Tea with Solace: Getting Ready For Investment. (Part One)

This is Part One of a blog post by a reader, Solace, who recommended a book, "The Little Book That Beats The Market" here in ASSI not too long ago. 

All copies of the book were sold out within a day, I remember. I just checked and a few copies have become available again at US$6.48 each. For anyone who missed out the last time, check it out: The Little Book That Beats The Market.

Cheap Ferrero Rocher!

I can identify with many things that Solace is sharing here including his love for chocolates! I also buy them when they are available at a discount and never at full prices! Apart from this, in investment, I also use a combination of fundamental analysis and technical analysis just like him.

All of us can learn or be reminded of things important about personal finance and investment in this guest blog post. Read on:

Solace says:
I embarked on my journey of investing when I was in my mid-twenties, fresh out from the university.

My objectives in investing are to:

1) Generate a return that can beat inflation

2) Create an income stream through long term stock investing

First, however, I had to get my backyard in order. What do I mean by this?




Emergency Funds

In life, we should expect the unexpected. We could lose our job or become seriously ill, for examples. This is why we need an emergency fund.

Emergency funds should be highly liquid. This allows quick access to funds, which is vital in emergencies. A saving account with any bank would do.

I believe one has to set aside at least 6 months' worth of emergency funds. Some may even set aside 12 to 18 months' worth depending on their situations. If we have children, liabilities or debts, we would have to set aside more, for examples.

I do not recommend that we invest with money that we cannot afford to lose. Such money should stay in the emergency funds. The volatility of the stock market could cause us to lose money leaving us in a fix when we need the money for urgently.




Managing Personal Finance

I believe how rich we are depends on how much we can save at end of each month. In my opinion, managing personal finance comes first before investing.

I always aim to save between 40% - 50% of my take home pay every month. Majority of what I save will go into my investment funds. From there, I can build up my investment fund over time. We should watch our expenses and save as much as possible.

Very often we can make changes to our lifestyles to save more money. For example, I switched from drinking Starbucks coffee to making my own coffee at home. I love chocolates and candies but I only buy them when they are selling at a discount. One can still enjoy life and be happy without excessive spending.

Car ownership is expensive in Singapore. We should avoid owning one unless we really need it.

By staying away from smoking, excessive drinking and gambling, we are also giving our savings a big boost.





Insurance

Having adequate insurance is important. There are basically three main types of life insurance policies. They are Term Insurance, Endowment Insurance and Whole Life Insurance. One has to know the differences and decide which type is suitable.

Do take a look at the effect of deduction and distribution costs when evaluating a policy. Very often the deduction can be very high!

For me, I prefer Term Insurance. I do not like to mix investment and insurance. Term Insurance premiums are not as high and it does the job of providing insurance protection. With the lower premiums compared to Endowment or Whole Life Insurance, I can have more savings which means I have more money to invest for better returns.

I would like to point out that for young people who have just started working, they might not have so much money. Term Insurance is a viable option, but very often insurance agents/financial advisers will not mention this.

Read Part Two: here.

Tea with Matthew Seah: Dollar Cost Averaging and expected returns.

Although many have asked questions on which investment account is better, no one has asked about the expected returns from opening these accounts.

I feel that knowing the expected returns is as important as educating readers on the pros and cons of opening an investment account with POSB/OCBC/POEMS.

Thus, I have created a spreadsheet for readers to use:

https://docs.google.com/spreadsheet/ccc?key=0AtcoupwJgDW_dG1FRDRTSmtEcU9JcEliZzFwRFJqa1E






Below are the assumptions made in creating the spread-sheet:

1. Investing commenced since inception of STI ETF (ES3).

2. Investing is done on the last trading day of each month at closing price.

3. Fees are charged according to non-promotional rates as stated in the FAQs.

4. Fees are charged on investment capital used in buying the shares.

5. Dividends are recorded on 'Record Date.' 

(A fee is charged on the dividend received using POEMS ShareBuilder Plan, thus the dividend received is lower compared to the banks’ accounts.)





Why use STI ETF?

STI ETF has been around for a longer time (11 April 2002 - amended-) than Nikko AM STI ETF (24 Feb 2009). 

At inception on STI ETF, STI at 3344.53 was nearer to the all-time high of 3889.68 than STI’s value at Nikko’s inception date. 

Thus, STI ETF will give a lower and more conservative long-term return as investing starts near the peak as compared to investing in Nikko which started near the bottom of the recession.

Why last trading day of the month?

I don’t think there is much difference over the long-run with regard to the day in which to invest. 

Last trading day is just my preference.

Fees as charged?

Dividends are recorded on the Record Date as that is the date when your shareholding is confirmed by the manager. 

Since my purchases are at the close price, when the Record Date coincides with my purchase date, the dividends received are based on the pre-purchase number of shares.

I used Internal rate of return (XIRR function), which gives a more holistic measure of the true annual return as opposed to Compounded Annual Growth Rate (CAGR), which does not account for capital injection after the initial investment.





What you need to do is input your desired monthly investment amount and you will be able to see the total return and XIRR since 10 Jan 2008. 

On top of that, you can also compare the returns across the 3 different regular investment plans by looking at the "Overview" section of the first worksheet.

As mentoned, 10 Jan 2008 is near the all-time high for STI, so the simulation can show how the investment plan would perform when u buy near the peak of the bull cycle. 

Since we are near the 2007 peak, we can justify that the performance shown is close to what one would get for an entire economic cycle of bull and bear (similar to the peak-to-peak or trough-to-trough of a wave signifying one full cycle of the wave).





I feel that this is as close as we can get to determine the potential of the investment plans through an entire economic cycle (though the current bull market has yet to become a full fletched bear).

Please note that past performance DOES NOT guarantee future results.






Related post:
Tea with Matthew Seah: POSB Invest-Saver Account.