will own shares in many great companies such as DBS, OCBC, UOB, CapitaLand and many more.

At the same time, the fact that I do not need to worry about my portfolio being too concentrated means that I can buy multiple lots of an ETF at a time. This means the commissions would be spread out across more shares, reducing my average cost. For instance, the SPDR Straits Times Index costs $3.113 per share at the time of writing. As I need not worry about diversification, I could purchase 10 lots (1000 shares) for $3,113. With the same commission fee of $25, my average cost would be ($3113+$25)/1000 = $3.138. This is only 0.8% higher than the market price, resolving the second issue. However, as I prefer to use a dollar cost averaging method and only invest a few hundred month, a commission of $25 per trade is still substantial relative to the size of each trade. Thus, I would have used a custodian broker instead of a non-custodian one in order to minimise commission fees. Another method is to invest quarterly instead of monthly. By spreading out my purchases, I will buy less frequently and each purchase will be larger. Thus, commission fees as a percentage of total value of purchase will be smaller. As a rule of thumb, I try to keep my commission fees below 1% of my purchase.

Finally, as an index such as the S&P500 tracks the largest 500 listed companies in America, if one company falls out of the top 500 companies, it would be replaced by another company. Essentially, my portfolio would be automatically maintained as the index is rebalanced. This means that I do not need to devote much time into researching companies, overcoming the third difficulty I had faced. The S&P500 is also commonly used as the benchmark for the average stock market returns. While it is natural to seek returns that are as high as possible, we must remember that investing is not a get rich quick scheme. As beginners, we should be contented with returns equals to the average of the stock market. That is a sustainable and safe way to build wealth over the long term. In fact, research has shown that 90% of investors fail to beat the stock market. Average returns are not so average after all.

Even if you do not wish to jump straight into investing, I highly recommend you to start saving and learning more about investing now. Understand the risks involved and some crucial concepts such as compound interest.

To sum it up, ETFs provide diversification, reduce fees and save time, making it suitable for a beginner’s portfolio.