Active vs. Passive Investing: Which suit you?

Occasionally I would question why don’t just DCA into a broad base low-cost S&P 500 ETF, World ETF, or the STI ETF, and not think about portfolio asset allocations since I invest in individual stocks. By the way, I am not going into other types of ETFs or Index funds, there has been a proliferation of specialized sector ETF/Index funds that target only specific sectors or group of stocks.

This concept of DCA into an ETF (eg. S&P500 ETF) is not new and is strongly advocated by Mr Loo Cheng Chuan from 1M65. There are a lot of merits to doing that, and in many ways, I agree with it.

“I am a believer that if you want to invest in the stock market, I would do indexing with only the major US indices such as the S&P500. And I would hold them for 10-20 years. US markets have been rising very well for the last 100 years and I won’t think it would stop for the next few decades. Yes I would keep SA untouched as I can’t find any risk-free returns as high as the SA.” Loo Cheng Chuan

However, in retrospect, without investing in individual stocks I probably would not bother reading about the news surrounding the business development of the underlying companies, and the financial metrics/fundamentals of companies (which I am currently vested in or intend to invest in or divest from). 

Nevertheless, most people (including professional fund managers) can’t beat the S&P500, what makes me think I can. Passive investing mix and index-based investing is a no brainer.

When Jack Bogle started the Vanguard 500 Index fund in 1975, I am sure that even he could not have foreseen how successful it would become in changing the way we invest. Not only have index funds become an increasing part of the landscape, but exchange-traded funds have also added to the passive investing mix and index-based investing has expanded well beyond the S&P 500 to cover almost every traded asset market in the world. Today, you can put together a portfolio composed of index funds and ETFs to create any market exposure that you want in stocks, bonds or commodities.

How big is index investing?

Research by ICI shows that passive funds owned 16% of the US stock market at the end of 2021.

What gives me the conviction and motivates me

In the book titled “How I Invest My Money” by Brian Portnoy and Joshua Brown, the article by Joshua Brown is interesting.

He mentioned that he owns a dozen individual stocks, mostly companies where he is a fan, user and customer of their products and services. This reminds me of Peter Lynch. He typically does not sell his stocks and add on to his positions. Eg. When he is paying for his Verizon wireless bill or his Fios Cable bill, he likes the feeling that he is contributing to his own company. In his words, it’s a mental trick he developed to keep himself from bailing on them in times of tough market.

Personal finance is never straightforward, and it is never a ‘one size fits all’ strategy. What suits you may not suit me. Yes, perhaps for many the (one and only) objective is just to invest, not think too much into it, and hope to achieve alpha. As mentioned earlier, since most people (including professional fund managers) can’t beat the S&P500, what makes me think I can?
The fact is, I don’t think I can.
However, I can live with it.

Like Joshua Brown, there are stocks that I have bought whereby I am a fan, user, and customer of their products and services.

I have a DBS bank account, and I like what their vision is. To quote: “We seek to “Make Banking Joyful” – by leveraging digital technologies and embedding ourselves seamlessly into your lives to deliver simple, fast and contextual banking solutions and experiences. We are here for the long term, with a view to enrich lives, transform businesses and drive sustainable outcomes.”

My family often visits Vivo City and I can see how packed it is during the weekend. Every time, we dine there, I like to think we are contributing to Mapletree Pan Asia Commercial Trust.

My wife gave birth to both our kids at Gleneagles Hospital, a private hospital on Napier Road. Her gynecologist then has a clinic in the hospital and our kids’ paediatrician’s clinic (when they were younger) is also located in that hospital. Every time we visit the hospital, I just can’t help noticing all the luxury cars parked (jam-packed) in the small foyer. Well, I don’t think I can ever be a specialist doctor in my lifetime, but I like the ‘mental trick’ that perhaps some of these doctors are contributing to Parkwaylife Reit.

Ray Kroc, the founder of McDonald’s (MCD 0.68%), once asked a group of MBA students to tell him what business they thought he was in. The hamburger business of course, they told him. No, he replied, “My business is real estate.”

When I was younger, I would go for in-camp training and am aware that ST Engineering is responsible for many of the engineering aircraft and avionics upgrades, the design and building of battlefield mobility platforms, soldier systems, ammunition, and naval vessels. When we encounter any issue with the equipment, the first company that comes to mind for many of the officers would be ST Engineering. I reckon yearly, a big chunk of the military expenses would end up in ST Engineering’s coffer.

Aswath Damodaran has another way of saying it, he calls it faith in valuation. You can watch this video here, fast forward to the time 1:22:02. His definition of faith (kind of morbid), for active investors: Imagine if you are at the age of 85 years old and you are at your deathbed, he comes to you with some statistics. And he said, over the last 60 years you have been doing valuation and picking stocks and you made 8.13% per year. But if you have put your money in ETFs and Index Funds, over the last 60 years, you would have made 8.22%. So you think to yourself, you have spent 60 years of your life doing 2 hrs of research every night, and essentially you have made less money by not putting it into an ETF.
Would you be OK with it?
If your answer is no, then he advises that you don’t do active investing. He himself is ok with it because he enjoys the process of it so much.

