Inquivision: Perspective of a Singaporean Humanist

Amsterdamned

2009-08-15T16:09:00.000-07:00

I've been in Holland for about a day, and I've been here before, and have come to really enjoy Holland. The people are invariably friendly and things function really well.

I'm particularly impressed by how the Dutch somehow balance the dynamic creativity of capitalism with certain social institutions and safety nets of the stereotypical "socialist" European society: when you go through Amsterdam, it has the feel of a very lived-in and dynamic place, with lots of entrepreneurs setting up businesses. It's a very capitalistic society (they had the earliest stock exchange in the world, and also pioneered the concepts of the corporation).

But then it is also interesting that this same society seems relatively egalitarian: there are practically no homeless drunk people in the streets (if you exclude the drunk/stoned Brits drooling on the sidewalks), and their entire social system (from what I can gather) seems to place an equal weight not just on pure profit, but also on fairness (a concept that most capitalistic societies seem to treat as a luxury good), with a focus on making sure all sides are heard and all parties are taken care of. For example, employers have to pay 8 percent of your salary in "vacation money", meant to pay for tickets, hotel bookings, etc., for you to go on vacation. This is on top of the paid vacation time that you are already entitled to as your normal compensation packet, and (get this) even if you are unemployed! The reasoning (based on the NY Times, the Oracle of Manhattan) is that "if you can’t go on vacation, you’ll get depressed and despondent and you’ll never get a job".

With a society like this, it's little wonder that there is quite a strong social glue holding the whole society together. I went to the Dutch Resistance Museum today, which was awesome (though the same can NOT be said of the owner of the cafe next door: please avoid the cafe unless you want to get harangued about "manners") and extremely eye opening about how diverse, yet united Dutch society is. The Dutch seem to have taken great pains to ensure that all groups are included in the societal dialogue, with no single group being superior; as a consequence, even though the Germans in WWII treated them as "pan-germanic brothers", the general sentiment across the society was one of resistance. A particularly funny episode I read there: this Dutch woman was arrested for anti-German sentiment. In prison, she was given the socks of SS soldiers to mend. She proceeded to "mend" by sewing up the sock holes entirely (so they were unwearable) "by accident"!

This led me to think about Singapore, and how tenuous the link is between most Singaporeans and Singapore. Can I honestly look at a fellow Singaporean who has migrated to Australia, and tell him that "your country has done so much for you"? Can we honestly say that our dialogue includes all strains of thought, that our system is fair, that we tried our best to help the disenfranchised and the unfortunate? I'm not sure.

There are times when I consider certain things (like the lack of consumer rights in Singapore) and wonder, if my friends and family left, "would I still go back to Singapore?" Having come to Amsterdam, that question continues to ring loudly in my mind as I think about this.

A Goodyear for Temasek's corporate governance?

2009-07-22T21:31:00.000-07:00

I was surprised to hear that, after all the positive noise and fireworks (which even had the Economist saying a good word), Mr. Chip Goodyear won't be joining Temasek after all.

It's a pity, as I was hoping to see what changes Mr. Goodyear would have brought on board when he took over the helm. Mr. Goodyear would probably have brought in much-needed expertise in corporate restructuring and an outsider's perspective that is missing in a company which increasingly gives the impression that it's losing its grip, especially with their sales of Barclays (amazingly bad timing: they sold during the low-volume months of December and January, when even seasoned day-traders stay out of the markets as there is too much noise).

What is interesting to me was something that isn't immediately apparent. The contradiction between the official press statement from Temasek (which blamed the decision on "(unresolved) differences regarding certain strategic issues") with what Temasek Chairman Mr. S. Dhanabalan said to Today ("The differences in and of themselves are not the issue, but they have helped both the Board and Chip to assess that it is in our mutual interest not to continue with the planned leadership transition") is stark and notable: they are self-contradictory and mutually exclusive. I smell spoiled sushi.

Quite disturbingly, from the press releases of the Ministry of Finance, it seems that Temasek's largest shareholder is effectively powerless over Temasek. This seems to be confirmed by the selection process of Mr. Goodyear as reported in Parliament, which involved "first getting the backing of the Cabinet, before Temasek's board put its recommendation to President S R Nathan for his approval": note how the Ministry of Finance receives no mention, even though it is nominally supervising both Temasek and GIC. And now that Temasek decided on not getting Mr. Goodyear, the Ministry says that "Temasek informed MOF (Ministry of Finance), but MOF was not involved in the decision," which seems like a denial of responsibility for the decision. You can bet that some civil servant in the Ministry is sweating buckets on behalf of his minister to explain away this fiasco in Parliament.

To paraphrase Oscar Wilde, to lose some money is a misfortune, but to lose money and a CEO-designate looks like carelessness. I really do hope that there is a proper review over the oversight of Temasek and their decisions, especially this incident, otherwise a casualty of the rumour-mill will probably be the Prime Minister's wife (unfairly, I should add: I have heard she is actually a very smart, capable and humble person). If this episode serves as a catalyst for Temasek's improved corporate governance, then perhaps all this soap-opera is ultimately not for nothing.

