Sunday, November 30, 2008

Dividends for the Month of November and the meaning of investment

Collected a small sum of dividends for November:

$326.40 from First REITs
$28.54 from Suntec REITs

Yup, that is all I am reporting for my dividends for the month of November. For December, I will probably be making some small investments into the stock market again. Both to increase my passive income as well as to buy stocks that are currently undervalued.

Just some thought about investments. Nothing educational really. Perhaps more philosophical.

What is investment really about? If someone (e.g. a layman without much knowledge about investment) was to ask me that question, I think my reply would go something along this line:

Investment is basically just delayed gratification. If I have $50,000 in cold hard cash today, I could buy a car straightaway. On the other hand, I can choose to delay this gratification, invest the money, and hope to earn some returns from it that would justify the length of delay in my gratification.

For example, I could take this $50,000 today and buy a normal 1.6L Mitsubishi Lancer (no sports rim, etc). So if somebody asks me to delay my gratification say for 1 year, I will have to ask myself.... "If I can only buy a car one year later, what do I expect?"

Some might expect the exact same car model perhaps with sports rim. Some might say... "Huh??? You want me delay one year?? Then I will have to rely on public transport for one whole year... no way!! If you want me to delay by one year, I want a BMW 3 series..

This then defines the "reward" that the person is looking for in turn for the delay in their gratification. The person who only wants the additional sports rim is looking for a smaller reward versus the one who wants the BMW 3 series.

As reward is tied to risk... I could then tell the first person to simply put the $50,000 into a bank deposit account that gives 1-2% interest per annum and assuming that there is no inflation for the year and prices remain the same... he could easily afford the exact same model of car he wants with sports rim. This is basically a low risk investment.

For the other person who is expecting a BMW 3 series, I would tell him to invest it in the stock market now.. only problem is that there is no way I can guarantee that in 1 year's time, his $50,000 will turn to $150,000. Instead of becoming $150,000 , it might become $10,000 or worse still...nothing.

On hearing this, he might have to fine tune the reward that he expects based on the risk level that he is able to accept. Basically, the higher the reward from the investment, the higher the risk.

3 comments:

  1. Hi bk,

    I think what your post is referring to is essentially "opportunity cost". It's what we can do with our money given choices, as you have mentioned in your post giving examples of either investing the money or using it to buy a car immediately. Suffice to say I know friends who would choose to buy a car NOW (instant gratification) while there are others who would prefer to cautiously invest in the market hoping to generate higher returns (delayed gratification). This choice is made all the more important by the fact that valuations are very low now and shares are considered "cheap".

    I believe higher risk is not always commensurate with higher rewards. The problem is how "risk" is defined in the mainstream media. Risk usually refers to the volatility of asset prices and people are assessed as "low risk" because markets are crashing all around us. My point is that risk is CONTEXTUAL, meaning the context of the situation will change our perceptions of risk and reward. Just ask someone in July 2007 if he was low-risk or high-risk and most likely you would get a reply between "medium to high" as the market continued making new highs.

    Thus, risk as we know it should be defined by the probabiliy of losing our money in an investment, rather than volatility of by subjecting it to contextual references. We can reduce our risk in investing by properly understanding the value of the asset in which we intend to invest in, thereby reducing our risk of permanent loss of capital and enhancing our potential returns. In this sense, we are taking "lower" risk while ensuring "decent" returns. What is needed for this to work are: a proper framework on how to assess value in a company, and a time horizon of not shorter than 5 years. Thus far, I have only been value investing for 2 years+, so this advice is largely still theoretical (I have nothing to show for it). However, I believe it is the best way to go about achieving sustainable long-term returns.

    Hope this does not sound like rambling ! I tend to go on and on, haha.

    Cheers,
    Musicwhiz

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  2. Yes. I agree with you.

    Actually i started this as a more philosophical question. To further my chain of thought..here goes below (this is not a reply to ur comment, just me thinking out loud and u can read on for fun )

    I was just thinking to myself.. if I have $50,000 today in cold hard cash, what would I do with it? And come to think about it, what I do with that amount of money really boils down to my thoughts about money as well as life.

    Like they say, if you offer me a massage today versus two massages next week, which offer should I take?

    If I have $50,000 today versus $100,000 ten years down the road, which offer should I take? Which offer I take actually depends on what I hope to do with the $$ today versus the $$ ten years down the road.

    Let's say all I want is actually a car.. $50,000 today can get me a car. $100,000 ten years down the road can also get me a car (maybe a better looking car)

    But is the 10 year wait worth it?
    Will I be alive in 10 years time?

    Apply this to all other scenarios amounting from $1 to tens of thousands and u realise that life can be quite philosophical at times.

    Should I eat a good meal today or save it, invest it so that I can eat 10 normal meals in 10 years time?

    Hmmm..my thoughts are really not well defined..but just thinking out loud on what delayed gratification means, what I hope to achieve out of my investments, the kind of rewards I am looking for in my investments to forgo the gratification I can satisfy TODAY, and also whether the corresponding risk is worthwhile.

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  3. Continued from my earlier comment..

    Well the whole point of me going thru this thought process is that I do not want to invest blindly (without knowing what are the returns I am looking for)

    What if at the end of 10 years, $50,000 turns to $80,000 instead of the $100,000. Will I be upset that I should have spent the $50,000 ten years ago?

    Or what if I was investing blindly without any idea of the returns I was looking for and at the end of 10 years, I get $100,000 BUT i realised that $100,000 can't really get me anything that I want then.. Would I regret that I did not just spend the money 10 years earlier?

    I will continue my boring think aloud session if u allow me to..

    If u ask me, $50,000 can buy me a brand new car (maybe a honda jazz) for my wife today. (of course not to mention the painful monthly petrol,etc)

    If a financial consultant asks me to invest that money for ten years, I would want more than a brand new car. I think I will want 2 x brand new cars (maybe mercedes/bmw 3 series). Yes..I am so unrealistic..So in this case, it might be better for me to spend my money now..

    The problem with me as a human being is that it is hard to deny my gratification. We as humans always want things TODAY. We cannot wait. If I applied this kind of thinking to all my spending, I might end up spending all my money without any savings.

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