May 2013 Sector Allocations: An opportunity in resources?

Readers of my expenditure tracker posts would know that I have seriously under-invested in the share market recently as it moves from one high to the next.  I am, at heart, a contrarian investor who loves stocks and other investments which are cheap because they are out of favour.  Those investments which should, at some point return to a normalised value.

As a result of this investment bias (make sure you know what your investment bias is) I have found it increasingly hard to put my money in the areas which I know well (that is, infrastructure, property and industrial share investments).

I confess that I have not paid a great deal of attention to resources stocks over the last few years.  The resources boom and their popularity in the market meant that I never really paid them much attention.  However I recently noticed that these stocks have not gone along for the bull run that the non resources stocks have had.

The chart below shows the relative under performance of the S&P/ASX 200 resources stocks (the green line) versus the broader S&P/ASX 200 index (the red line).  The difference is stark:

Some of the factors that have caused resources stocks to under perform include:

• Concern about growth in China
• China has been the big driver of the resources boom over the last few years and a lot of valuations were based on continued strong demand from China
• Although there are signs that Chinese growth is moderating, the swings in share price on quarterly GDP numbers are truly staggering
  
• A significant fall in the gold price
• The gold price is one that I will never ever understand
• There are so many things that drive it, from demand in India to the risk aversion in the market and people using it as a risk hedge
• The fall in the gold price smashed gold stocks (understandably) however also seems to have dented confidence in other companies which have no gold operations whatsoever
  
• A hunt for yield
• There has been a real push for money to find a home in high dividend yielding stocks and investments, so much so that many infrastructure stocks trade at massive premiums to what their fundamental values would suggest based on the fact that they have a good yield
• Resources stocks typically have much lower yields and the hunt for yield appears to have hurt these stocks in the process.

I know very little about modelling resources stocks

I know the absolute basics but unlike financials, industrial and infrastructure stocks I have no real experience or track record in modelling resource stocks.  However, the ~30% under performance in the last year is tempting me to enter the space.

I have decided to

The Social Network: Movie Review

I often review financial books in order to help readers of this blog cut through a lot of the junk that is out there.  I also occasionally review movies - I don't think they are even nearly as educational as books but people often learn from movies so it is often worth looking at.

The Social Network may seem like a strange choice for movie to be reviewed on this blog and I watched it more for entertainment purposes than to learn anything.  However it was fascinating and had a couple of lessons for would be business people and entrepreneurs which I will cover in this post.

I was surprised at how much this movie made me think and re-evaluate the way in which I had done business.  I have not yet created a successful business and although I had put my business plans on hold last year I am starting to explore options relating to this again.

The Social Network: Movie Summary (no spoilers)

I will obviously let you watch it for yourself but this movie offers a fictionalized account of the founding of Facebook.  It goes through the motivations for the founding of Facebook as well as the way in which the idea was conceived and developed.

The story is told from 3 perspectives:

• Mark Zuckerberg: The founder of Facebook who is defending two legal suits in relation to the founding of Facebook  
• Eduardo Saverin: The co-founder and former CFO of Facebook who is suing Zuckerberg for pushing him out of the company and making his shares worthless
• The Winklevoss Brothers: Brothers who are suing Mark Zuckerberg claiming that he stole their idea for Facebook after they hired him to program a very similar site

The movie is centered around the discovery process associated with the litigation and the depositions of the parties above.  It is a particularly interesting way to approach the movie and I thought it allowed the director to really engage with the issues while describing background information through the lawyers questions and discussions.

Lessons that viewers can take from The Social Network

Obviously the lessons I am going to be focusing on center around the business aspects of this movie.  Some of the core lessons that I took from it include:

• The necessity of setting up iron clad legal agreements when going into business with partners, even if they

Anzac Day Appeal - A worthy cause

Just a quick post from me on ANZAC day to encourage all my readers to donate to the ANZAC Appeal which runs every year.

For all my international readers, ANZAC day originally was to honour the soldiers from Australia and New Zealand who fought and died in Gallipoli during World War 1.  Today it more broadly commemorates all those who have fought and died in military operations for their countries.

The ANZAC Appeal is run by the Returned Serviceman's League (RSL) and it provides support to past and present defence force members in a range of financial and non financial support services.  You can read more about what they do here.

Obviously I wouldn't expect my non-Australian readers to contribute to the Australian RSL and ANZAC appeal however I am going to take this opportunity to encourage you to support organisations in your country that do the same work.  I confess that I am a person that is never likely to serve my country in that way and I have no idea what the soldiers go through and the sacrifices they make.  This is a small thing that we can do and I really encourage you to help in whatever way you can.

Being a financial blog - I thought I would also remind you about a few things that I have written in the past on donating to charity:

• Don't forget that your donation is tax deductible - so get a tax receipt!
• Make sure the organisation you are donating to is legitimate and does not spend your donations on excessive administration expenses
• For my US readers I saw this YouTube clip from Rachel Maddow talking about financial scams run to defraud donors who seek to donate to this exact cause - so there are some who really do take advantage of our good spirit on this issue

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What are Bitcoins and should you invest in them?

