Showing posts with label Looking for investing ideas. Show all posts
Showing posts with label Looking for investing ideas. Show all posts

Monday 18 May 2020

Generating Ideas

The value investing model needs to be fed stock ideas. These ideas can come from different sources, some of which are more fruitful than others. I look at seven.


1.  The first source is bad news. 

Stories about companies often emphasize an extreme element of an event. These extremes get amplified in headlines. Headlines drive human reaction, sometimes too far. This can cause stock price
swings deeper than would a more sober take on the facts.


Overreactions don’t just come from individual investors. They come from professional money managers as well. For example, a hedge fund doesn’t want to scare off its limited partners when it reports holdings at the end of a quarter.  As such it may dump a perfectly good company going through some passing embarrassment.


Sometimes a news-driven stock price drop may be warranted, but overdone. Take Anheuser-Busch, the maker of Budweiser beer. In 2005, newspaper articles appeared suggesting that beer’s days were over. Alternatives like vodka with Red Bull were gaining ground with younger drinkers. I analyzed AnheuserBusch and found it to still have a thriving core business. But the stock price dropped anyway.

As I was turning this over, dad invited me to the baseball game in San Francisco. I can’t remember who the visiting team was, or who won. But I do remember what I saw:
people drinking a lot of beer.

My observation hardly qualified as advanced market research. Plus it happened in an American ballpark, a natural context for beer drinking. But it was real. Beer’s days weren’t over. Shortly afterward I paid $45 per share for 
stock in Anheuser-Busch.

Three and a half years later, in November 2008, the company was acquired for $70 per share. Including dividends, that investment delivered an average annual return of around 15 percent. I neither sought nor liked the buyout. 
 But taxes on gains are the preferred kind of financial pain.

Other times a news-driven stock price drop is fully justified. For example, Volkswagen’s share price plunged following an emissions scandal that emerged in September 2015. 
 While the situation is still playing out as of this writing, it  appears that there was in fact an organized effort within the company to skirt regulations. That’s bad. Plus, Volkswagen didn’t register as good before the crisis. Its ROCE was underwhelming. To the astute investor hoping to hold for decades, the situation presented little opportunity.

On rare occasions a news-driven stock price change is totally unjustified. This can happen because a story affecting one company leads to trading in the stock of another. For example, online messaging company Twitter chose TWTR as its stock ticker symbol in preparation for its November 2013 IPO. This caused a wild surge-and-crash cycle in TWTRQ, the common stock of bankrupt electronics retailer Tweeter Home Entertainment Group.


Bad news can involve real tragedies. Security breaches compromise privacy, train crashes cause injury, and foodborne bacteria spark illness. No investor of conscience wishes for these mishaps.

But sensationalist reporting can trigger dislocations that don’t make sense. The gap between price and value yawns. The astute investor is meant to bridge it. Good investing has no friend like bad journalism.


2.  A second source of ideas is
spin-offs. 
A spin-off is the public listing of a company that was  previously part of another listed company.

The spin-off process generally starts with a distribution of shares in the newly independent entity to the old parent’s shareholders in the form of a dividend. Then those new shares start trading.


Often, some of the old parent’s shareholders are institutional investors. When their spin-off shares start trading, they may sell them automatically. This is because the new stock doesn’t meet their formal investment criteria, such as a minimum market cap. This forced selling can depress the price of shares in companies that, if they’re both understood and good, are worth owning.


3.  A third source is regulatory filings. 

Many governments require large investors to periodically report their holdings. These filings are public. One can compare reports between periods to see which stocks talented professionals bought. 

In America, money managers with at least $100 million in assets under management are required to file a quarterly report that lists—with some exceptions—their U.S. stock holdings. Called a 13F, the report is due 45 days after the close of a quarter. They’re posted at www.sec.gov. Check midway through February, May, August, and November.

Mining 13Fs has many limitations. Understanding them helps to make the tactic work.


The first limitation is that one has to know which professionals are worth following. Outperforming mutual fund managers are easy to spot, since their track records are public and clear. But private fund managers may share their records only with clients. And professionals that run portfolios inside larger companies—even listed ones—may never detail their histories.

One can’t really know if a professional is worth following before seeing a track record. Fame is not a proxy for performance. I am routinely struck by the high profile of some perennial laggards, and the anonymity of some total stars.