Review on article in the Economist about bank stocks and employees

2009-07-19T22:39:00.001-07:00

Sorry to my non-existent readership for not updating this in a while, as I have been busy being funemployed.

My favourite magazine in the world, The Economist, just published a brillant article over the weekend about bank employee compensation and their returns to shareholders (over the same holding period). The most striking thing about this article was the diagram that they used to illustrate the investment-turkey-payoff vs. the employee compensation for Lehman Brothers (see below, from the Economist website). From this, it is fairly obvious that (a) it sucks to be a shareholder of an investment bank that is going bankrupt, and (b) it's great being an investment bank employee, as you get all upside and absolutely no downside whatsoever.

The second thing that was striking about this article was the last paragraph, which is much the same said by Nassim Taleb, phrased in a different way:

Banks pay low dividends, and when they get into trouble the capital that shareholders have retained in the firm typically gets wiped out. Employees have taken money out of their firms each year. It may be time for the owners of banks to mutiny over the bounty.

Read the article, and then think for yourself whether speculation in bank stocks really is worth the risks involved: you might be better off trying to get into a bank as an employee than playing with their stocks.

As I'd previously highlighted in this blog, we Singaporeans hardly have a choice in the matter, given Temasek's huge investments in banks as a proportion of its portfolio. But I do hope that the powers-that-be are looking closely into their portfolio, and demanding more "bounty".

And in response to Temasek's repeated exhortation that they are investing in stocks "for the long run", it is worth considering what ex-Morgan Stanley Asia chief economist Andy Xie (who apparently got into trouble for his candid remarks about Singapore, ball-carrying Westerners and PM Lee) has to say about stocks in the long-run:

It's a widely accepted notion that long term stock investors make money. Actually, this is not true. Most companies don't last for more than 20 years...In the long run, all companies go bankrupt.

(from the English 财经 magazine, link here)

From my other blog: http://daftfadertrader.blogspot.com

2009-07-05T09:07:00.000-07:00

I've been reading Jim C Collins' book Good to Great (Why some companies make the leap and others don't), which is a very well-reasoned book backed by lots of data.

Introduction to the Stockdale Paradox

The Stockdale Paradox was coined by Jim Collins, and was named after Vice Admiral James Stockdale, USN, who was the highest ranking US prisoner-of-war in the Vietnam War, and who was held for eight years (from 1965 to 1973) and tortured over twenty times. Most impressively he actually took command within the Hanoi Hilton (together with Brigadier Risner), and never allowed himself to be used by the Vietnamese for propaganda, even slitting his face on purpose.

During an interview with Admiral Stockdale, Jim Collins asked "Who didn't make it out?"

Admiral Stockdale's reply was enlightening:

"Oh that's easy; the optimists. They were the ones who said, 'We're going to be out by Christmas.' And Christmas would come, and Christmas would go.

Then they'd say, ' We're going to be out by Easter!' And Easter would come, and Easter would go.

And then Thanksgiving, and then it would be Christmas again. And they died of a broken heart."

He then ended with this:

This is a very important lesson.You must never confuse faith that you will prevail in the end - which you can never afford to lose - with the discipline to confront the most brutal facts of your current reality, whatever they might be.

The Stockdale Paradox is something that I have thought about many times before. What Admiral Stockdale called the optimists, I call them the unhealthy optimists, guilty of unhealthy optimism. How does unhealthy optimism manifest itself? It very often manifests itself in explicit and outcomes-focused positive self-talk, like "best training", "cutting edge", "best performing", "peerless" and other superlatives. You can see this in certain people (especially, in my experience, inferior managers) who talk about "positive thinking" and "positive self-talk"; arguably what these people are doing instead is positive denial. They refuse to confront reality, instead cling on desperately to their illusion of positivity.

A friend of mine not so recently remarked to me that she had tried positive thinking for a while, but gave up because it made her feel worse. I suspect that her positive thinking is what I call positive denial, and her reaction is exactly what happens when unhealthy optimism meets with brutal reality.

When you believe in your own bullshit, you end up in really deep shit, especially when you are finally confronted with the reality of the situation. This applies to organizations that believe their own propaganda, and to individuals who believe their own self-talk, and to both organizations and individuals who do not face up to reality.

The reverse of unhealthy optimism is healthy optimism. Healthy optimism is implicit: if you're good, you don't need to say it out. In fact, it is often impossible to spell it out without sounding like a broken record. Far more often, you would prefer to not say it out and just focus on what you need to do. This is something that can be trained: arguably the healthy optimism mindset is the basis of all sports training and self-improvement, allowing the mind to actually focus on feedback instead of feeding on emotional fears and internal dialogue.

Crystalizing moment

Personally for me, the crystallizing moment between unhealthy and healthy optimism actually occurred during Basic Military training, during the final 24-km route march. After the fifth time of telling yourself "I can do it!", this self-talk begins to sound like what it really is: an empty promise to yourself. Internally it becomes very clear that there is a very sharp contrast between what your head is saying and what you are actually feeling: your rational voice is saying "I can do it!" but in actual fact you are despairing at the sheer pain.

