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Building a ‘Fire and Forget’ Investment Strategy

13 July 2018

In 1982, the world heard about the ‘fire-and-forget’ French-built Exocet missile that was fired by an Argentinian military aircraft 30-40 km away from its target. It sunk the heavily-armed British destroyer, HMS Sheffield, and caused the loss of 30 lives. ‘Fire-and-forget’ refers to a missile guidance system that allows a missile to automatically guide itself to its target once it is fired without any further human intervention and is now an essential component of most armies’ military hardware.

In the investment world, quite a number of investors also believe (based on anecdotal hearsay) that a good ‘fire-and-forget’ investment strategy is to buy a bunch of blue chip stocks and just leave them alone, with the hope that they will one day hit the jackpot.  However, there is just one fundamental flaw with this investment strategy – nothing stays the same!

Small stocks don’t always stay small stocks. Some ‘grow up’ to become large cap stocks. Stocks that were bought ‘cheap’, i.e. have low prices relative to their profits, cash flow, dividends or book value, can one day turn into high relative-price stock. Conversely, big, large cap companies can also turn into small companies over time, due to management missteps. And firms characterised as high relative-priced “growth” stocks can transform into low relative-priced “value” stocks.

A very recent example happened in the middle of June. Most of you would have heard about the General Electric company, a storied and venerable Fortune 500 company, which was dropped from the prestigious Dow Jones Industrial Index in June. What made its exit symbolic was that it was one of the original entrants into the index in 1896. The stock of the company, which was priced at highs of $51 in the late 90s, trades at only over $13 today (a drop of nearly 75%). Investors who had held on to the stock over the years would be sitting on painful losses.

So, what happened to this supposed solid blue-chip company? Whilst it was well-run, the company fell on hard times as its businesses could not keep up with the changes happening in the global economy. The committee which manages the S&P Dow Jones Indices did not allude to GE’s troubles, but correctly pointed out how the US economy has changed significantly since the 1900s. In a media release, it was noted that consumer, finance, healthcare and technology companies are more prominent today, while the relative importance of industrial companies has fallen. This is especially true given how people, especially millennials, now approach consumption, which is very different from how their parents’ and grandparents’ did.

Closer to home, the distress of Starhub, a former blue-chip and investor darling, would have affected many investors who bought the shares for its supposed stability (being a government linked company) and good dividend yields. Analysts used to point out how ‘bulletproof’ the telco’s revenues were, given the stability of its subscriber base which included broadband and TV subscribers as well. However, this traditional model has been disrupted by streaming services like Netflix, which offered vastly more content at lower prices. Subsequently, the emergence of low cost virtual telco providers also affected its mobile business. Starhub which used to trade over $4 now hovers around $1.70 (a drop of about 57%) and has been dropped from the main MSCI Singapore index at the end of May 2018 and moved to the small cap index.

These are just 2 examples of how solid, large companies can lose their blue chip status due to the failure of management to keep up with disruptive technological changes. These examples (and many others) also challenge the commonly held belief that holding on to blue chip stocks is a sure-win ‘fire and forget’ strategy. Even if an investor were to keep close track of the market changes, the costs of excessive trading just to buy winners and sell losers, would eat into the long term returns.  And this is even assuming that one has a strategy of timing the markets perfectly (which no one actually has!).

Perhaps a better strategy is to hold a very broadly diversified, indexed portfolio. Indexing is a very systematic investment process of buying stocks which meet the index criteria, and selling those which fall out of it. This means you won’t have to worry about tracking stocks like GE or Starhub when they no longer meet the strict index criteria as all this is done automatically.

For greater diversification, by holding a global stock indexed portfolio which includes all countries, sectors and themes in the world, you would be sure that you won’t miss out on any changes in the global economy over the years. For example, 30 years ago there was no such thing as an Emerging Market component in a global stock market index. Today, Emerging Markets form around 14% of the global stock market, and this could rise in the future.

Whilst some people are aware of index investing, what is probably less well known is that some fund companies (e.g. Dimensional Fund Advisors) have used evidence-based principles to improve on the index investing strategy. One way is that they regularly rebalance your portfolio to be in-line with the proven dimensions of return, which are strategies that have been proven to out-perform the index in the long term.

With such a strategy, you’d truly be able to ‘fire-and-forget’, and let time do its compounding magic to grow your wealth.

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Here, we share with you the evidence on why EBI works and why forecasting doesn't, as well as articles on topics such as behavioural finance to help you become better investors. New here? You can start with this introduction to EBI. Happy reading!

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