A second limitation is that 13Fs disclose only long positions. 

They don’t disclose short positions. This makes them useless for studying managers that pair long and short positions in what are effectively single bets. It’s potentially dangerous to mistake the visible long half of such a bet as the full bet.

Third, 13Fs don’t disclose the prices paid for shares. 

One can research the low for a quarter and safely conclude that the price paid was not below that. But greater specificity isn’t available.

A fourth limitation is the time lag. 

In the 45 days since the end of the quarter, stocks just bought could already have been sold. Correspondingly, positions sold could have been reestablished.

Fifth, the filing itself can drive the price of a stock up

When a well-known professional buys something, many blindly follow. This can end any inexpensiveness that once helped to make the stock attractive.

Sixth, a stock appearing for the first time on a 13F may not have actually been bought. 

It may have been received in a spin-off. A money manager may even have started selling it between the date of receipt and the date of the filing.  It could be the opposite of an idea worth considering.

Seventh, the authority bias can push one to play copycat. 

A psychologically undisciplined investor can unthinkingly mimic a master. But masters make mistakes. It’s better to view the debut of a stock on a 13F as an invitation to analyze from scratch.

A different cognitive bias can push one away from reading 13Fs. It’s the peculiarity bias. It can make 13F mining seem parroty. Dirty, even. But that’s 
misguided. Consider an analogy.

Imagine a restaurateur with a downtown restaurant. Every quarter, the restaurateur receives in the mail a letter from a trusted authority. The letter discloses the major actions taken by the most successful restaurant in the country. One quarter it might say that the exemplary establishment raised soft drink prices by 5 percent. The next quarter, it bought a new fryer. And so forth.


Would the restaurateur throw out the letter without reading it? Of course not. It’s informative and accurate, and might contain a useful idea. It’s like the best trade magazine imaginable, free and errorless. Plus the restaurateur accepts no obligation to do whatever the better establishment did just by reading.


An investor ignoring 13Fs is like the restaurateur throwing out the letter. It’s an odd, limiting act. A better approach is to read select 13Fs fully aware of their shortcomings, secure in the knowledge that autonomy is not sacrificed. One isn’t required to replicate a hero’s trade any more than the restaurateur is required to buy a new fryer. A disclosure is not a directive.


4.  The fourth idea source is
reorganizations. 
Often shortened to reorg, a reorganization is a transformative event in a company. It could be 

  • a merger, 
  • a big change in capital structure, or 
  • the sale of a major division. 
It often involves complications that only an investor comfortable with complexity would care to sort out.

Such complications repel many. This limits the universe of potential buyers. A lower share price can result.


5.  A fifth source is
small capitalization stocks
Also called small-caps, these issues generally have market caps under $2 billion.

Companies this size can be hard for institutional investors to buy, for two reasons. 


  • For one, they may be prohibited by charter from buying stocks with a market cap below some threshold. 
  • Second, even if they’re allowed to buy small-caps, it might not be useful for them to do so.


Picture a $50 billion mutual fund that sees promise in a $500 million market cap firm.  Even if it buys
 10 percent of the company, and that stake doubles in price, the needle on the fund’s overall performance would barely budge. So the investment wouldn’t be worth making.

These two factors leave many small-cap stocks untouched by a big part of the asset management universe. The result can be lower share prices worth pursuing for those running smaller amounts of capital.


Small-cap investing can take on some of the characteristics of
activism. Activism is agitating for change in owned companies. It can come with small-cap investing for two reasons. 

  • First, sometimes it’s necessary. Small-cap company management teams may take advantage of the absence of big institutional investors to do things that they wouldn’t with greater oversight. 
  • Second, it’s possible. Small-cap executives may be more accessible than large company executives. Presidents quickly returning e-mails is not unusual. 
In short, small-cap investing can occasion a deeper involvement with holdings, something that the astute investor readies for.

6.  A sixth source is
stock screeners
Stock screeners are Internet tools that filter stocks according to quantitative parameters. They’re often based on valuation metrics. One might fetch a list of stocks ranked by their price to book ratio, for example.

Stock screeners aren’t my favorite source. To the long-term holder interested in first understanding a business and seeing if it’s good, starting with valuation is putting the cart before the horse. Additionally, stock screeners can call attention to companies in outlying financial situations that wouldn’t interest someone looking to hold for life. Nonetheless, many strong investors get good at tapping this source for ideas.


