Monday, November 30, 2009

A small day trade successfully executed

Having formed the view that the Hong Kong market had overreacted to both the Dubai World debt problems and the potential need for China's banks to raise additional capital, I undertook a small speculation in the warrant market this morning.

I purchased some warrants on the Hang Seng Index (19288) paying HK$.182 per warrant and sold them less than two hours later for HK$0.19. Net of costs, I made a profit of about 2.1%. Given that I was using only a very small amount of money, the gain was not meaningful in the overall scheme of things, but enough to pay for a very nice dinner for two with a nice bottle of wine.

If nothing else, it gave me something useful to do during what is shaping up to be a monumentally boring day at the office.

Saturday, November 28, 2009

VTech purchased

On Friday I sold shares in Pacific Basin (2343) to invest in VTEch Holdings (303). VTech has a strong balance sheet with no debt and the equivalent of about HK$11 per share in cash. It has come through the recession in good shape with new products enabling it to more or less maintain reasonable profit margins on sales that have held up well. It is selling on an undemanding forward 2010PE of about 10.4 and offers a dividend yield well above 5%.

I placed my order early on Friday morning at 68.80. Unfortunately, in spite of the market being down heavily, VTech jumped against the general direction of the market and only about 62% of my order was filled before the share price rose above HK$71 per share. I elected not to chase the market. If the share price retreats to below HK$70, I will complete the rest of the order. If not, I will hold the shares purchased.

Pacifc Basin sold

On Friday morning I sold my shares in Pacific Basin (3443) at HK$5.89 per share. My purchase price was HK$5.71 back in June. Including the dividend, I made a net profit of about 4% after transaction costs.

The stock has been a disappointing investment - considerably underperforming the Hang Seng Index in spite of the strong rise in the Baltic Dry Index over the last six months. Being short of cash, I also needed to sell something to raise money to invest in VTech (303).

Tuesday, November 24, 2009

From two incomes to one (1)

Mrs traineeinvestor will make the transition from a full time career woman to a full time stay at home mum when she leaves her office for the last time on Friday. With our children starting school and needing a degree of supervision and support which is difficult to provide through other means, we felt it was the right thing for one of us to take on this role.

What does the shift to a single income mean for our household?

The loss of income. Having run the numbers through the spreadsheet a few times, we have concluded that it should not affect my plans to retire in 2012-2013. If it does, it will only be by a year - because we are so close to hitting our number savings have less of an impact on the timing than return on investments.

Vulnerability to job loss. Clearly, if I were to lose my job we would have no income coming in and would need to live off investments until one of us could find a new job. This does not cause us any concern - if we really had to we could make some significant cuts in expenditure and probably get by indefinitely on our investments.

Boredom. The only thing worse than a bored spouse is a bored spouse who tries to relieve her boredom by going on shopping binges. We have come up with some projects to keep Mrs traineeinvestor busy - both physically and mentally. One of which will be tracking our spending in far more detail than we do at present. There are also some projects around the home which need doing. She is considering doing some further study.

Expenses. We are unsure whether expenses will go up or down and will monitor the situation carefully. In some respects, this is a dry run for my own retirement.

Savings. With time on her hands, we will be looking to get better deals on some of our household expenses. At the moment, we simply do not have the time to search out the best deal.

Portfolio. At the moment we do not keep any money set aside for an emergency fund. Having considered our situation, I see no need to change this arrangement. There will still be enough cash coming in from my job and our investments each month as well as money set aside to pay tax to deal with just about any emergency which could conceivably arise.

Insurance. Our medical insurance is provided by my wife's employer and will cease at the end of the week. I have arranged replacement insurance through my employer but have to pay for it myself. This is a significant expense.

Looking forward to the day when I retire.

Monday, November 23, 2009

Put option exercised against me

It had to happen at some stage. The put option I wrote last month against Hutchison Whampoa (13) was exercised against me when the market price dropped below the strike price. As a result I am now heavily invested in Hutchison Whampoa (I also hold some 2011 options).

Given that equity markets are volatile, it was inevitable that an option I wrote would be exercised and I would end up owning shares that were worth less than I paid for them (at least on a short term basis). It is for this reason that I have only been willing to write options against shares which I would be prepared to hold long term. In the case of Hutchison Whampoa, the company is a long established blue chip company with a sound balance sheet and a diversified portfolio of earnings, at least some of which are defensive in nature. The 3%+ dividend yield is also attractive.

Sunday, November 22, 2009

Oxfam Trailwalker - 100 KM of hills

I finished the Hong Kong Oxfam Trailwalker yesterday. A 100 KM trek which can take anything from around 12:17 (the winning time this year) to 48 hours (the time limit). Did I mention the hills, the steep and seemingly endless hills? It was also cold, with temperatures dropping to 2 degrees with strong winds adding a chill factor. Even with 4 layers of clothing, gloves, a hat and a plastic raincoat, it felt incredibly cold through the night. At least it was not raining.