Instead, what actually worked for me (especially since I developed a huge blister by the 4th kilometer) was to internalize the belief that I can do it, literally by saying to myself, "yes, you can do it, so shut up and do it" and then I just focused on the reality of the situation: that I will only finish this one step at a time. So I literally focused on one step.

Then the next. And so on, for the remaining 20-km with the blister.

It was the confrontation of the reality that allowed me to cope, because ultimately reality is what you experience. Interestingly enough, the memory of this has also given me the confidence to overcome other things that I have experienced before in my life. Healthy optimism begets more healthy optimism.

Stockdale paradox in relation to trading

Specifically, in trading, the Stockdale paradox is the ideal trader's mindset: ideally a trader will never lose faith in his/her ability to learn the markets and to trade profitably, while confronting the realities that manifest in his losing trades.

Unhealthy optimism manifests itself (I think) in some of the following ways:

A trader looks only at the opportunities, and overlooks the risk: a case of positive self-talk ("There is plenty of opportunity in the markets!") without focusing on the reality ("You could lose your pants in the markets too!")
A trader adds to losing trades: again, a case of positive self-talk ("The market will turn! This is good value! I am right!") vs. market reality ("There go your pants again, thank you, O liquidity provider!")
A trader looks perpetually for the perfect indicator, the perfect broker, the perfect market, and the perfect trading teacher who will teach one to be a perfect trader: this is less obvious a manifestation. Underlying this search for perfection is an optimism that such perfection actually exists, and that this panacea will be readily available to the trader looking for such a thing. Like the wishful thinking in the examples above, this is usually an evasion of self-control and self-responsibility. Usually this trader's self-confidence in the perfect indicator/broker/market/trading teacher lasts until the first big loss, after which the trader's mindset turns around from "this indicator/broker/market/teacher is perfect" to "damn this scheisse!!" Again, when wishful thinking meets brutal reality, brutal reality usually wins.
A trader who trades without a plan, only with self-confidence: wishful thinking.

Undoubtedly everyone has gone through some of these flaws at some point or another. What differentiates the (eventual) winners from the losers is their ability to face up to reality, and to take steps to deal with reality. Often these steps are small baby-steps, but these are still very important. Many times, you will dance the Annoying Tango of Frustration ("one step forward, three steps backwards").

But ultimately, my belief is that the person who most readily faces up to reality, and who most actively seeks rational solutions to his/her reality will be the most likely to succeed in the longer term.

Rules-based naïveté

2009-06-11T04:02:00.000-07:00

Singaporeans are stupid. - Li Ao

新加坡人笨。－李敖

When Chinese television personality Li Ao made the above comment in 2006, it sparked off a furor in Singapore, with a wave of indignant anger mostly from the Chinese-educated Singaporeans (most English-educated Singaporeans don't even know who Li Ao is).

In general, I frown upon such generalizations and stereotyping, as labels tend to stick and often set up the basis of bigotry. Most of what he said on television about Singaporeans is hugely debatable and plain wrong (including his assertion that "Singaporeans have poor genes" and "no culture", as our "ancestors came to Singapore from China with only their underwear, let alone any culture whatsoever"). I think what Li Ao said is hilariously funny (especially if you don't take him too seriously), and I think what he says needs to be taken with enough salt to cause kidney failure in an elephant.

But what Li Ao says is not without a seed of truth, especially if you translate the Chinese word 笨 into clumsy or naïveté, rather than stupidity.

While I would not be so extreme as to say that Singaporeans are stupid, I would say from my limited personal experience that Singaporeans can be very naive; they tend to be pre-occupied with rules and regulations, and often have their thinking limited by those rules and regulations (see my previous blog post on my condominium's security guards).

When I see Singaporeans in a rules-free environment, I am often reminded of this Zen story about a horse that worked its whole life turning a grinding stone in a mill; when it was retired and allowed to graze on a large field, it went to the only tree in the field, and continued walking circles around the tree (like it did when it turned the grinding stone).

Like the horse, a lot of Singaporeans who grew up with a lot of explicit and implicit rules tend to be lost when they are thrown into an organic environment where the only limits are the ones you set for yourself. Like the horse, they then draw their own rules, and limit their own thinking to the imaginary box that they grew up with. So even if they are in a large open field, they will find their own tree and orbit around it.

I myself am not immune to this, as I remember what it was like in the Matrix, and the shock I had upon stepping out into the New World. I still vividly remember my surprise at how freely and easily my American classmates challenged professors in class (once, about the need for homework!) I also remember how pleasantly surprised I was when a venture capitalist who was guest-speaking at my course said that venture capitalists prefer entrepreneurs who had failed before, which surprised me as failure in Singapore is a social stigma to be buried and never talked about.

I suspect that is why there are so many implicit social rules for Singaporeans, like "marry and have three kids", "get a stable job", etc., often without any real questioning of assumptions. Most people in Singapore complain about the pressure of social norms; they really only have themselves to blame if they unthinkingly accept those norms and apply them to their own lives.