I recently got sent an article about Bitcoins and the way in which they are going to revolutionise the way in which the financial system works.  There seems to be a lot of buzz about them at the moment and the following post will cover what they are and should you invest in them.

What are Bitcoins?

A Bitcoin is a decentralised virtual currency which means that it exists only online and is not regulated by any central bank.  There are a finite number of Bitcoin in the world.  They are currently generated by Bitcoin miners and there is an upper limit of 21 million Bitcoins which will be reached by 2040.

They have no fundamental value and are exchanged by users over a P2P network.  They are generated by a program on your computer which 'mines' Bitcoins but the amount generated decreases as more users join the network and as the number of Bitcoins approaches the upper maximum of 21 million.

They are untraceable and can be used in transactions with anyone else that will accept them.  This is the whole crux of 'what is a Bitcoin'.  In fact anything can be used as 'money' or a currency.  Something does not have value because a government says it has value.  It has value because people are willing to accept it in exchange of something else.  Thus as more places accept Bitcoin as currency, the more mainstream they will become.

The big questions around Bitcoin is whether it will become a lasting currency and one that is widely accepted.  There is plenty of speculation in them out there at the moment with the slightest hint of a problem causing crashes (see the chart below).  In my personal opinion the only reason that you would use Bitcoin instead of a mainstream currency is because you do not want your purchase tracked or otherwise traceable (e.g. if you are using it to buy illicit substances).  Otherwise why wouldn't you use a more stable currency (even one that is not your home currency).  However in the section below I have found more and more mainstream businesses that are willing to accept them as a method of payment so perhaps I will be left behind on this particular trend.

The video below is how the founders of Bitcoin pitch their product which obviously only highlights the benefits and none of the cons of Bitcoins.  It is interesting to see however, how they think about Bitcoins and the role they can play in the financial system:

Are Bitcoin a good investment?

At the moment Bitcoins are nothing more than pure speculation.  

There is no fundamental value underlying the currency other than the idea that the product is scarce and this scarcity along with the inability for a government or other agency to issue more currency (other than as specified above) gives it some sort of lasting value.

In this sense Bitcoins are a lot like gold.  There is a limited quantity and its value is largely based on people's perception of what it will be worth in the future.  The only difference is that gold has a floor under it because gold can and is used for other purposes such as jewellery.  Bitcoins have no alternative use which could provide a floor under the price if confidence in the product slumps.

If and when the currency stabilises (it is incredibly volatile at the moment based on speculation - the chart below is just the last month!) and is used widely for trade (see the section below) then as a medium of trade it will have an inherent value.  When it gets to this point, though, the potential for massive gains and losses will have largely evaporated.

I wouldn't invest in this product - I can see that Bitcoins will have value to some people who are sick of their currency being depreciated by governments looking to stimulate growth.  The lack of an underlying use for the product and thus a floor in the valuation is the biggest stumbling block for me and one that I can't reconcile.  I can just as easily see people moving onto another 'currency' like this and Bitcoins becoming pointless and irrelevant.

It is the inability to value this currency on fundamentals and the uncertainty around the longevity of the currency which is keeping me on the sidelines.

Can I actually use Bitcoins to buy anything?

This used to be one of the biggest criticisms of the Bitcoin market - it was purely built for 'investment' (read: speculation) and that you could not actually do anything in the real world with it.  Then people clicked onto the fact that the anonymous factor would make it perfect for things such as drugs and other illegal transactions.

However recently more and more vendors are starting to accept Bitcoins as currency.  For example a relatively new website that I came across - BitFash - allows you to

How often should you switch your superannuation sector allocations?

A friend was recently asking me for advice on what they should change their superannuation sector allocations to.  They are not the most financially literate person so I was interested in the fact that they put that much thought into their allocation strategy.  I confess that I have never changed my superannuation strategy after enrolling in it because as I have said before I use superannuation as a 'set and forget' type investment strategy.

However, my friend (rightly) pointed out to me that their superannuation was their largest investment and shouldn't they therefore be looking to maximise their investment return?  I couldn't argue with this however there are some things you should consider.

What are you making your sector allocation change based on?

I am going to assume for the purposes of this post that you do not have a self managed super fund (SMSF) because the decisions you make in a SMSF are exactly the same as ones you would make in your normal investment portfolio - it is just a different structure.  I am going to assume that you are like most people who put their money with a superannuation provider and who are able to choose various strategies or plans.

I completely understand the desire to maximise your superannuation returns - after all, as my friend pointed out it is the largest investment that most people have when they go into retirement.  However you need to make sure that you are making changes for the right reasons.

The biggest mistake that people make (and the biggest danger in switching) is that you sell low and buy high

That is, you look at your superannuation returns and notice that one class of investment has performed for you much better than other classes of investments and you switch from the badly performing investment into the one that has performed well.  The danger in this is that you buy into the investment class that has already had it's run and sell out of the one that could be about to pick up.

If you are going to make a sector allocation switch it should be because you believe that the particular sector you are switching into is going to perform well (note one that has already performed well).