For those who are not familiar with the trailwalker concept, the original event was designed as training exercise for the Gurkhas when they were part of the British military garrison in Hong Kong. The event evolved into a charity event to raise money for Oxfam. Trailwalkers are now held in several countries including Japan, Belgium, England, New Zealand and Australia.
For those looking to challenge themselves it is a great, if somewhat painful, experience. In terms of personal satisfaction it is a considerable step on completing a marathon.

Sunday, November 15, 2009

Book Review - The Believers

The Believers is a short (255 page) high level summary of the life of Bernard Madoff. A great deal has been written about Madoff in one form or another (this was one of three books on Madoff competing for space in the local book shop). However, my other readings on the subject have failed to provide answers to two fundamental questions which are of considerable interest to me as an investor:

1. why did the SFC fail to stop Madoff in spite of being repeatedly alerted to the likelihood that he was acting dishonestly?

2. why did so many people entrust so much money to one unlicensed investment fund run by an unlicensed adviser?

Adam LeBor's book focus's on the second question. The answer would make an interesting study in investor psychology or behavioural economics. In a nut shell people invested in Madoff because he created an aura of exclusivity. Being a Madoff investor was tantamount to being part of "our crowd", part of something special and unique. There was also a significant element of people trusting Madoff with their money because other people they knew and respected had also done so.

The obvious lesson for a small investor like myself is to avoid products which attempt to sell themselves on the basis of glamour, exclusivity etc. In effect, make sure I do not follow the crowd.

The other lessons from Madoff are not new. Stick with things which are easy to understand and transparent. Diversify. Know who has your money. Do your own research and do not invest until you have all the answers you need.

The first question receives much the same brief treatment as other writings: no satisfactory reason for the SEC's failure to shut Madoff down years earlier has been given.

Saturday, November 14, 2009

If (financial) disaster strikes

This article in the Wall Street Journal about people who continue to throw money at a lavish lifestyle. I totally fail to understand how people can burn through money on maintaining a lifestyle which is unsustainable and, quite frankly, have little if any sympathy for them. If anything, I feel resentful that the taxpayer will ultimately end up footing the bill for their irresponsibility. I also have to wonder how they are going to explain things to their children when the banks belatedly wake up to the fact that these people are bad credit risks.

How would I react if I lost my job?

Obviously, I would be disappointed, possibly even a shocked as it is relatively new position. Moving past that reaction would be my first task. Given that I would want references from my current employer, I would try to leave on the best terms possible. I would also explore the possibility of a part time position or extended notice period to give me time to look for another job. Even though the odds would be against either proposition it would not hurt to ask. (Actually, given that there would be a reasonable possibility of my next job being with a client, they would have an incentive to treat me nicely on exit.)

I would discuss with my wife. We are a team and would need to deal with it together. This does not mean transferring any of my angst on to her. It means we have to be on the same page when it comes to dealing with the financial situation.

I would prepare a cv (actually, it would only take a few minutes to update the one I used last year). I would draw up a list of recruitment agencies and companies to approach. I would also look into further education options and a personal development project to keep me busy if all else failed.

I would arrange replacement medical insurance if I ceased to be covered under my current employer sponsored plan.

I would not make early payments into our mortgage. With an interest rate of about 1% and prepayment penalties applicable until May 2012, we are better off investing the money than in paying down debt.

I would start cutting expenses immediately. The immediate targets would be:

1. eating out - less frequent an cheaper

2. wine - expensive wine is one of my few real luxuries. It would be chateau cardboard for me going forward

3. transport - I usually take taxis. Going forward, it would be mostly buses

4. holidays - we would cut to one holiday a year (a visit home to see my parents)

5. gym - I would cancel my gym membership as soon as I have used up the balance of my current block of personal training sessions

6. children - I would not cut the children's schooling or extra curricular classes, but I would cut back on some of the more costly entertainment options

There are a few other lesser items which could be attacked as well.

I have run the numbers and with these savings, I would be close to having a sustainable lifestyle. Close but not close enough for comfort.

The other option which is still up for discussion is my wife returning to the workplace.

Wednesday, November 11, 2009

Defined contribution plans - a bad idea

There are a number of ways in which people can provide for their retirement. One method which is quite common is the defined benefit contribution plan. Under a defined benefit plan, participants will be entitled to a benefit on retirement which is calculated by reference to factors such as age, number of years in the plan and average salary in the final year(s) of employment. While at first glance defined benefit plans may look like an excellent way of providing for retirement, they are in fact a very bad idea for just about everyone - including the employee.

