The first half of 2018 is coming to a close, and it is that time of the year again; yes, Bob will be rebalancing on 29 June 2018, the last trading day before the start of the second half, with an additional injection of $5,000.
I had mentioned that Bob may consider investing in some individual company securities, but had yet identified any to invest in, so he will be going along with his original ETF strategy. The $5,000, plus any dividends collected, will be split among the asset classes.
So watch out for Bob’s portfolio status here in July!
In my ebook The Bedokian Portfolio, I did not cover much on financial statements except for a brief description of the income statement, the balance sheet and the cash flow statement1. Short of reading up accounting and financial textbooks, it is not easy to explain the nooks and crannies of these statements in a simplistic form.
Fortunately, I have identified a couple of books that are light for reading (and light for your brain, too) in understanding some of, if not almost, the whole gist of things. Each of these books could be read over a lazy weekend and after reading them, I believe they will provide some form of enlightenment in understanding the financial statements.
Warren Buffett and The Interpretation of Financial Statements (ISBN 978-1-84983-319-6)
Co-authored by Mary Buffett and David Clark, their aim is to provide “a straightforward and easy-to-understand book that would teach investors how to read a company’s financial statement”2. It also emphasizes on the search for companies with a durable competitive advantage, something that Warren Buffett, considered one of the greatest value investors of our time, would look for.
Buffett (Mary) and Clark introduced each line item in the financial statements in bite-sized chapters, and will disclose Warren Buffett’s strategies and viewpoints in some of them.
Buy Low, Sell High, The Simplicity of Business Finance (ISBN 978-0-9969433-7-6)
Written by Dr. Philip Young, a consultant and former MBA professor, this book is originally meant for people with non-financial background to understand business finance better. However, this book is suitable for investors as well, as he has stated, “understanding business finance is a critical part of being an educated investor”3, something which I agree wholeheartedly.
Young explained the financial statements in a simple manner, using examples and figures. He also touched on some financial ratios and the time value of money. To top it off, at the end of each chapter he gave diagnostic questions as a form of learning check.
I hope the above would give you a jump-start in knowing and understanding financial statements more. For the already trained, take them as a light refresher read.
1 – The Bedokian Portfolio, p86
2 – Buffett, Mary & Clark, David. Warren Buffett and The Interpretation of Financial Statements (2011). Simon and Schuster U.K. pxvii
3 – Young, Philip. Buy Low, Sell High, The Simplicity of Business Finance (2017). LID Publishing. p3
I had mentioned about property briefly in my ebook1, which I stated that it should not be in The Bedokian Portfolio due to its huge capital outlay. One of my acquaintances suggested that I relook into this. Let us look at physical property as an asset class.
Unlike equities and bonds, properties are real and physical assets, meaning you can see it and touch it. The main argument for properties over the other financial instruments is that it will never go down to zero value (end-of-lease assumptions aside). Even if a house is demolished, the land that it once sat on is still worth something.
Passive Income from Rental
The main income stream generated from an investment property is rental. Be it a residential or commercial property, there will be people who would prefer to rent rather than to outright buy it for their stay or business needs.
Like equities, properties benefit from capital appreciation, in which their values may rise with time. You may have heard of properties appreciating many times more than its original value over the course of years, beating inflation along the way. And to top it all off, the prospect of an enbloc would make a property owner potentially rich.
Sounds great? It is. However, for The Bedokian Portfolio, I would still not recommend properties to be inside. Here are the reasons:
Longer Time To Buy or Sell
Unlike REITs, where you could just buy or sell it off with a touch of a button through the financial market, for a physical property it takes weeks, months or even years to purchase or sell it. When a property is transacted, it will have to go through a conveyance process that may last for weeks, not to mention some time used for meeting the agents, lawyers and the other transacting party.
When the rental market is down, there might be a chance where your property is not rented out, and cashflow is affected. If the mortgage loan payment is dependent on the rental income, you may have to dig into your other funds or investments to cover. Even if it is rented out in a down market, the rental may not cover the loan payment fully.
Lopsided Effect on The Bedokian Portfolio
The Bedokian Portfolio is modelled as a liquid, income generating and non-leveraged portfolio. By introducing physical property into The Bedokian Portfolio, it will create a lopsided effect in which the income stream could be disrupted to deal with the cashflow risk as described in the previous paragraph. Also, it is impractical and pound-foolish to conduct valuation on physical property just to get the value for rebalancing purposes.
So does that mean physical property is not a suitable investment?
Not really. Just take it out of The Bedokian Portfolio and treat it separately. In fact, physical property, other investments that are not suitable for The Bedokian Portfolio, and The Bedokian Portfolio itself, could be combined together to form the “portfolio multiverse”, a concept which I am working on at the moment.
1 – The Bedokian Portfolio p13