This naïveté is also perhaps why I have heard more than one Singaporean prescribe a standard set formula to developing nations: "Why is everything so disorganized? They should pass some laws and fine people to get them to behave. They should put bad people in jail, death to drug smugglers. They should have laws and rules forbidding pollution, corruption, etc. They should attract foreign investment."

But in my experience, mainland Chinese and Indian (especially those from the big urban centers of both nations) will understand that, it's often not that simple, especially in big countries with large populations (i.e. very complex systems) and myriad conflicts of interests by myriad parties. Some Singaporeans can be very simplistic, because we have grown up in an engineered-environment where we often do not see the larger consequences and ramifications of decisions because we are not big nor complex enough for these decisions to go wrong. (My working hypothesis is that people from big and populous nations have seen enough central plans go awry, because they come from nations which are big and complex, and where simplified engineered solutions often go completely wrong.)

Despite this, things are definitely changing in Singapore, as more Singaporeans study and travel overseas and as the next generation comes to being. You can see that in the younger generation, with people questioning how things are done in the Straits Times forums and in the local blogs. We can only change our viewpoint one assumption at a time.

The question I have for you, dear non-existent reader, is this: what assumptions around you and inside you have you questioned today?

Bank stocks and investment turkeys

2009-06-07T10:02:00.000-07:00

I recently had a beer with a friend and we started discussing about Temasek, a topic that seems to be losing steam in the press (perhaps intentionally?). I pointed out how Temasek's huge concentration in financial stocks (40% of their portfolio) is a huge concentration of risk, especially since banks are hugely susceptible to "negative Black Swan payoffs" rather than positive Black Swan payoffs.

For the uninitiated, negative Black Swan payoffs are like Taleb's analogy of the turkey being fed steadily by the butcher (i.e. stable returns over an extended period of time) before dying quite abruptly in the abbatoir. The returns look like this (taken from Taleb's article in Edge.org):

To compare this turkey with bank and financial stocks, look at IndyMac's earnings before insolvency:

You really could replace "IndyMac" with just about any big bank that were former stars: UBS, Citibank, RBS, etc. (Aside: I've noticed that some of the banks that took the biggest hits have names and acronyms that end with S-es: UBS, RBS, MS. Perhaps they were thinking with their S-es while trying to follow the trendsetting S: GS.)

On this basis of the payoff structure, I said it's quite inadvisable to put too large a portion of your portfolio in banking stocks. My friend took issue with it, saying "you're saying all banks are bad investments"; what I was really saying was that, if you're going to invest in banks, then you better hedge your bets (e.g. by buying a put option on the S&P Financials index ETF or by portfolio diversification) rather than put most of your eggs in this basket of turkeys.

Personally, I wouldn't go anywhere near a bank in terms of investments, as I don't know when they will be impacted: an ex-girlfriend's grandfather was a long time investor in a Singapore bank, and he got very badly burned in this recent turmoil. The negative payoffs are completely not predictable ex ante. By the same logic, I won't go near an insurance company (except as their client), but this is especially with my working hypothesis on the interaction between global warming and increased human growth and urbanization [Note: my working hypothesis is that the confluence of both factors increases the likelihood of natural disasters happening with greater frequency (global warming), and with ever greater economic impact (human population growth and widespread urbanization). E.g. the huge 1883 eruption of Krakatoa killed an estimated 30,000 people, when the Indonesian archipelago was relatively unpopulated; in contrast the much smaller-scale Asian tsunami killed around 180,000 people through Southeast Asia despite being a relatively minor geological event. I shudder to think what should happen if Lake Toba blows up, or if a super typhoon hits China].

Essentially my view is that buying an insurance stock is akin to writing an option, while being their customer is to long an option. I'm not too keen on being an investment turkey, so I think I'll stick to being a bank and insurance company customer, rather than an owner, for now.

In the meantime, now is probably a very good time to go into stocks of companies that provide reliable services that will definitely be required, the so-called defensive stocks, like utilities, waste management, commodities, pharmaceuticals, etc. It's well worth looking into these, particularly into waste management companies, which is something I've been promising myself to do ever since the Economist published a special report on waste.

Should Singapore focus more investment in "soft" science research?

2009-06-03T05:31:00.000-07:00

Lately I've been toying with the possible idea of doing a graduate degree in behavioural economics, and started doing some online research on any programmes.

Not surprisingly, most of the graduate programmes available are in the US, with an additional programme in Nottingham, UK. But what surprised me was that there were next to no behavioural economics/finance research programmes here in Asia that was picked up by Google.

So this got me thinking, and I thought about what a great idea it will be for Singapore as a test-bed for behavioural economics: most of the research currently being done seems to focus primarily on test samples from the West, but nobody seems to yet have done a categorical study into the possible variations of key behavioural concepts (anchoring, frames, etc.) across different cultures. Given that Singapore is centrally located, and is a confluence point for both East-West, perhaps this is the best place for such inter-cultural behavioural studies to be done.

