Archive for January, 2009

Are you a Cattle Rancher or a Dairy Farmer?

Saturday, January 31st, 2009

My favorite time frame for holding a stock is forever.
– Warren Buffet

I’ve just finished the book “Who took my money: Why slow investors lose and fast money wins!” by Robert Kiyosaki & Sharon L. Lechter. In one of the chapters, he gave an analogy of the cattle rancher versus the dairy farmer which was pretty interesting, so I thought I’ll share it here.

Both the Cattle Rancher and the Dairy Farmer deal with the same asset – the cow. However, while the former slaughters it and sells it for meat, the latter milks them and sell it’s product. This illustrates the difference between ‘Capital Gain‘ versus ‘Cash Flow‘ – you can only sell a cattle once for meat and make a huge profit (capital gain), whereas if you sell it’s milk, you can sell it for many years to come, though at a much lower initial profit (cash flow).

You can tell which a person is after by the way he talks:

Capital Gain Investor:
– “My net worth has gone up.”
– “My home has appreciated in value.”
– “I paid $10 a share, the price went to $15 and I sold.”
– “I bought a house, fixed it up, sold it, and made $23,000.”
– “The company’s earnings are up so I expect the share price to follow.”

Cash Flow Investor:
– “What is my cash-on-cash return from the property?”
– “The stock is paying a 56 cent-per-share dividend.”
– “It is a tax-free municipal bond aying 7% interest.”
– “I receive a 16% interest from my tax lien certificate.”

Most of us have a mixture of investments, some with the intentions of capital gains, while others solely for cash flow. It is very important to know which investment falls under which category.

Market cycles go up and down. If you are in it for Capital Gains, you need to know when you need to sell. If you are unsure and hesitate, you could end up losing money instead. Likewise, if you are in it for cash flow, even if your stock value goes up, you shouldn’t confuse it for a ‘capital gain investment’ and feel tempted to sell. By selling and making a small profit, you might lose out more from the cash flow it could have given you down the years.

After reading this, it made me re-examine my current investments and categorize them correctly. I am holding stocks for dividend yields, but I too did have thoughts of selling them when the market recovered. As such, I might have confused myself about the intentions I have for the investment.

The next time you invest, ask yourself:

Are you a cattle rancher or a dairy farmer?

Investment thoughts

Friday, January 30th, 2009

I’m still learning the best ways to grow my money. As of now, I only invest in stocks that gives me dividends, and I’m saving towards getting real estate. I didn’t always invest that way though.

In March 2007, I ‘purchased’ 2 investment plans via AIA. One was a lump sum payment, while the other was a regular savings plan of $150/mth. The lump sum investment was made, because I didn’t want my money to be locked up in CPF once the ‘no investment on first $20k CPF rule‘ kicked in, while the $150/mth plan was because financial advisors have always been preaching about dollar-averaging over the long term. Here’s how it has fared as of today:

AIA IGP Plus (lumpsum) is in the red: -38.6%
AIA Achiver (RSP) is also in the red: -32.9%

So I guess it is true that dollar-averaging fare better than lump sum investments.

A year later, in March 2008, somehow I got involved with another fund, this time with Prudential SuperSaver Account. While markets had soften then, nobody knew that there would be a market crash in October 2008. As of today, that too is in the red at a -36.7% loss.

Now note that these are all paper loss. I haven’t really loss anything unless I sell it now. In 10 years time, I’m sure all these will no longer be in the red, but I’m skeptical about what the actual annual returns would really look like. Would it beat CPF’s interest rate of 2.5%?

From April 2008, I slowly started entering the stock market. This time round, my focus was on purchasing stocks that would give me cash, no matter whether it’s market value was up or down. This is known as ‘dividends’. Basically, companies share some of their profits with their shareholders.

Has the economic crisis affected the value of my stocks? Yes of course. As of today, I’m actually sitting on a paper loss of -41.8%. However, that really doesn’t concern me anymore. I acquired these stocks mainly because of the passive income they can give me year after year. Currently, my stocks pay out a combined dividend payment of 18.98% per annum.

Essentially what this means is that in slightly over 5 years, I would have gotten back my capital purely through dividend payouts alone. And I would continue getting dividend payouts as long as I hold on to those shares. Any dividends received after that is essentially ‘free money’, since my capital is already back in my pocket, and should I sell my shares after, the amount I get back is pure profit.

In 5 years time, if the market has recovered, and I decide to sell my AIA and Prudential funds, maybe I would have just broken even (though in reality it’s really a loss as I could have earned 2.5% pa if I had left my money in CPF).

I hope to go one step up and leverage on real estate in 2-3 years time, with the same concept of getting positive passive cash flow each month.

It’s the year of the cow, and this year, I’m planning to find more ‘milk cows’ for continuous supply of milk!

Happy ? year!