In the video above, Jack Ma of Alibaba reminded audience there is no one in the world who become rich by speculating in the stock market. Only people who invest can become rich. He emphasized that investing and speculating are totally two different and opposite things.
What is investing, and what is speculating?
“An investment operation is one which, upon thorough analysis, promises safety of principal and a satisfactory return. Operations not meeting these requirements are speculative.” Benjamin Graham
I would go further to say that if one speculates in the stock market, with “dynamite investing”, “sailang” blindly, whatever “panic moment”, “seX-factor”, fuzzy “business sense”, blah blah blah, tempting you the possibility of driving Rolls Roy, he is guaranteed to lose money, or even bankrupt, or jumping from the tall building.
That was also confirmed by many of my friends. All of them had lost money. Most of them had lost so much that they just refused to talk about the stock market any more. Most of them know many of their friends and relatives who had lost a lot of money speculating in the stock market. None of them know anyone who had become rich speculating in the stock market.
Yet, many of you still want to speculate in the stock market with the hope of getting rich fast. It is natural. it is human. Since you are reading this article, or other articles and all the hoo-hahs in this i3investor, you must be hoping to get rich quick from the stock market too.
But let me tell you there is no big frog jumping everywhere in the stock market, or there ain’t no tooth fairy in the stock market.
Just figure this. The stock market in Malaysia is made up of about 70% institutional investors, with the rest made up of innocent retail investors and big crocodiles such as syndicates and stock market manipulators. Where do you stand speculating in this zero-sum game?
“'If you've been playing poker for half an hour and you still don't know who the patsy is, you're the patsy.' Warren Buffett.
Instead, I am suggesting to you that if you wish to build wealth in the stock market, you should think about building it up safely, steadily and surely. This, instead of thinking about getting rich quick speculating for fast bucks, you should first think of how to avoid losing big.
Why is avoiding losing big important?
The long-term return of the stock market is about 10% historically. Let say you just have RM100000 to speculate in the market and you follow some calls from others to buy a few hot stocks and you lose 50%, or RM50000. Following the rule of 72, you will require 7 years making a compounding annual return (CAR) of 10%, just to get back to where you were 7 years ago. To get back on track to gain 10% CAR 10 years later, you need to earn 18% for the next 10 years. Is that easy to earn 18% CAR for a period of 10 years, speculating? How many 10-years does one has?
What are some of the things to look for to minimize or avoid losing big?
Let us look at some of the hot Bursa stocks which some people in i3 forums asked me about four years ago when I posted a few threads on value investing. The outcome of return speculating on them since then is tabulated as shown in Table 1 in the Appendix.
The portfolio of nine stocks lost an average of 54% over the four years’ period, while the broad market has gone up by about 15% during the same period, or a negative alpha of 69%. Eight out of the nine stocks made negative return, many in high negative returns. The only positive return stock at 11.8% under-performed the return of market of 14.7%.
What went wrong? Speculation it was.
Speculation was heavily involved in purchasing those stocks without thorough analysis, the very essence of investing.
It was highly speculated that Hibiscus would strike oil big just because it has acquired a stake in a drilling company with top-notched technology, and when they were given some licenses to explore oil in some countries. Its share price would jump with rumours that the drilling machine would reach the destination, and when it would start drilling, as if oil would ooze out as soon as the drill rig is lowered. Hibiscus share price was chased up to RM2.70 three and a half years ago. Obviously, nothing happened and its share price has dropped to as low as 14 sen early 2016, and finally closed at 43 sen on 5th July 2017. Speculators had lost a whopping 77%.
Punters were also speculating that Smartag, with their political connection then, the Royal Customs Department would give them the ultra-lucrative contracts of RFID tracking the containers which eventually fell through. Similarly, punters in AsiaMedia were speculating that it would make huge profit advertising in trains in KTM, LRT, buses etc. which obviously did not materialize.
Institutional investors, foreign and local managed funds, including EPF, as well as retail investors were speculating that grabbing big jobs and making acquisitions all over the world, with huge borrowings, would transform KNM into a giant money-making machine in the 1990s. Its share price went up to RM10 apiece! On 5th July 2017, about 10 years later, its share price closed at 26 sen, almost a total loss!
MP Corp is another company which investors speculated that the management would sell their land and building, and distribute the cash to them. But it was just speculation and fat hope.
Guan Chong Berhad, GCB, as a company, has been speculating in coco forward and futures and foreign exchange future, big time, instead of focussing on the core business. It made big gain when the movements were in their favour and hence big rise in share price, but lost big too when they were not. Of course, punters were also speculating that its share price would go up to sky. Unfortunately, it didn’t happen too.
What if you are an investor, as opposed to a speculator? Would you able to avoid investing in all these lemons when someone touted them to you?
Definitely. With an investor mindset, you would had carried out a thorough analysis before buying into those stocks
With thorough analysis, one would know the earnings of GCB, KNM, Ivory Property, London Biscuits were illusion without real cash and free cash flows. They were just IOUs, inventories, and plant and equipment which went outdated and mostly written off. He would realize that the high growth of these companies was huge shareholder value destroyers with very low return on capitals against their costs.
A true investor would not be deceived by the low Price-to-earnings ratios (PE) of KNM, London Biscuits, Ivory, as the “E” in the ratio is an accounting illusion. Other companies simply had no earnings to talk about.
With thorough analysis, an investor would see that although KNM, London Biscuits have high net asset value, the assets, with mostly in intangibles, receivables, inventories, plant and equipment are of little value. He would be alarmed by the high debts, which continued to go up, of most of these companies are into, increase their bankruptcy risks. Accordingly, he would not be enticed by the low price-to-book value of the shares.
With thorough analysis, as an investor would do, one would be alarmed by China Stationery Limited (and all other red chip companies), that their earnings and cash holding were just castles in the air, with such small and unproportionable interest income.
It is always not easy to predict if a company would do well in the future and that its share price would rise. However, it is much easy to see if a company is likely not to do well. The evidences are all over in their annual reports and financial statements, and the actions of its management. Avoiding these lemons, which there are many of them in Bursa besides what I have described here, would enhance one’s investment returns to build long-term wealth.
But how do we know what to look for to avoid the lemons?
That is precisely what I have been doing; to teach you the language of business, and to provide some analysis of stocks for you to decide to invest for building long-term wealth, for an affordable fee.
With the understanding of the language of business, you would be able to eliminate the lemons in your investing, and it is guaranteed that your investment outcome will be favourable.
It is easy. it is simple. All one needs to know is addition, subtraction, multiplication and division. You will learn it in a structured manner. More important is one must have a proper mind set in investing, and believe that fundamental investing works, which I will be trying to cultivate into you too.
No more being a patsy in the poker game! You will build long-term wealth safely, slowly, but surely. Learn how to fish while given some good fish to eat.
If you are interested to have more dependable result in your investment in the stock market, you may contact me in the link below:
“You don’t have to pee on an electric fence to learn not to do it.” - Charlie Munger
Table 1: Return of Lemon as at 5th July 2017