7.  Seventh is
serendipity
Serendipity is the mental preparedness to receive tips from everyday life. It requires being engaged with the world. While driven by chance, it doesn’t strike randomly. It favors the open mind.

I first became interested in the Swedish company Clas Ohlson when I noticed that every time I went into one of their Stockholm hardware stores, there seemed to be
a lot of customers buying a lot of things. I analyzed the company and found it to be good. Had I not been receptive to ideas that crop up unexpectedly, I might not have noticed it.

Incidentally, this particular find didn’t play out perfectly. The stock never got inexpensive enough for me to buy. Plus, I got a little overzealous in my search for disconfirming evidence.


During travels around Sweden, I would pop into stores just to make sure that the chain’s appeal wasn’t limited to Stockholm. It wasn’t. They all had customers. Then late one afternoon at the end of a weekend in the city of Helsingborg, I walked into the Clas Ohlson store on the main pedestrian mall.  Empty.
Gotcha, Clas Ohlson. As I was peeking down the aisles to make sure that  I hadn’t missed anyone, a woman called over from behind a counter, “Pardon, but we’re closed.”

Serendipity is also useful in reaching conclusions about companies already under consideration. In 2012 I was analyzing Tesco, the British grocer. Investors I admired owned it. Also, I’d recently been floored by its express store on 
Monck Street in London. It had everything that I’d come for, all located right where I expected.

Serendipity intervened the next month, back in California. I noticed an ad for a new chain of supermarkets called Fresh & Easy. It turned out to be owned by Tesco. I visited the store closest to my house, in the city of Mountain View. Product quality was high, prices were fair, and the staff was attentive. Of course the staff was attentive—
I was the only customer. I stopped my analysis. Since then Tesco’s stock price has plunged, due in part to a drop in same-store sales to which my neighborhood Fresh & Easy clearly contributed.  It’s closed now.

Serendipity is great with consumer-facing industries like retail. They’re exposed. But one may be familiar with other, less universally visible industries because of a job or background. It works there, too.


Serendipity has the pleasant effect of boosting the relevance of ordinary environments. Everything is evidence. The logos on people’s shoes, the number of passengers on the plane, the brand on the broken escalator—all can inform judgments about what people buy, what companies make, and what products work. This doesn’t condemn one to a life at a heightened state of alert. Rather, it offers a spigot of ideas whose handle the astute investor controls.





#The seven sources are mere inspirations for the model. 

None of them credential an idea to pass through with preferential treatment. In fact, once one feeds an idea into the model, it’s best to forget where it came from.

The advantages of this practice are clear. When we forget that we’re looking at a company because it’s a spin-off, it’s owned by a hero, or its stock price plunged, we keep a whole raft of cognitive biases at bay. We get raw material worth processing, plus the clear mind needed to process it well.




Summary

Promising sources of investment ideas include:

1. Bad news
2. Spin-offs
3. Regulatory filings
4. Reorganizations
5. Small-caps
6. Stock screeners
7. Serendipity

Saturday 5 September 2009

Look before leaping into small stocks

10/29/99- Updated 02:09 PM ET


Look before leaping into small stocks

By John Waggoner, USA TODAY

Your neighbors are all buying stocks. So are your co-workers. Heck, the kids down the street are investing in Lemonadestand.com. You? You're sensible and have most of your money in mutual funds. But you have a little money put aside, and you want to try picking some stocks, too.

The operative words here are "a little" money. You want to spend maybe $2,500, preferably less. If you're buying in multiples of 100 shares - which can save you money on commissions - you're talking about stocks that cost less than $25 a share.

Evaluating such inexpensive stocks isn't as easy as evaluating a large stock like Intel. But it's not that much harder - and it can be rewarding.

Low for a reason

Most investors dream of buying a stock for $1 that turns into a 10-bagger - slang for a stock that gains 1,000%. But don't go that low - stocks priced below $5 a share are considered "penny stocks," and they can be dangerous. "When you get below $5 a share, the stinkers outnumber the 10-baggers," says Joel Tillinghast, manager of Fidelity Low-Priced Stock Fund.

