Questions are one thing we receive a lot at The Fifth Person and many of them, I’m sure, relate to real-life concerns that investors have. When answering these questions over the last 12 months, I found that a number of them were repeated regularly. So I decided to compile and answer the most frequently asked questions for this article. I do believe that these questions (and the answers) will give you more insight in helping you make better investment decisions for yourself.
Before we proceed, I just like to highlight that my answers shouldn’t be construed as investment advice to buy, sell or take a position in any shares, securities or other instruments. I’m simply sharing what I know from my personal experience.
With that, here are the eight most frequently asked questions investors have asked me – and my answers to them. Happy 2017!
1. How do I look for investment ideas?
There are two places where I usually look for investment ideas. The first one is the stock screener. I usually screen for companies based on two criteria – return on equity (ROE) and debt to equity ratio. ROE measures the amount of profit a company can generate for every dollar of equity; I look for at an ROE of 10% or more. The debt to equity ratio measures the amount of debt a company has versus its equity; I look for a ratio of 0.5 or below. I prefer companies to be slightly more conservative and have low debt. After you screen these two criteria, you will probably have a list of 100+ companies you can filter further down.
The other place I look for ideas is the news. Personally, I read the newspaper every day; you will definitely come across some companies that will pique your interest. It is worth the time to simply Google the company and start analyzing from there. I also read business/investment magazines like The Edge or Forbes.
I have a habit of Googling “Asia’s 200 Best Under a Billion Forbes” every year; you will be surprised by how many good investment ideas can be found just by looking at the list.
2. If we are starting small with $5,000, how should we allocate the capital in my portfolio? Should I invest all my money in a single stock?
I am a conservative investor and I only started investing after I saved $15,000. The reason is because I want to spread my risk and diversify my portfolio across five stocks at least. With $15,000, I am able to invest in five different companies equally at $3,000 each. The average brokerage fee in Singapore is around $25 per trade, which means the fees will account for around 1% of the $3,000 I invest for each company. The key is to keep brokerage fees below 1% of the amount invested.
3. With a portfolio of few winners and many losers, how should I turn my portfolio around?
Cutting your losses is definitely one of the most painful decisions an investor has to make from time to time — but it is essential if you want to turn your portfolio around. There is no point holding onto a stock that’s fundamentally beat. If you continue to hold on, a bad stock will only help you to compound your losses, not to mention the opportunity cost.
The first step to turning your portfolio around is to reexamine all the companies you’ve invested in. Ask yourself: Is the investment thesis for this company still valid? If it is, you can decide to stay invested. If not, you probably should cut your losses and move on. Instead of staying stuck, you can reinvest that capital in a good company with better fundamentals that is currently undervalued. Doing so will increase your chances of potentially making back what you lost and compounding your future gains.
4. How can retail investors manage foreign exchange risk when investing overseas?
Foreign exchange volatility does have an impact on your stock returns especially when the foreign currency depreciates a lot in value. To manage foreign exchange risk when investing overseas, the first thing you can do is to diversify into different countries equally. For instance, out of the total portfolio, you invest 20% equally in Singapore, Malaysia, Thailand, Hong Kong and the United States. The second thing you can do is to invest in countries with currencies that have a track record, over the last 10 years, of being stable relative to your home currency.
5. Will REITs be affected if there’s an interest rate hike?
An increase in interest rates will definitely affect REITs that have floating interest rate loans. Fixed loans usually charge a higher interest than floating loans due to their predictability.
When interest rates increase, REITs with a large proportion of floating loans will need to refinance their loans at a higher interest rate — which may affect their earnings and dividends. REITs with a larger proportion of fixed loan will be less affected since they already pay a higher steady interest rate.
6. I have a lump sum of money right now and I just started learning to invest. Where can I invest the money?
Investing is a game of patience. Having a sizeable cash hoard is great because you’re in a good position to take advantage of opportunities when they arise. However, being too eager to deploy your money will only lead you to make more mistakes when investing. If you are just starting out, it’s important to learn more about investing and discover how to identify good companies that are selling at an undervalued price. Only invest your money when a good opportunity presents itself. If not, it is better to leave your money in the bank.
7. Should I choose a cash payout or a distribution reinvestment plan (DRIP) for REITs?
Choosing between receiving your distribution in cash or reinvesting it via a DRIP depends highly on the REIT’s current valuation. If the REIT is undervalued, I will go with the DIRP. If it is overvalued, I will take the cash payout. (Of course, this applies to any asset, not just REITs.) That money can be invested in companies that are currently undervalued to generate better returns.
8. What do you think of investing in the index?
Investing your money in the index is what I call the “lazy man’s way of investing”. And there’s nothing wrong with that! Investing in an index like the STI or the S&P 500 is a good strategy if you don’t have the time or the interest to analyze individual stocks. So instead of picking and investing in individual stocks, you simply buy the entire basket of stocks listed on the index. The easiest way to do buy the index is through an exchange traded fund (ETF).
The key to investing in the index is its valuation. For instance, the S&P 500 is currently trading at around 26 times earnings which is expensive by historical measures. I personally wouldn’t invest in the S&P 500 right now. Instead, it makes more sense to invest in an index when it is undervalued. For example, Hong Kong’s Hang Seng index is trading around 11 times earnings, which is below its historical average.
So remember to examine the index’s current P/E (or other valuation metrics) and invest only when it is undervalued. It’s also important to spread your funds equally among different countries and never invest only in a single index to diversify your risk.