Here's why:

1. insufficient contributions: in theory, contributions will be made by either the employer or the employee or both over the period of employment. Actuarial calculations will be done to ensure that the total contributions over the life of the plan, together with the return on investing those contributions, will be sufficient to fund the future benefits. With depressing frequency, the contributions are not sufficient. The usual reasons are over estimation of the return on investing the contributions and longer life expectancies. Even a small shortfall in return will make a big difference over the life of the plan. Less frequently, the employer will simply fail to pay - either deliberately or under due to insolvency;

2. who pays for the shortfall: when the value of a plan's assets are insufficient to meet the claims by plan members, one of three things will happen (i) the employer will become insolvent in which case the employees will be left with reduced benefits (ii) the employer will attempt to negotiate lower benefits or (iii) the employer will fund the shortfall - which will usually come as a large and unpleasant surprise to shareholders if (as is just about always the case) the shortfall had not been provided for in the accounts. Another way of looking at it is employees are taking a very significant credit risk on their employer;

3. change of employment: defined benefit plans were designed in the days when people changed jobs less frequently than today. Since defined benefit plans are usually not fully portable, and plan administrators charge significant fees to people who withdraw from a plan), changing jobs or being laid off can have a significant adverse impact on future retirement benefits (remember that the size of the benefit is often linked to years of service). In some countries, regulations have been used to address this problem but with, at best, mixed success;

4. estate planning: if you use an alternative plan (defined contribution or self saving) all the assets in the plan are yours to keep forever (once vested). If you die, you can leave them to your spouse, children, favourite charity etc. With defined benefit plans, there may (or may not) be a benefit to a surviving spouse, but that is all. Once you cease to be eligible for benefits on death your estate has no further claims to either your contributions or your employers. This is fundamental to the way the plans operate (remember the actuarial calculations). If you die a day after retirement, a lot of money gets to benefit strangers. (What happens to your contributions if you die before retirement will vary from plan to plan but you can be assured that you will get less than full benefit);

5. value of benefits: studies have been done as to whether a defined benefit plan produces greater benefits than a defined contribution plan. The results tend to depend on what numbers are put into the calculations and whether a COLA is included. Unions and people who receive defined benefit plans tend to argue that defined benefit plans are better;

6. return risk: someone has to bear the risk of return on the investment of plan assets being lower than what is needed to provide the stated benefits. This should be the employee. Arguments that the employer should bear this risk are logically and morally flawed. As an investor I want to invest in companies that carry on a specific business - not a side business of investing in securities etc. Actually, the employee can avoid the risk by using defined contribution plan assets to purchase an annuity at retirement (and will have flexibility to select an annuity which suits their personal circumstances). From an employee's perspective, taking the investment risk off the table also takes away the possibility of benefiting from above average returns;

7. tax treatment: this is currently a non-issue for me. However, tax treatment in other countries varies;

8. inflation: some plans provide for COLA. Some do not. The value of a non-COLA plan will decline over time (even with low inflation). In contrast, a defined contribution plan can be invested in assets which have at least some prospects for preserving their real value (including annuities).

At the risk of stating the obvious, if one form of plan imposes greater costs on employers than the other, employers will either take the cheaper option or employee fewer people.

As a conclusion, defined benefit plans are generally bad for employers and will be bad for most employees. From the employees' perspective they are effectively obtaining the illusory comfort of a fixed benefit on retirement in exchange for taking on solvency risk, losing the potential for upside returns, losing flexibility with their jobs, increasing the cost of changing jobs or being laid off, losing flexibility on retirement and losing the opportunity to leave something behind for their heirs. If the plan does not include a COLA feature they also face greater exposure to inflation reducing their real post-retirement income. This is a very poor trade off.

The one group of people who may be better off with overly generous defined benefit plans are civil servants whose retirement is backstopped by the the taxpayers. As a tax payer, I find this offensive.

Monday, November 09, 2009

Equity put option written

With my previous put option against Petro China maturing today, I rolled over for another month selecting China Construction Bank (939) as the underlying. CCB was picked as a stock I would be happy to own at these prices for the longer term.

Here are the details:

Underlying: China Construction Bank (939)
Market price: $6.91
Strike price: $6.71
Valuation date: 7 December, 2009
Maturity date: 9 December, 2009Implied yield: 13.55%
Net purchase price if exercised: $6.64

If I get hit I will have effectively purchased the shares at about a 3.9% discount to the prevailing market price. This is a share which I am happy to hold long term if I get hit.

China Zhongwang - purchased

This morning I spent the proceeds from the sale of my shares in Hutchison Whampoa (13) on shares in China Zhongwang (1333), paying an average of $7.22 per share.