Also, instead of the Singapore government spending huge amounts of money on technological research programmes and fixed technological infrastructure that might or might not work (does anybody still remember the calls of Philip Yeo for Singaporeans to study engineering and biotech?), perhaps Singapore should increasingly focus on developing our "soft" research. "Soft" research areas in the social sciences are relatively cheaper: compare the amount of specialized equipment needed in a chemistry lab (mass spectrometers, lasers, NMRs, etc.) vs. a behavioural psychology lab (attractive female research assistants, hidden cameras, cookies, etc.).

As a consequence a large portion of investment in hard-science research facilities go into fixed costs (equipment), while investment in soft-research tends to go to variable costs (man-hours): the operational leverage of hard-science research is a lot higher.

Which logically means that perhaps the risks/rewards are higher if we put our research money into "soft" research than "hard" research. If Singapore puts more money and emphasis into "softer" research like psychology, economics, behavioural economics, sustainable development, etc., we might be able to boost our economy by creating niche industries and innovations that spinoff from such research.

We actually already have exported some behavioural economic innovations, albeit innovations that have come from our government. For example, congestion road pricing was first implemented in Singapore. Now, drivers in London curse and swear at their own road-pricing system, which was adopted by their Singa-phile ex-mayor Ken Livingstone. As another example, the Singapore Government's Central Provident Fund has been quoted in Akerlof and Shiller's latest book "Animal Spirits" to be a potential way to increase savings rates in the US.

Suppose that we invest in a research center focused on behavioural economics, and our research generates interesting findings of the different behaviours between, say, Chinese and American consumers. It's not unthinkable that our researchers will be able to setup consulting firms to advise foreign companies on the best ways to attract Chinese/Indonesian/Indian consumers.

Or if we setup a research institute on sustainable development, then Singapore could not unthinkably become a Southeast Asian hub for sustainable development research across different countries and regions.

This strategy of trying to improve one's academic standing by focusing on the "soft" sciences was adopted by New York University in 2003: New York University tried to revamp its reputation as a top liberal arts research institute by aggressively expanding its economics department , which seems to have been quite successful.

Having setup a Biopolis, perhaps it is time for us to look at a Behaviouropolis?

On Tharman's comments about Temasek, and more

2009-05-29T22:05:00.000-07:00

Singapore's Minister of Finance, Mr. Tharman Shanmugaratnam, has spoken in Singapore's parliament about Temasek's performance to date. The Straits Times reported the news with an article titled "Temasek beats returns of many big funds" and stating that there has been a gain of S$114 billion in the five years before the fall, and a gain of S$56 billion after losses. They also reported in the article that Temasek thus averaged slightly over 15% annually over the five year period. That just sounds heartwarming, doesn't it?

But a look at other news sources, namely from the Asian Wall Street Journal and Bloomberg news show that Temasek had gained S$114 billion over five years (from 2003 to 2008), and proceeded to lose ~~half, no,~~ more than half of that sum (S$58 bilion) in a mere eight months (from March 2008 to November 2008).

The Asian Wall Street Journal has a graphical representation that pretty much says it all.

On reading all these articles, there are two contentious points about Mr. Tharman's defense of Temasek: firstly about Temasek's performance vis-a-vis benchmarks, and secondly about the assertion that it is not realistic for Temasek to avoid losses amid sharp market corrections.

Temasek's performance: one eyed man in the land of the blind, or the Toyota behind the Ferraris?

Tharman defended Temasek's performance, stating that Temasek has performed "respectably" compared to relevant market indexes and reputable institutional investors. The article quotes Tharman as saying

"Temasek has achieved total shareholder returns of ..... slightly over 15% per year on average over the cycle. This compares with 6% annualised gain in the global equity market indices (MSCI World)... Temasek's annualised returns are also higher than what several other well-regarded investors have earned over the cycle."

A question for Minister: which "well-regarded investors" have Temasek beaten, and how did the whole population of these "well-regarded investors" do as a whole? For instance, if Temasek is comparing itself with its sovereign-wealth fund peers, then Temasek's performance is excellent in the same way that a Toyota Camry will hugely outperform an East German Trabant on a racetrack. Soveregn wealth funds on the whole have been performing badly, based on a few abstracts on academic studies that I was able to find via Google: a working draft here, and here. This paper's abstract states that the sovereign wealth funds they studied showed an average annual return of -14% over two years, whereas Temasek's returns over a two year period is probably slightly positive. By using this benchmark, Temasek is the one-eyed man in the land of blind investors, and has truly done well.

But the same Toyota Camry mentioned above will be sorely lacking if it was benchmarked against a Ferrari on the same racetrack. You might ask, "which institutional investor can be considered an investing Ferrari?" As I'd written before, the Yale Endowment fund has been hugely successful over this same period of time that Temasek has mentioned, and their portfolio's returns are a lot less volatile. Just compare the respective portfolio values in the following two pictures:

Temasek's portfolio value until 2008

Yale endowment's portfolio market value until 2008

Both are linearly scaled on the vertical axis, and are thus comparable by eyeball. Look closely at Temasek's portfolio, and notice how there was a HUGE 40% drawdown from 2000 to 2003; in contrast, Yale's fund went from around US$11-12 bn to $10bn, which represents a mere 10-20% decline, while their bounce up has been just as spectacular (they more than doubled from 2003 to 2008). Graphically you can see that Yale's returns are much better adjusted for risk.

