Cream of the Crop 11/Cream of the Crop 11-1.iso/faq/investjn.zip/JDEC2995

Text File | 1995-12-30 | 12KB | 230 lines

                      A Private Investor's Journal
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                      Notice, Notice, Notice

Before I begin, I should say the usual cautionary words, to notify
you, the reader, that while I have passed my CSC course (with honours,
if I could boast), and while I have a professional accounting
designation (... any CMAs reading this?.. acknowledge with an e-mail),
and while I have invested in the market for more years than I would
like to say, nevertheless, I AM NOT AN INVESTMENT ADVISOR, and
therefore, read this at your own risk, and please do consult your
personal investment advisor before acting on any of the strategies
that may be found in this article. This article was written for the
OSIS BBS investment club (BBS: 416-266-7005), and is an example of
some of the discussions club members do, in pooling knowledge and
helping each other learn more on how to invest knowledgeably, and to
manage money successfully towards early financial independence. Of
course we will be delighted if you are interested in joining the
investment club. Just call the BBS for details.

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It is a great tool for success if you keep an investment journal to
write down your reasons and feelings towards arriving at a decision on
a trade. A journal will allow you to look back on your market
decisions and thereafter, with perfect hindsight, see if there are
lessons that can perhaps be learnt to help you raise your percentage
of profitable trades.

Yesterday, December 28 1995, I switched out of the 20/20 Aggressive
fund to the 20/20 International fund. My journal on why I decided to
sell the 20/20 Aggressive fund, reads as follows:

" This is an extremely volatile fund. It's gone up by 40% since
the beginning of 1995, however, I've seen some days lately where the
unit price can drop by as much as 68 cents (about 4%) in just one
day."

"US stocks have had a spectacular year in 1995 rising by about 33%,
and the high-tech stocks did even better. I think it is time to take
profit. I was lucky to have bought this fund at around $11 after
attending the fund manager's presentation at the February 1995
Financial Forum. I thought then that after a bad 1994 year, this fund
should do well in 1995. And it did. Thanks mostly to the 65% of
high-tech holding by the fund."

"The conventional wisdom on mutual funds is to buy and hold for many
years. Mutual fund companies tend to show illustrations over a time
frame of 20 to 30 years (ever wonder why mutual fund use 20 to 30
years investment horizon for comparing returns?) that eventually,
stocks will do better than fixed income instruments. However, at times
I wonder about such conventional wisdom. And whether it would apply to
a fund such as 20/20 Aggressive where over 65% of the portfolio is in
high-tech stocks. Even if its holding in high-tech stocks was lower, I
wonder if it will continue as a profitable strategy by holding on to
the fund when it has gone up by 40% in one year. My observation on the
reality of mutual funds is that most will invariably average out to a
mediocre performance range over the long run. A fund is hot one or two
years, then starts to plummet down into territories of low or negative
returns, and eventually averages out in a single digit return. Most
funds cannot even out out-perform the stock indexes in the long run.
The quarterly Globe & Mail mutual fund reports this year, I recall,
consistently showed that most funds return less than the 5-year GIC
compounded rate."

"Conventional wisdom tend to caution investors against second guessing
fund managers. Generally, I think this is good advice. After all, this
is why we buy mutual funds, to get the professional management. However,
wouldn't it make sense to get out of a hot sector after a 40% rise?
Will next year be another hot year for high-tech stocks? My guess is
that this is unlikely."

"The fund manager of 20/20 Aggressive is described as using an
investment style of "bottom-up growth." This essentially means that he
looks for "earnings momentum" and is willing to pay more for companies
if he feels that there is growth potential. My personal experience
investing in equities is that when the market is "hot" like it has
been over the past year, I would need to be more careful with
"bottom-up growth" momentum funds. They could get burnt by tending to
stay in a "hot" market for just too long. On the other hand, when the
market is down, like in early 1995, momentum funds tend to do well."

"Now that the capital gains exemption is gone, taxation is a big
factor in considering whether to hold or sell. It is tempting to hold
just for the sake of avoiding capital gains tax. However, holding a
risky position for the sake of avoiding tax is just as bad as buying a
risky investment that qualifies for tax exemption. A more profitable
strategy would be to do tax loss selling on weak holdings before the
year ends, and to take profits on overvalued holdings. I've recently
switched out of the Altamira Growth & Income fund (which unexpectedly
dived ever since I bought it in the Spring of 1994) and rolled over
into the Altamira Asia fund, which seems to me, represents a better
growth opportunity especially since the fund has been declining for
two years now. The loss on selling the Growth & Income fund will
provide me with some tax relief on the gain from the 20/20 Aggressive
fund."