China Zhongwang was listed earlier this year. It's business is the development, manufacture and distribution of aluminium products. It's products have a number of uses - transportation and infrastructure being the main ones but also industrial machinery. As such the company is a proxy for both government spending on infrastructure and car manufacturing.

The latest interim report showed a clean balance sheet with cash on hand exceeding the aggregate of long and short term liabilities. It is audited by a big four audit firm.

The company's share price suffered a set back when a local publication alleged that the company's prospectus contained a misrepresentation (falling from a high of $11.30 to a low of $6.51). The person making the allegation has since retracted. The company has also appointed an independent firm (Ernst & Young) to review the basis of the allegation and report to shareholders. That report is outstanding.

Brokers have mixed views on the stock. Morgan Stanley has an overweight rating with a price target of $12.39 which leave considerable scope for further upside once investor confidence returns. Morgan Stanley was not one of the joint global co-ordinators in the IPO.

Hutchison Whampoa - sold

This morning I sold my shares in Hutchison Whampoa (13) at HK$54.00. The purchase price was HK$50.20 on 15 May . My net profit (after transaction costs) was about 6.9%.

While Hutchison Whampoa remains a solid company I wish to include in the portfolio, the equity put option I wrote on 21 October has a strike price of $58.75. Given where the market is now, it is highly likely that the option will be exercised against me at the end of the month leaving me seriously overweight in one share.

Friday, November 06, 2009

Another arguement against democracy

While few people would describe Forbes magazine as the most politically neutral of publications, this article on interstate migration away from high tax states to lower tax states highlights one of the consequences of excessive government spending leading to ever higher taxes leading to disincentives to immigrate, disincentives to invest and incentives to exit the high tax regime as and when you can. When the civil servants decide to blow the taxpayers' contributions on themselves, it only makes a bad situation worse.

I have to wonder what US national emigration figures would look like if the US stopped the draconian practice of taxing its non-resident citizens.

The situation is bad enough in Hong Kong where the civil servants are demanding a 2% pay raise - compared to current average increases in the private sector of 0.6%. Given that the civil servants already earn substantially more than equivalent private sector employees, work less hours and have practically no risk of being laid off this is outrageous. I hate to think what would happen if we had full democracy and the politicians started to pander to the majority of the population who are net takers from the taxpayers' contributions.

Thursday, November 05, 2009

Behavioural finance resource

I came across this site on behavioural finance while checking out the Bogleheads forum. A lot of useful references and materials on behavioural finance terms - including several that I had not heard of before.

I can see some constructive web-surfing time being spent there.

Monday, November 02, 2009

Book Review: How Much Is Enough?

With my retirement about four years away (famous last words) "How Much Is Enough?" seemed like a suitable personal finance book to add to my reading list. The question is of fundamental importance to all prospective retirees. One of the two authors (Arun Abey) is well known in the Australian financial planning industry as a co-founder of IPAC Securities (now part of AXA). The other co-author has previously written and published other books on investing.

One of the fundamental problems with this book is that it attempts to cover a lot of topics in a short book. Almost none of the topics get the level of detail necessary and, in most cases, come accross as shallow and incomplete summaries.

On the whole I found the book to be disappointing.

A number of important topics were covered, including personal well being and not losing sight of the importance happiness as a goal, educating children on money, giving back, the importance of thinking longer term and avoiding being either overly conservative or overly aggressive with investments. However, the coverage of most of these topics was generally shallow - most readers would need more depth in order to derive full benefit from the points raised.

A selection of the issues I had with the materials presented:

1. the emphasis on shares: I was left with the impression that a portfolio invested entirely in shares was the only suitable form of investment. Given that the book was written with a predominantly Australian audience in mind, even this coverage was deficient in that the tax advantages (franking credits, capital gains taxes) were not mentioned. On the positive side, short term trading was properly condemned;

2.there was no mention of a balanced portfolio and no mention of the use of low cost index funds - the importance of keeping costs low;

3. diversification was explained in terms of holding a diversified portfolio of shares, not a diversified portfolio of assets;

4. real estate: a number of reasons why real estate was a bad investment were set out. While I would agree that shares are probably a better investment vehicle for most people and I liked the debunking of some real estate myths, the coverage was biased because none of the benefits of investing in real estate were included;

5. the roles of life insurance, medical insurance etc were not covered in any detail;

6. a whole chapter devoted to the need to have a personal finance adviser and how to select one. I had issues with the message that even people who know what they are doing should pay for a financial adviser;

7. most critically of all: the authors did not answer the question posed in the book's title!

On the whole, I did not find this book worthwhile reading. The good points did not come close to compensating for the deficiencies.

Not recommended.