We should also bear in mind that Temasek had the benefit of privatizing government-linked corporations, which were basically state monopolies: much of the gains in their portfolio's market value stemmed from all these one-off initial public offerings, as can be seen from the notation on Temasek's chart. In contrast, Yale's performance stems from pure investment returns, diversified over different asset classes which even out its returns.

From this perspective, Temasek's returns might not be that fantastic, especially relative to the risks involved.

The question then begs to be asked: are we comparing Temasek with the blind, or with the best-in-class Ferraris?

Temasek's portfolio: diversify or die

Minister also said in the article that it was not realistic for Temasek to outperform the market everytime or to avoid losses amid sharp market corrections.

I think any sane person will not expect Temasek to outperform the market everytime: if even the God of All Investors (i.e. Warren Buffett) occasionally lags the Dow (especially just before 2000), it is extremely unrealistic to expect Temasek to outperform the market all the time.

But what we can and should expect is for Temasek to reduce its losses during sharp market corrections like now, even as they seek higher returns. As I said before here, Temasek's portfolio is extremely concentrated in terms of asset class and geography.

A friend critiqued my argument by stating that given Temasek's size, it is not exactly fair to compare Temasek with Yale's endowment fund, which is a fifth of Temasek's size. But I think he misses the main point: if a smaller fund like Yale's can diversify across 6-7 different asset classes while pursuing high returns like Temasek's mandate, does it make sense for a fund of Temasek's size to remain as concentrated as it is in a single asset class in its pursuit of returns?

For naysayers about Temasek's ability to diversify, bear in mind that Temasek's sister firm, the Government Investment Corporation of Singapore, or GIC is actually quite spread out across different asset classes, including Treasuries, currencies, and fixed income (see page 11 of GIC's annual report here). GIC's mandate is quite different from Temasek's: their aim is basically to just beat global inflation, which explains why their returns are much lower, and their diversification into alternative assets is too small to make much difference to the portfolio on the whole (e.g. Emerging Market equities are just 10%, Absolute Return strategies make up just 3% of the portfolio, Natural Resources a mere 2%, and Private Equity just 8%). Should Temasek adopt a similar policy of asset diversification, these alternative asset classes should probably take up a larger portion of Temasek's portfolio in pursuit of higher returns.

GIC's broad diversification across different asset classes shows that a large sovereign wealth fund like Temasek can diversify into different asset classes. It really makes me wonder why Temasek is sticking only to equities: in a pursuit for returns, it almost seems reckless not to diversify especially when you are a giant, especially since it will boost your risk adjusted returns and reduce the chance of being aversely affected by Black Swan events. It is not for nothing that Harry Markowitz called diversification "the only free lunch", one which Temasek is basically not having by being hugely concentrated in equities (especially in financial institutions).

A question of corporate governance?

While researching for this blog post, I was looking through GIC's annual report for 2007-2008, and what struck me was the composition of GIC's board of directors and their advisors: it is fairly obvious that GIC is aggressively tapping into some very sharp financial minds, as their board advisers include a number of heads of investment fund and investment advisory firms. One of them is even chairman of Goldman Sachs' Quantitative Investment Strategies Group.

In contrast, Temasek's board mostly consists of ex-CEOs, who often don't have the necessary appreciation of finance or financial risk. Last time I counted, I counted two chaps with relevant financial/investment expertise on Temasek's board: one was a lawyer who also works in an investment firm, while the other is a member of the Swedish Wallenberg family.

This difference might account for the different asset allocation strategies by the two firms. While Temasek has done well, in my personal opinion there is definitely scope for more improvement. Perhaps it is time for Mr. Tharman and the Minstry of Finance to look more closely at Temasek's board composition, and to model it more after GIC by injecting more experienced financiers, or at least to create a board of advisors to Temasek's Board. Afterall, financial investing is a very different ball game from buying over a company as a CEO.

(Incidentally, Minister is also on GIC's Board. One can only hope he has been tapping GIC's board advisors on the matter of Temasek's investments...)

Time to look more closely at Temasek's risks

In summary, I basically disagree with Mr. Tharman about his statements on Temasek, and think that Temasek ought to implement certain changes. More clarity is needed on the type of benchmarking that is used to gauge Temasek's performance, and I think a closer look needs to be taken on the risks that Temasek is taking on.

Given the Singapore government's general risk aversion (we have one of Southeast Asia's strongest militaries, despite being one of the smallest nations in the region) and preparations for foreseeable risks and contingencies, I find it puzzling that the approach towards Temasek's portfolio risk seems to be verging on indifference. There is a saying amongst traders that "if you look after the risk, the returns will take care of themselves".