Adam Khoo has another way of saying it (via elimination). Watch here. Fast forward to the time 59.35. Adam was asked why he is recommending individual stocks and not S&P500 ETF. His point is that if you are buying the ETF, you are buying the 500 largest companies in the US, not all are good companies, and not all are profitable. But if you have the skills, you can pick the best and the ones with the best moats; you can beat the S&P500.

Ultimately, only you yourself know what is suitable for you. It is your money. Do you know what you are investing in?

Having said that, not all index funds and ETFs are the same. As mentioned at the start, I am referring to broad-based ETFs such as the S&P500 ETF, World ETF, and maybe the STI ETF.

These days, there are too many sub-sectors ETFs. And who can miss out Cathie Wood’s Ark Innovation ETF?

I personally feel if we are to venture into these sub-sectors ETFs / index funds, we really have to read up and understand the components and how the fund is set up and what are the criteria for allocation. It is no longer a broad-based ETF (and likely not low-cost). Are we having another version of the toxic CDO as seen in the 2007-2008 Great Financial Crisis? Where the good stocks are mixed with the bad stocks and sold to retail investors?

‘The Big Short’s’ Michael Burry Compares Index Funds to Subprime Bubble (read here)

“And now passive investing has removed price discovery from the equity markets. The simple theses and the models that get people into sectors, factors, indexes, or ETFs and mutual funds mimicking those strategies — these do not require the security-level analysis that is required for true price discovery. This is very much like the bubble in synthetic asset-backed CDOs before the Great Financial Crisis in that price-setting in that market was not done by fundamental security-level analysis, but by massive capital flows based on Nobel-approved models of risk that proved to be untrue.” Michael Burry

Recent news that bring up the questioning process again

Every day, every week, every month, every year, the stocks in my portfolio never cease to lead me to question my conviction again and again.

Like the proverbial man stated by Aswath Damrodran who spend every night doing investing research (actually, I am not that hardworking…sorry :p), I often ponder and read up when interesting news hit me.

The recent news would be:

1) ChatGPT being ‘potentially an existential threat’ to Google’s search model. In addition to the hype over AI-related stocks (which has spread over to the Chinese tech stocks), and the single mistake by Google’s new chatbot ‘Bard’.

Microsoft has a new homepage for its Bing search engine powered by AI, after investing $10 billion in OpenAI earlier. 

Chinese tech companies have been trying to keep up. Baidu plans to release its own artificial intelligence chatbot, which will be referred to as “Ernie Bot” in English.  said it will launch a ChatGPT-style product focused on retail and finance. 

Google’s management has reportedly issued a ‘code red’ amid the rising popularity of the ChatGPT AI (read here)

Single Mistake By Google’s Chatbot ‘Bard’ Costs Alphabet $100 Billion Loss (read here)

Personally, I am not much convinced by the hype around ChatGPT and AI-related stocks in general. For now, I think this might provide a good opportunity to purchase more Alphabet stocks if the price falls further and I have a sufficient warchest. Note the first time the news has mentioned that Google faced an existential threat (read this article dated May 2012).

2) Hong Kong-listed Link REIT’s announcement on 10 Feb 2023, in raising HK$18.8bn to pay down debt and to fund its next phase of growth, which will include the formation of partnerships with global capital partners.

Link REIT plans HK$19bn rights issue to help reduce debt and fund growth (read here)

Link Reit seeks US$2.39 billion in fresh funds via rights issue as it looks to pay debts, acquire new investments (read here)

The rights units will be issued at HK$44.20 each, representing a 29.6% discount to Thursday’s close (9 Feb 2023) of HK$62.80 per unit before a trading halt.

The rights issue will lead to the unitholding base expanding by 20%, and hence cause a dilution in distributions per unit (DPU).

Some have questioned the move. To quote this article:

“It is a bit awful,” said Sam Chi-yung, chief strategist at Patrons Securities, who said he personally has held Link’s shares since its IPO. “Purely from a financial perspective, debt financing generally has a lower cost than equity finance. But this time it unexpectedly used the rights issue.”

“Their explanation is about first raising the capital without concrete projects for acquisition. The impression to people is quite strange. Is the market so good?”

Personally, this is quite unexpected, considering that they have just made an acquisition in Singapore. On Dec 28, 2022, Link Reit said it had agreed to buy the entire interest held by NTUC Enterprise’s real estate arm Mercatus in suburban malls Jurong Point and Swing By @ Thomson Plaza, which occupies Levels 1 and 3 of Thomson Plaza.
In addition, relative to many REITs in Singapore, Link Reit’s gearing is relatively low. Even upon completion of the acquisition, Link’s ratio of debt to total assets will change from 23.2% to only 27.1%, based on its consolidated financial position as of 30 September 2022.

Thank you for reading.


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About apenquotes

Born in 1976. Married with 2 kids (a boy and a girl). A typical Singaporean living in a 4 room HDB flat. Check out my Facebook Page:
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3 Responses to Active vs. Passive Investing: Which suit you?

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