Sunday, September 15, 2019

The Bedokian’s Investment Philosophy: The 100th Blog Post Special

What is an investment philosophy? Essentially it is like a personal set of doctrines, strategies and methodologies on investment matters.

Everyone’s investment philosophy are unique, though some may just be a total replicate of others’, especially those of famous investors and traders. For mine it is a mixed bag from different sources, cobbled up during the period of 2013 – 2014 when I transitioned my portfolio into the first draft of the current form.

Since this is my 100th post in The Bedokian Portfolio blog, I will share some of my investment philosophy with you and I hope you can have some takeaways from here.

#1: Diversification & Rebalancing

The word “diversification” has been quoted countless times in my ebook, blog and conversations on investment. It is the underlying premise of my portfolio construction. 

Following Markowitz’s groundbreaking Modern Portfolio Theory, I can (more or less) set my preferred returns/risk balance by having a diversified portfolio. Diversification must start at a level where the various financial instruments have different correlation with one another, and there is no higher degree where the correlation can be affected. This means we look first at diversification on the asset class level, which is the highest, and then move downwards by region/country, sector and finally, company.

So why is diversification important? It is to manage risk, the other R-word that most investors do not pay much attention to, as compared to “returns”. The future is unknown, therefore we do not know what is coming next and that is the main risk. Having a diversified portfolio will, to a large extent, protect you from these unknowns, at the cost of lesser returns that I am willing to accept.

Rebalancing goes hand in hand with diversification, for it is the act of bringing the portfolio back to its original weightages periodically, or when the opportunity arises. The former is suitable for passive Bedokian Portfolio investors while the latter is good for active ones; either way, both are good.

#2: No Leverage

Leverage is the use of loans and borrowed funds, with accompanying interest costs, to further boost an investment portfolio size and net returns. This sounds good, but the flip side is if returns go negative, you will need to cover those borrowed funds, more so if the borrower imposes margin calls. Hence for our Bedokian Portfolio, I do not use leverage for the securities, just available cash and funds.

There are some who will beg to differ with me, stating that leveraging can be managed and the risks mitigated. I agree to this, if you know what you are doing. However, as mentioned in the previous section, the future is unknown and that is where the risks are. 

For the past year or so, we have seen the high volatility of the markets due to the trade situations. If you are not leveraged, you only need to worry about the markets, but if you are, you have another worry which is to manage your borrowed funds. This can be intimidating even to a seasoned investor, let alone an investment newbie.

No leverage.

#3: Investment Horizon Of At Least 10 Years

The investment timeframe of The Bedokian Portfolio should be at least 10 years. Unlike trading, whose timeframe can be just minutes, hours, days, weeks or months, investing takes a slower, accumulative path to wealth building. Sure, both investing and trading have profits or returns in mind, but while trading takes in smaller profits, investing is to gain larger returns through the use of time and the accompanying power of compounding.

An initial S$10,000 investment, with a 5% annual growth rate, will compound to about S$16,288 after 10 years. However, you do not just put in S$10,000 initially; you will want to add on periodically and see the amount grow even more. If you add S$1,000 annually into the equation above (at the beginning of each year), the S$10,000 will grow to around S$29,500 (before inflation). It is simple math, really, but Einstein reportedly quoted compounding as the “8th wonder of the world”.

Let us stretch compounding further to 15 and 20 years, using the same S$10,000 initial amount and the S$1,000 annual contribution setting. You get the end result of about S$43,500 for the 15-year and S$61,250 for the 20-year periods (before inflation).

While I acknowledge that there are boom and bust years, time will eventually smooth these bumps into a gradual upslope ride. Using US market statistics and place them in the balanced Bedokian Portfolio allocation (35% equities, 35% REITs, 20% bonds, 5% commodities and 5% cash) for the period of 1994 to 2018, a 25-year time span, the average 10-year rolling returns averaged at 8.26%. Even an all-equities portfolio in the same period got an average 10-year rolling returns of 6.97%, after going through the dot com bust in early 2000s and the Great Financial Crisis of 2008 – 20091.

#4: Different Investing Styles Can Work With One Another

The different styles of investing, such as dividend, index, value, growth, etc. actually come from different investment philosophies, and can be seen as mutually exclusive. If you had read my blog posts, however, I tend to adopt a mix of dividend, index, value and growth together. Instead of viewing them as mutually exclusive styles, I believe that they can complement with one another.

For example, dividend investing looks at the dividend yield, but I can also apply the principles of value investing in selecting a cheap company that gives good yields, too. Or I can use index ETFs to capitalise on growth sectors that I see as long-term trends.

Still, I must not forget The Bedokian Portfolio’s original mantra, and that is “passive income through dividend and index investing”. No doubt that I can use a myriad of investing styles for my portfolio, I must not deviate from the fact that the underlying style is that of dividend and index, with value and growth providing a secondary or minor add on to our Bedokian Portfolio.

For compounding and passive income purposes, dividend investing resonates well as they represent the actual realised returns of your portfolio, i.e. cash in hand. It also has the concept of percentage yield, which can be easily calculated, compared and possibly projected based on past numbers, to better manage your cash flow. If investing in individual securities proved too daunting, there is also the choice of using index ETFs to get market returns and yields, suitable for passive Bedokian Portfolio investors. Both dividend and index investing can be combined into a core-satellite approachin your Bedokian Portfolio.

1 – Portfolio Visualizer. Selected asset class used: Equities (US Stock Market); REITs (REITs); Bonds (Total US Bond Market); Commodities (Gold); Cash (Cash). Full results in this link

2 – The Bedokian Portfolio, p122-123

No comments:

Post a Comment