If we persist with the current attitude towards Temasek's portfolio concentration and other risks, then it won't be long before the S$56 billion portfolio gain evaporates into nothingness. Solon's warning still rings true. I think it is high time for us to look closely at Temasek's strategy, and to take steps like diversification to reduce the risks to Singapore, and changing their board composition

Transparency and Temasek: diversification, investments and a vote for Jim Rogers

2009-05-15T22:07:00.000-07:00

An area which I am particularly concerned about as a Singaporean citizen is transparency and accountability of certain decisions, particularly with regards to Singapore's investment strategies via Temasek and the Government Investment Corporation, or GIC. They have undeniably done a good job so far: look at Temasek's track record. It's really pretty decent, if lumpy, but as Buffett once said, I'd rather have a lumpy 15% than a smooth 12%. Especially since smooth returns are often a symptom of a Madoff-like Ponzi scheme

Despite Temasek's past brillance, I found it disturbing when their respective investments in Merrill (by Temasek), Citi and UBS (by GIC) were done extremely quickly, and at a disturbingly high price (to me, even at that time).

More disturbingly, it transpired today that Temasek had sold off its stake in Bank of America (which had acquired Merrill) in the first quarter of this year. The market timing is superbly bad: they bought at a high, and sold all the way to the bottom, and missed out on the rebound in prices from the bottom that occurred around March. They might pride themselves on their fundamental analysis, but from this it is fairly obvious that their understanding of market dynamics and market timing is sufficiently bad for this realized loss to occur, especially since they had emphasized that this was for a "long term investment". This episode reminds me of an ex-colleague who said, "a long term investment is a short term speculation gone bad", only that in this case it's both a long term investment AND a short term speculation gone horribly wrong...

If Temasek was any normal company, the shareholders might be roused by a Carl-Icahn-wannabe into an open shareholder revolt, demanding answers as to how this happened, why it happened, and how we can prevent this from happening again. This being Singapore, such calls for radical change are unlikely to be heard from the Singapore press (though to be fair, their money editor wrote a piece today asking Temasek to come clean). It is perhaps just as well that such demagogy is not typical, given that stupidity is the norm in mobs while relatively rarer in individuals. We should perhaps be more charitable: time alone will tell whether Temasek made the right or wrong choice with regards to divesting Bank of America in Q1 2009.

More at stake than just a single stake in an American bank

All the same, I do question Temasek's investment strategy and tactics, and wonder if there might be some mechanism to allow for greater checks and balances.
Prompted by the news of this recent divestment, I started looking at Temasek's website on their investments. It becomes fairly obvious that Temasek's bad call is symptomatic of a larger issue. For an investment company of that size (>US$100bn), Temasek is extremely concentrated in a single asset class (ok, maybe two asset classes, as they have an internal private equity fund as well), and lacks sufficient diversification across asset classes and across geographical regions. As a comparison, the much smaller Yale University endowment fund (US$28bn) has spread their assets across six different asset classes (excluding cash), including absolute return funds, private equity, and real assets (which is made up of real estate, oil and gas assets, and forestry).

The argument that I have heard for Temasek's concentrated portfolio is "higher risk, higher return", which sounds intuitively correct. But contrary to what people think, having more risk doesn't always translate into more return: the markets are full of occasions when there are asymmetric risk/reward situations, where sometimes risk is much larger than reward, or the reverse. That's the reason why portfolio diversification can actually increase your potential returns while reducing your risk, if done correctly.

Temasek's portfolio is diversified across different industrial sectors, but almost entirely concentrated in equities. In a longer run, an equity focus is a good idea, but there are times like Black Monday, when all equity markets become very highly correlated, which is why it is important to diversify significantly into other non-correlated asset classes, like hedge funds, private equity, venture capital etc. (basically to diversify across geography, asset class, sector, and also across time). Geographically, Temasek is focused primarily in Asia, US and Europe: Africa, Latin America and Russia are nowhere on the list, which is surprising given that the growth in these geographical regions have been significant, and the markets there have a weaker correlation than Asia, Europe and the US (which is Singapore's primary exposure). The opportunity cost of losing out on the growth in Africa, Russia and Latin America and the lost diversification benefits (from a risk perspective) cannot be overlooked. This lapse is also surprising given that Temasek's stated investment strategy of four themes overlaps with a number of excellent companies in Africa, Russia and Latin America. [Note: as of June 2009, this has been addressed as Temasek announced that their focus will be primarily into emerging markets, and not developed markets.]

Temasek might want to consider the kind of asset bucketing that was pioneered by David Swensen of Yale's endowment fund, but to go beyond the Yale model and look into managed futures and derivatives funds. If I were in Temasek's shoes, I would consider investing a few billion in joint venture funds with commodity trading advisors (CTAs, for short) that have a decent track record, as per this example that you can see from Abraham Trading, on a 50-50 equity basis. This overcomes the moral hazard of selling a call option to the CTAs (when you give them your money to invest on your behalf), but more importantly it also allows Temasek to groom a generation of traders with which to create its own diversified trading funds in the future.

