Den of The Lion Investor

I will be away from Singapore for a period of about ten days starting from tomorrow. Therefore, there won’t be any daily postings during this time. While there might be a couple of periodic postings appearing, normal service will only resume from the week of 14th July.

The term churning refers to the excessive buying and selling of securities by your stock broker to generate commissions. It can also mean the excessive purchase and sale of unit trusts by your financial advisor for the same purpose.

Yet another kind is the “cashing out” of investment linked policies (ILPs) to lock in profits and then buying a new one with another fund (incurring sales charge). The same effect can be achieved with just a free switch.

As most (if not all) stock brokers are compensated based on commissions, they could have an inherent biasedness towards the client having more activity. If the client relies heavily on the recommendation of the stock broker or financial advisor but the latter has a less than honorable intention, it can be very detrimental to the health of the client’s portfolio.

The other day, I bumped into a ex-colleague (let’s call him Z) who wanted to liquidate his entire portfolio of unit trusts. His CPF investments of 80k+ had suffered a drop of more than twenty percent. His wife’s portfolio had suffered a similar fate and they were both advised by the same financial advisor.

I asked to take a look at his past transactions and this is what I saw.

• Z’s funds were invested in only the China and India market since last year.
• In March this year, he requested to switch all his funds to bond funds as a safe haven from the falling equity market. For this he was charged a 3% sales charge.
• In May, his so-called advisor “advised” him to switch his holdings back to equity to take advantage of the market rebound. All his holdings were switched back into two funds, one China and oneIndia fund. He was charged another 3% sales charge.
• As a result of the switch done in May, his portfolio suffered a further drop of 10k+.

I did not know whether to be angry or sad with what I saw. The CPF savings were Z’s lifelong savings.

There are two issues here. Incompetency and a lack of integrity.

Incompetency because

• No advisor in his right mind would tell his client to invest all his funds into only two regional equity funds.
• Trying to market time the rebound is a foolish thing to do.

Lack of integrity bacause

• The switching occured so soon after the initial sale with obvious tell tale signs of churning. If the advisor had wanted to actively manage the client’s portfolio, the funds should have been placed in a wrap account whereby fund switching is free. The client only needs to pay an annual warp account fee (typically 1%). If you do the maths, you will find that just one switch in three years will more or less make up for the wrap fees.
• According to Z, some (a couple of dozen) of his friend’s were in the same ship as him and have suffered heavy losses as a result of being served by that particular advisor. So, this is not just an isolated case.

Financially, the advisor is doing very well with all the commissions he has generated. Perhaps he is even given incentives for his performance. What an irony.

The sad thing is that the problem of churning in the industry goes even further than this.

Have you ever seen advertisements in the newspapers offering cash loans? One of the methods they employ is that they use your CPF monies to purchase unit trusts, charge you a sales fee of 3% and rebate you with some of the money.

Many cash straped people have no choice but to take up the offer. They can’t touch their CPF money and they would rather have cash on hand to meet their needs.

The goverment has taken certain measures that helps to reduce churning. One is the imposing of a 3% sales charge cap for funds purchased using unit trusts. Another is to disallow completely the use of the first 20k in our CPF OA and SA for investments.

While these measures might help to reduce churning, unfortunately, it can never be eradicated.

When the market goes on a bull run, many people don’t really scruntinise their transactions as they are making money.

The individual would do well to take a personal interest in his own investments and check how his portfolio is being managed, be it bull or bear.

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The other day, a contractor from City Gas came down to my house to do a site inspection. I had requested for him to check whether it was feasible to install the City Gas water heater and clothes dryer in my home.

The reason why I did so was that I was attracted to a recent promotion that City Gas was running. They were offering a package of the City Gas Water Heater and Dryer at $688 or the Heater at only $168.

According to the illustrations given, using a City Gas Heater in place of an electric one will cut the energy cost from about $30 to $10. This is a significant reduction.

Using a City Gas Dryer will reduce the cost from $5.73 to $3.88. This works out to be about 30+% reduction.

Unfortunately, the contractor deemed my house to be unsuitable for doing the installation. Thus, I was unable to proceed.

With energy costs increasing, people will become more conscious of such savings and there might be more people switching to the use of City Gas products.

The beneficiary of this would be course be City Spring, a listed infrastruture trust that is pretty much a dividend play. The current price of $0.775 offers a yield of about 8.3% p.a. The lowest price ever reached was about $0.70.

Of course, investors should remember to bear in mind the (ridiculous) performance fee structure, which is based upon the share price.

As a result of a spike in the share price in the past, the managers collected a huge performance fee. I can’t remember how much it was but I remembered it was a huge chunck of reported earnings.

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I saw this article in the newspaper yesterday. The headline reads:

Bond insurers want $171b of risk cover written off.

The story is that banks have purchased (from bond insurers) quite a large sum of credit default swaps (CDS) to protect themselves against collateralised debt obligations (CDOs) defaults.

Faced with downgrades and heavy financial pressures, the bond insurers are talking to banks about writting off the CDS they have sold to the banks.

Many companies with exposure to such insurance deals have already wrriten down the value of such deals.

Merrill Lynch has one of the largest exposures, with US$18.8b in asset-backed CDOs as at 28th March 2008.

Some US$1.34b was written down in the fourth quarter of last year and the first quarter of this year.

Citigroup has an exposure of US$10.5b and US$1.5b was written down in this first quarter.

Here’s a nice tip if you ever need any sizeable amount of foreign currency for investment purposes or funding your children’s education.

Instead of changing it at the banks where you pay quite a huge spread, Phillip Futures has a currency exchange function where you can change it at very tight spreads.

For example, if the SG/AUD is trading at 1.29/1.305 in the banks (a spread of 150-200pips). Philips might be quoting you a rate 1.2955/1.2995 (40 pips). The exchange is transacted at live rates and can be done anytime you want, so it is pretty convenient.

Futhermore, Phillips only charges a flat fee of US$30 for any telegraphic transfer.

One example of application is for funding your foreign currency fixed deposits. You can use Phillips to change the currency you want, before transfering it to your bank account. As long as the forex savings is more than US$30, it is worthwhile.

I’ve done some calculations and found that if you are changing anything in excess of S$10,000, it will probably be worthwhile to go through the hassle of opening a futures account at Phillips Futures. They do not require you to maintain a minimum balance in the account, so you can use it purely for foreign exchange as and when you need it.

Edited: Please check with your bank whether they charge you any fee if you were to fund your account with your own foreign currency. 

For higher amounts, the savings can be significant.

For transfers to 3rd parties (eg university, offshore investments), you might need to provide some documentary proof that the transaction is legit before they allow your transfer to go through.

Please note that the currency exchange function is different from their forex trading utility. The former is mainly for clients to change currency at competitive rates without any form of leverage, while the latter is more for speculative trading. Unless you are an experienced trader, you are advised to avoid the other products inside the Phillips Futures account.

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