"My more immediate dilemma is... where do I re-invest? These are
difficult times to find a suitable re-investment vehicle. I wouldn't
want to invest in bonds or other fixed income, since this will mean
paying taxes. Besides, I think the bond market has had the best times
behind it at this point in time. I wouldn't want to invest in US
equities, since I feel the bubble could burst next year. I wouldn't
want to invest in Canadian equities, because I need to diversify away
from Canadian equities on this investment. The objective for me on
this particular chunk of investment is to diversify away from Canadian
dollars, and to invest for long term growth. Simply said, I'm looking
for foreign bucks, and long term capital growth."

"There is yet still another limitation I have to contend with. Since I
have a founder's status with 20/20, meaning that there is no
commission charged on my transactions (and I am hoping AGF which
recently bought 20/20 will continue with the founder's staus), it
is beneficial for me to stay with the 20/20 family of funds. After
reviewing the mid-year report on the available funds in my search on
finding a suitable alternative to switch to, I come across the
International Value fund, which seems to meet my requirements.
International Value is managed by Charles Brandes, whose investment
style is "value investing." I have not met Charles Brandes before,
which means that I would be investing simply on the basis of reading
that (a) the fund invests in blue chip stocks around the world and (b)
the manager's style is bottom-up value."

"This brings me to my next hunch, or better still, call it an
investment insight and this is - the only valid reason to adopt a
10-20-30 year buy & hold strategy on a fund is when the fund manager's
investment style is "value investing." This appears to me as a
rational assumption that makes perfect business sense. When one buys
an under-valued company, one will have to give enough time for the
company to turn around and for its stock value to surface. On the
other hand, to adopt a long term buy & hold strategy on a fund whose
investment style is based on picking rising sectors is to assume that
the fund manager can consistently call the market correctly. A risky
assumption indeed."

"In so many words, I guess I'm saying three things on mutual funds (1)
there can be merit to switching mutual funds despite conventional
wisdom cautioning against this, (2) a buy & hold strategy may be a valid
strategy, but only for some types of mutual funds, not all, and (3) a
value investing style seems to be the best fit for a long term buy & hold
strategy. I guess I am a market timer at times, especially when the
rule of thumb - 30% capital gain within one year, is met.

A year from now, I'll be reading what I just wrote above. How does
that old market saying goes? "The market has a way of making fools out
of all of us?"

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Follow up message to club members... December 30, 1995...

I think we've all read on why it is a bad idea to buy mutual fund
units towards the end of a calendar year - you'd be allocated the
capital gain distribution at the last working day of the calendar
year, and will have to pay tax on the capital gain for the current
year.

What is the impact of my switching funds on December 28th? In order to
do the analysis, I've provided below the unit prices of the 20/20
funds that I hold:

           Aggressive   American     Asia    International

Dec 27       15.90        15.70      11.87       22.52
Chg           -.09         +.02       -.02       no chg

Dec 28  *    15.82        15.72      11.89       22.50
Chg           -.08         +.02       +.02        -.02

Dec 29       14.99        15.44      11.97       22.34
Chg           +.39         +.11       +.08        +.11

* day I switched from Aggressive to International

As you see from the numbers of Dec. 29 that the daily change figures
do not add up from the previous day for Aggressive, American, and
International funds. This is because of the capital gains/income
distributions at the closing day of December 29. For example, if there
had been no distribution, the unit price of the Aggressive fund will
have been 15.82 + 0.39 = 16.21. We also compute from this that the
distribution per unit on this fund is 16.21 - 14.99 = 1.22.

By selling the Aggressive fund on December 28, it may appear that I've
avoided the tax payable on $1.22. Not so, since the capital gain is
embedded in the $15.82 figure. On the other hand, by buying
International on the same day with the proceeds from Aggressive, I now
have to pay capital gains tax on the $22.61-$22.34=$0.27 per unit this
year. While my cost remains at $22.50 and I will be able to recover the
$0.27 capital gain on selling the units sometime in the future,
nevertheless, it was a poor strategy to buy International just before
the year end distribution. It means that I will have to pay tax
now on the distribution, and recover the tax sometime in the future
when International is sold. In my haste to switch from Aggressive into
International, I forgot about the tax consequences. If I had
remembered, I would have waited a day before buying International.

By the way, as you would note from the unit prices, Asia had no
distribution, while American distributed $15.83 - $15.44 = $0.39 per
unit... oh no, even more tax to pay this year.

Regards,
Denis

p.s. stay tuned to see how this trade turns out...

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