It will also not be a bad idea for Temasek to explore creating a joint venture with Nassim Taleb's Black Swan investment fund, Universa Investments, to hedge part of our portfolio and to learn to properly hedge. This is especially the case, as most financial professionals have readily used the excuse of "these are unprecedented markets" to pardon their portfolio losses, whereas George Soros used the same reason to get out of retirement and make US$2.9 billion in 2007.

Greater transparency and more dialogue for Temasek's future trading strategy

To be fair, Temasek has been pretty upfront and transparent about their strategy so far. But when faced with portfolio losses of this magnitude, there needs to be some answers, and some honest dialogue in the days ahead of what should the path ahead be like. Arguably, Temasek has already taken the correct first step by having Chip Goodyear replace Ho Ching, which portends a professionalization of Temasek in the days to come.

But in addition to this, I think Temasek needs to include more professional investors on its Board of Directors (and not just company CEOs). As such, I vote to include more professional investors like Jim Rogers on Temasek's Board of Directors.

Competition in Singapore

2009-04-18T07:25:00.001-07:00

Like most Singaporeans, I'm generally apathetic to Singaporean politics. In the past I used to be quite vocal against the PAP, but after living and studying in the US and in Europe, I realize that Singapore really isn't that bad: it combines the belief in free markets (like in the US) with a social safety net (of sorts) like in Europe (most importantly in insurance and healthcare).

I've come to terms with the fact that Singapore probably will not change politically. And honestly, as long as the PAP remains incorrupt, and as long as the government continues to govern well, and as long as the government does not interfere with my lifestyle, I have no qualms with living and working under the PAP regime.

That being said, I still feel that certain decisions should be made with greater transparency. Even though historically Singapore has been ranked no.2 on the Index of Economic Freedom rankings, I think there is still room for increased market freedom and competition in certain areas.

For instance, Singapore's public transport is regulated by the Public Transport Council, and they regulate the two main transportation companies in Singapore: SMRT and SBS Transit. A few years ago, I remember that there used to be plenty of private bus companies that would run their private bus lines: often these bus lines would overlap with the existing bus routes run by SMRT and SBS. This practice has since stopped, with the result that SMRT and SBS practically have a monopoly over their existing bus routes.

If you ask me, this route monopoly has resulted in an increased herd-like behaviour of buses. One is left waiting at a bus stop like a German U-boat commander in the Atlantic, waiting patiently only to suddenly have two, or sometimes even three (!) buses of the same route turn up. My feeling is that if the existing duopoly is broken, with individual bus companies allowed to compete along the same bus route, commuters will benefit from improved service due to the enhanced competition. We probably just need a single additional market participant for the market dynamic to change, much like the Singapore telecom market situation, where we have two giants (Starhub and Singtel) and a runt (M1) that keeps both giants on their toes.

Why do Singaporeans not question?

2009-04-18T06:53:00.001-07:00

Over the years, I've noticed that Singaporeans have a tendency to rigidity. They tend to stick to things, and not change them even if the situation has changed. And they do this often without questioning. To me, this behaviour is almost like fatalistic lemmings who do not question their actions before running off a cliff with the herd.

What do I mean? For instance, a few months ago I was swimming early in the morning before I went to work. This meant swimming in my condominium pool at around 6am, as I had to be at work by 7am.

For a week or so I was undisturbed. Then suddenly one fine day, one of the security guards came over and asked me, "Hello, boy, which unit are you from?"

Me: "XX-XX. Why do you ask?"

Guard: "You are not allowed to swim in the pool you know."

At which point, I was quite incredulous: was my swimming disruptive to the public peace? The nearest block is about 75 metres away: for my swimming to wake up a sleeping person in that block, I would have to be as loud as a ship's horn while in the water.

It turns out that the pool is only open from some arbitrary time, like 7am. Swimming before that is not allowed, for "safety reasons", said the management. Which is a bullshit answer, because as a big sign there stated, any swimmer will be swimming at their own risk: the management is not liable for any mishaps. So they are already washing their hands off the individual swimmer's risk.

In which case, why can't I assume the risk of swimming in the pool at 6am in the morning? When we approached the management corporation, they refused to budge, and basically asked me to swim later, at around 7am. Which was the time I had to be at work anyway.

The problem was eventually solved by a change of my working hours (due to a work situation that cropped up), but this set me thinking about how rigid a lot of Singaporeans can be with regards to rules, even absurd and nonsensical rules, without question.

Worse, my experience has often been that when you confront people (especially Singaporeans) with questions about the status quo, they start becoming defensive, and just become disagreeable.

First shot

2009-04-15T19:55:00.000-07:00

It all started with a play on words: how do you combine "inquisitive" and "vision"? Just add them together...

Thus, "Inquivision" was born.

The idea is to have a blog where I will post questions, queries and other ponderings, asking questions that sometimes are not asked, and suggesting ideas that (to my knowledge) have not been proposed.

Please feel free to leave your comments. Feel free to quote with attribution.