Finance: Going back to basics

This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on May 14, 2018 - May 20, 2018.

A lot of people don’t really understand what the stock market is. Even if they’re keen to know how to analyse companies before they invest, they don’t really know how. > Lim

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How much are you willing to pay for your favourite bakery that consistently earns RM1 million a year? This is a question that Lim Tze Cheng, CEO of Inter-Pacific Asset Management Sdn Bhd, often asks when recruiting investment analysts. The answers can vary widely.

He once put this question to an analyst friend and she said she would pay RM2 million for the bakery. Then he asked what her favourite stock was. “She named this company that I knew the numbers of. It was trading at a price-earnings ratio (PER) of 25 times. I said ‘Look, in the case of this bakery, you are only willing to pay two times PER, but in that case, you’re willing to pay 25 times. I’m not saying it’s right or wrong, but do you see the gap in valuation of what you’re willing to pay? What’s the difference then?’ That really caught her by surprise,” Lim says.

This was because the analyst viewed her favourite stock as a listed company and was thus willing to pay a premium for it. On the other hand, she saw the bakery as just a business.

But that’s what investors tend to forget, which is that investing in shares is actually investing in businesses. Lim shares this anecdote in his new book, What I learnt as an analyst, in which he aims to send this message across and equip readers with the tools to properly evaluate businesses. The lessons are gleaned from his experience as a fund manager, analyst and head of research in local and global asset management firms over the years.

“If you think about it, a lot of people are investing in the stock market and not doing the research. I’m not saying it’s not the right way, but they regard it more like a gambling den or they [invest] based on rumours, [for example] what’s the hottest thing in the market?

“A lot of people don’t really understand what the stock market is. Even if they’re keen to know how to analyse companies before they invest, they don’t really know how. I wanted to write something for the layman with no accounting or finance background but who really wants to invest. It’s something for them to read and to understand what the stock market is about,” Lim says.

There are many books about investing strategies available but some are very technical in nature and others focus too much on profiling the author. Lim aims to equip readers with the basic skills of analysis without being too technical or personal.

“In hindsight, I can say I made the right call but who knows, it could be plain luck. By telling you what successes I’ve made, how does that help you? You can’t repeat the same thing with other stocks because, really, investment is an art. If you read my book, you’ll notice there is nothing about me. I didn’t mention anything about me or about what I got right. It’s about which tools you can use,” he says.

His motivation for spreading financial literacy through writing partly comes from his observation of how the two financial crises in 1997 and 2008 claimed the lives of people he knew after they suffered severe losses in the stock market.

“In 1997, when I was still in Form Five, I had a friend whose father actually committed suicide after the financial crisis. In 2008, when we were all working, the stock market caused another ex-classmate to take his own life. But why is that? It’s because they didn’t really understand what the purpose of the stock market is,” he says.

“Assuming you invest in a safe stock like Maybank, and it is down 15% in a crisis. Do you need to commit suicide? You don’t need the money now. It’s for retirement, so you can afford to wait. But what really affects people is when they try to leverage with money they don’t even have.”

Many people invest based on “hot tips” from their acquaintances, but often, when that information — given that it is true — reaches the average investor, it is already too late, he says. Those closest to the source have already taken their positions. “I say forget all about hot news. That is the reality a lot of people don’t understand. I don’t invest based on hot tips; I invest in businesses.”

 

From investing in unit trusts to analysing balance sheets

The book is divided into two parts — the first introduces unit trusts as a form of investment, and the second is about shares as an investment. The first section explains how unit trusts work, the fees that will be incurred, and good methods to invest in them.

The second part, on the other hand, deals with what investors should do before they invest in shares. Lim teaches readers how to analyse income statements, balance sheets and cash flow statements. Annual reports from actual listed companies are used as examples. He also explains ratios to help readers make sense of the numbers they see in the statements.

“Now that you know how to look at and compare ratios, then comes the interesting question of how much you are willing to pay for a stock. That’s the valuation part. It’s very subjective, so what I tell you is that these are the tools to help you make a decision but it’s impossible for me to tell you what the decisions are. Ten people may go to the same analyst briefing and all will have very different opinions after that simply because investment is an art. What separates them are the tools that they use to judge the companies,” he says.

Other subjects he broaches are corporate exercises to help readers understand what it means, for example, when companies offer bonus issues and warrants.

The last chapter touches on Lim’s mission outside of the financial industry. As an active social worker, he is eager to spread the concept that investors should channel part of their earnings to do social good. He argues that for a market to work, there must be a willing buyer and willing seller. For example, if one sells a stock because he believes it has reached its full value, then whoever is buying from him at that price will be losing money, according to his valuation.

“So, wouldn’t it be right to say that whatever wealth you have accumulated in the stock market actually comes from other people? While they may or may not be making money from buying the shares, the motivation is for you to sell at the price which you think is the fair value. The other party could be a retiree or an old auntie, so it could be her life savings. I’m not saying it’s wrong to make money from that, but let’s do some good with the money you made from the public. Why not allocate a bit of your profit to do something good?”

In the book, he talks about the InterPac Social Enterprise & Responsibility Fund, which disburses 20% of the gain generated for investors to support social causes, as an example.

“I’m not selling the product; I’m selling the idea. If you believe in the idea, it doesn’t only work if you invest with us. The whole idea is if you understand the concept, then do it yourself. I think being involved in social work really helps me to see the other side of humanity. It’s not wrong to make money — that’s how we survive. But in the course of making money, you must also understand there are other parts of society in need of help,” he says.

The net proceeds from the sale and distribution of the book will be donated to Kriyalakshmi Mandir Shree Sai Gurukul Charitable Society.

He was inspired by the founder of the international Buddhist order Fo Guang Shan, who built a temple from the sales proceeds of his book. “[That gave me the final push] because I’m also involved in social causes. This could also be a way for me to contribute in terms of fundraising for charitable societies. I can kill two birds with one stone. On the one hand, it’s something I’ve always wanted to do, which is spreading financial literacy, and secondly, I get to raise funds for social good,” he says.

 

Going back to the basics of investing

Modern finance theory has introduced complicated models that attempt to analyse the market. But investors should not forget that the stock market was originally set up to fund businesses, and a simple tool like PER can be useful enough to evaluate companies, Lim observes. That is a key lesson he wants to impart to readers.

“Do what any businessman will do. [Before investing, ask yourself] do you believe in this business? Do you think there is potential for the business? Do you think the current management is running the company well? Those are the basic questions you should ask.”

If they do well, investors can build their wealth for retirement through careful stock picking. But Lim says investors should avoid another bad habit: comparing themselves with others. If making returns of 30% is your goal, then you should be content with it, he suggests.

“Your financial goal is something very personal. If you think you’re happy with 30% and you obtain that return, why should you be upset that the other guy is getting 50%?”

Going forward, he might consider writing another book based on his experiences as a fund manager.

“I’m half serious about this. I’m thinking my second book could be ‘What I learned as a fund manager’. But rather than telling you all the success stories, I tell you all the things that went wrong. That’s more important. When I teach in the charity school here, I tell the students there to make mistakes, because only when you make mistakes, do you realise where you went wrong,” Lim says.