What does it cost you to switch your sector allocations?

Some superannuation funds will allow you to switch as much as you would like with no costs, while others allow a certain number of switches free of charge and then charge you for every switch after that and some charge you for every switch you make.

Make sure you know what you are going to get stung for and if you are going to get charged for switching make sure you keep track of how much your switching is costing you.

Make sure your allocations are appropriate for your stage in life

As a young person, I can have a reasonably aggressive approach to my superannuation and have it all in high growth options versus someone who is a bit older than me, who is getting close to retirement and for whom security of capital value is more important than achieving growth (which comes with the risk of capital depreciation).

What this means is that although a 'set and forget' strategy is not always a bad one because it helps you avoid the buy high sell low momentum trading type mistakes, you do not want to have the high growth strategy that you put in place in your 20s still in place when you are getting into your 40s and 50s.

So...how often should you switch?

Switching is inherently trying to time the market.  Although this is generally a bad idea, if you truly feel that the share market is overvalued or undervalued (and the same for property, bonds or any other investment class) then you should consider switching your asset allocation to what you believe is relatively undervalued.

I would think that switching your allocations any more than 3 or 4 times a year is overkill.  

Relative returns do not swing that much in a single year and you are probably missing the natural ups and downs that come with the market.

So how often (if ever) do you switch your sector allocations? I would love to hear how much you think about your superannuation.

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Get cheap subscriptions to expensive business magazines

I love reading about business and finance - it really doesn't matter what the topic is.  I'll devour books on the share market, on business, on savings and personal finance and never really get bored.  And I've found great ways to get them cheap (Amazon, Book Depository and Fishpond).

However, finding a solution for business magazines was that much harder.  I love some business magazines and they often have more information and material in one issue than some of popular investment books out there (the whole Rich Dad Poor Dad series comes to mind).  I love the Economist as well as the Business Review Weekly (which is an Australian publication).  However the problem is that these are outrageously expensive - I have no problem paying for quality however I do care about getting ripped off.

There are ways you can save money so before you go out and buy your next edition of one of your favourite magazines from the book stand read the tips below!

Getting a cheap subscription to The Economist - An Example

We all know that buying individual issues to a magazine is possibly the best way to blow money out there but it is surprising how many people can't be bothered going online and filling out a subscription form.  At the time of writing the cover price of the The Economist is A$11 (~US$12) which will cost you $561 for a years worth of issues.

The following ways are all ways you can save money with your subscription to The Economist (or any other business magazine)

1. Subscribe via The Economists website
• Note that they price differently based on where you are located so if you are getting it posted to home then you will get your local country price
• For a 1 year subscription for an Australian this will cost you A$8.59 per week (saving you $123)
2. Subscribe via another magazine subscription website
• For some strange reason, other online magazine retailers give you a much cheaper rate for a years subscription than The Economists own website which seems crazy to me but it seems to be a trend
• A one years subscription from isubscribe.com.au will cost you A$7.16 per issue (saving you $196)
3. Subscribe as a student
• This is the easiest and best way to save money on your magazine subscriptions but what you need is a student (they can be university level) in your household (I use my younger brother) to make it semi-legitimate
• If you do it via The Economist website you will pay $6.49 per issue (saving you $232)
• If you do it via a student magazine website (e.g. magazines4students.com.au) you pay $4.90 per issue (saving you $311)
4. Subscribe to an international mailbox or address and get it posted to you
• The Economist charges vastly different prices for

Investing in Index Funds: A cheap and easy way to invest in the share market

In previous posts I have written about how investing in index funds is one way that I access the share market and it makes the decision about where to invest easier.  In this post I will cover exactly why index funds are so good and why every investor, especially those who are time poor and do not have time to track individual stocks, should seriously consider index funds.

What are index funds?

Index funds are set up by fund managers to track and replicate the performance of a specific index.  Basically it takes a group of stocks or commodities and invests in every one of the assets within that group so that you as the investor get a return equal to that of the index.

• Index funds can cover the whole share market (often called broad based index funds) or a specific sector (e.g. materials, resources, retail)
• Broad based index funds will give you the return of the entire market while sector funds will give you a return for that sector
• Each unit in an index fund gives you access to the shares in that index on a proportionate basis
• For example if a certain stock makes up 10% of an index, for each $1 you invest in the index, 10% will be invested in that stock (or will give you the same return as that particular stock)
• The weight of each stock in an index is determined by the index provider (e.g. S&P, MSCI and others)
• Index funds are managed by a fund manager and are all slightly different
• Index funds are managed by a provider who you have probably heard of (iShares and Vanguard are two very common ones)
• All index funds are slightly different in their attempts to match the index returns - it is too complex and expensive to be invested in every single stock (especially for broad based indexes) and constantly be re-weighting to get the exact return of the market 
• What this means though is that every index fund has tracking error - this is the difference between the actual return of the index and what the fund gets
• It's not really a big deal but lower tracking error is better

What are the type of index funds?

Index funds basically come in two types - listed and