When Investing, Watch Out for Risks Before You Consider the Rewards

The Smart Investor12-24 09:00

[ Share Facebook Twitter LinkedIn Email WhatsApp Making your first investment is exciting. But before you dive in, it’s important to watch out for danger signs that could impact your ...

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The company, which manufactures precision tools for semiconductor fabrication, saw its revenue fall 18.7% year-on-year in fiscal 2023 (FY2023) ending 30 June, with net profit more than halving. \nMicro-Mechanics didn’t fare much better in FY2024, with another 13.6% year-on-year decline in revenue and a nearly 18% year-on-year drop in net profit.\nAnother player in the semiconductor space, UMS Integration (SGX: 558), also struggled in 2023. UMS’ revenue tumbled by 19% year on year, and net profit plunged by 39% year on year.\nThese examples underscore the importance of understanding where a cyclical industry stands in its cycle. \nOnly by doing so can you better anticipate how companies in that sector might perform.\nEconomic risks\nAnother key risk is economic risk.\nThis risk impacts companies that are highly sensitive to the overall health of the economy, both globally and regionally.\nBanks, for example, are among the most economically sensitive businesses. \nThey rely on making loans to businesses and individuals, earning fees from credit card spending, and offering wealth management services. \nDuring tough economic times, banks face significant challenges. \nA prolonged downturn can reduce lending activity and lead to higher levels of non-performing loans.\nTake DBS Group (SGX: D05) as an example. \nDuring the Great Financial Crisis of 2008-2009, DBS faced a sharp economic recession that caused its non-performing loan ratio to nearly double from 1.5% in 2008 to 2.9% in 2009.\nTo bolster its financial position, DBS conducted a rights issue in January 2009, raising S$4 billion to shore up its balance sheet. \nInvestors were offered one new share for every two existing shares, priced at S$4.93 each.\nSaid another way, even a strong bank like DBS had to issue new shares to strengthen its capital base. \nThis highlights the importance for investors to be prepared for such situations – either by having cash on hand to participate in a rights issue or by accepting the potential dilution of their shares.\nIf you had held onto those rights shares since 2009, you would now be significantly rewarded, as DBS shares recently hit an all-time high of S$43.02.\nRisks related to REITs\nREITs are often seen as a reliable way to earn regular income, making them a popular choice for income-focused investors.\nHowever, it’s important to remember that REITs are essentially collections of real estate portfolios, and these portfolios need to be properly managed and tenanted. \nIf the properties are poorly managed or fail to attract tenants, the REIT’s distributions could decline over time.\nThe most fundamental risk for REITs is occupancy.\nA high occupancy rate signals strong demand for a REIT’s properties, meaning they can easily attract tenants. \nHigh-quality assets attract steady rental income and provide an opportunity for positive rental reversions where the REIT can raise rent when tenants renew their leases.\nFor example, as of 30 September 2024, Mapletree Industrial Trust (SGX: ME8U) boasts a solid occupancy rate of 92.9%, while Frasers Centrepoint Trust (SGX: J69U) enjoys an impressive 99.7%. \nIn their latest reporting, Mapletree Industrial Trust posted a positive rental reversion of 10.7%, while Frasers Centrepoint Trust saw a healthy 7.7% rental reversion for fiscal 2024.\nBut if a REIT’s occupancy rate starts to drop consistently, it’s a warning sign that needs closer attention.\nAnother inherent risk for REITs is interest rates.\nREITs often rely on borrowing to fund their operations, hence rising interest rates can increase their financing costs, putting pressure on their distributable income and, ultimately, their ability to maintain attractive payouts to investors.\nA recent example of this is Frasers Logistics & Commercial Trust (SGX: BUOU).\nThe REIT experienced a 40% year-on-year increase in finance costs for its latest fiscal year, which led to a 3.4% year-on-year decline in its distribution per unit, dropping to S$0.068.\nBy closely monitoring how REIT managers handle their portfolios, particularly in response to rising interest rates, investors can make more informed decisions about which REITs to add to their portfolios.\nSector-specific risks\nAnother type of risk is industry-specific risk, which can impact companies within particular sectors like telecommunications or cybersecurity.\nA recent example is the major outage at Optus, a wholly-owned subsidiary of Singtel (SGX: Z74).\nIn November of last year, a widespread service disruption left half of Australia’s population without phone or internet access for most of the day. \nAs a result, Optus was fined A$12 million by the Australian Communications and Media Authority.\nThis outage was not the first major incident for Optus. In September 2022, the company was also hit by a cyberattack that compromised the personal data of over a million customers.\nThese incidents not only led to significant fines but also caused serious damage to Optus’s reputation as Australia’s second-largest telecom provider.\nAnother notable example is Crowdstrike (NASDAQ: CRWD), which experienced a major outage in July that caused 8.5 million Windows-based computers to crash.\nThe disruption led to widespread flight cancellations and impacted various industries, including banking, healthcare, and hospitality.\nIn response, Delta Airlines (NYSE: DAL) is suing Crowdstrike, claiming the company is responsible for US$500 million in losses. \nThe US Department of Transportation has also launched an investigation into the incident.\nBoth of these cases highlight the potential reputational and financial risks companies in sectors like telecommunications, cybersecurity, and technology can face.\nBefore investing in these industries, it’s crucial for investors to be aware of these risks and how they could affect their investments.\nGet Smart: Risks are ever-present\nRisks are an inherent part of investing and should always be the first thing you consider before committing your money.\nThat said, don’t let these risks deter you from investing altogether.\nInstead, focus on managing them effectively – either by reducing your position size if you believe the risks are high or by steering clear of certain companies that may pose too much danger.\nBy staying mindful of both the risks and potential rewards, you’ll gain a more balanced perspective, which can ultimately lead to better investment outcomes over time.\nNote: An earlier version of this article appeared in The Business Times.\nExplore Singapore’s top “evergreen” stocks with our FREE report. It spotlights 7 Singapore blue-chip stocks with solid dividends and growth potential. Click here to download it now to create a flow of dividend income, regardless of market conditions.\nFollow us on Facebook and Telegram for the latest investing news and analyses!\nDisclosure: Royston Yang owns shares of DBS Group, Frasers Logistics & Commercial Trust, and Mapletree Industrial Trust.\n\n\n\n]","kind":"highlight","is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"","news_rank":0,"symbols":[],"gpt_button":0},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.3","shortVersion":"4.29.3","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2493845746"}