Even stocks that sell from $5 to $20 need to be looked at closely. A $5 stock isn't low-priced by accident, says Robert Kern, manager of Fremont U.S. Micro-cap Fund. "It's that price for a reason."

And that reason is rarely a good one. In the best case, the company missed its earnings estimates for a quarter or two or is in an industry that Wall Street currently shuns. In the worst case, the company is shuffling off to oblivion. "You want to make sure you don't have complete wipe-out risk," Fidelity's Tillinghast says.

Check the numbers

So look for a strong balance sheet. Get the company's annual report and its most recent quarterly reports, either through a stockbroker or find them at the Securities and Exchange Commission's Web site, www.sec.gov.

Your first question: If sales take a serious downturn, does this company have enough money to survive the next 12 months? To get the answer, go to the balance sheet and find:

Current liabilities. This is the company's debt due within 12 months.

Current assets. This is the company's accounts receivable, cash, marketable securities and inventory - items that could be used to pay off current liabilities in a pinch.

Dividing current assets by current liabilities gives you a company's current ratio. You want this to be higher than 1, and preferably much higher. For a more conservative number, called the quick ratio, subtract inventory from current assets. Inventory can be tough to sell in a downturn.

You also should get an idea of the company's total debt vs. its total assets. In general, the less debt the better. How much is too much? It depends on the industry, Tillinghast says.

"Financial companies can support debt levels that would be terrifying to industrial companies."

Next question: Does this company actually make money? For that, look at earnings per share. Tillinghast likes to look for annual earnings-per-share growth of 10% or better. "If it's not 10% or more, I'll look for something better," he says.

And these are just starting points. You should be thoroughly familiar with the company and its fundamentals before you invest.

Different styles

Clearly, it's not easy to find a $10 stock that has no debt and 10% annual earnings growth. In most cases, that's because the company has stumbled recently. You have to figure out why the company's price might rise.

Different managers use different techniques. John Rogers, manager of the Ariel Fund, looks for stocks that are simply out of favor and should rebound. For example, HCC Insurance earned $1.57 a share the past 12 months. Like most property/casualty companies, it got clobbered this fall during hurricane season.

Analysts expect the company to earn $1.20 a share this year, which is short of expectations. But the stock's price is down more than 55% from its July 1999 high, while earnings are expected to be down only 24%. So Rogers figures it's been punished enough.

Erin Piner, manager of PBHG Limited Fund, looks for stocks with strong growth in earnings or sales. Her favorite low-priced stock, Hall Kinion & Associates, supplies staffing for Internet sites. Earnings have risen 58%, from 12 cents a share to 19 cents, and revenue is rising, too. "It's a low-priced way to play the build-out of the Internet," she says.

Most low-priced stocks are small-company stocks, and small-company stocks have been mostly ignored for years. So many of them are historically cheap. "I've never seen anything like it in the past 17 years," Rogers says.

More time and effort

Cheap or not, investing in individual stocks takes more time and effort than investing in mutual funds. Small-company stocks are often traded infrequently, which means you may have trouble selling for the last price you've seen quoted. You're also taking on more risk: There's always the chance a stock price can go to zero.

The stock picks in the chart are by some of the best small-stock fund managers in the business. But these are just starting points, and you need to investigate the stocks carefully. Otherwise, your tuition to Stockpicking University could be costly indeed. If this all seems like too much work, consider investing in a good small-cap stock fund instead.

Fishing for low-priced stocks

Finding small stocks can be tricky. Here, five pros offer some of their favorites. P-E, or price-to-earnings ratio, is a stock's price divides by its earnings per share. Higher P-Es generally show investors are willing to spend more, in the expectation of higher rewards.

http://www.usatoday.com/money/wealth/making/mmw182.htm

Tuesday 16 June 2009

Looking for investing ideas

Where to look for investing and/or trading ideas? There are thousands of different stocks, bonds and commodities. How can an investor find anything?

You need to be inquisitive about the markets. You will probably be drawn to the markets that you find most interesting. As you get to know more, try to identify patterns and anomalies in the way they behave. These will be the basis of your investing and/or trading idea.

It can be rewarding:

1. To be inquisitive, especially in the financial markets
2. To watch crowd behaviour. Jump onto some great trends and jump off when this turn more neutral. Trade with a consensus, rather than against it.
3. To think for yourself. Always apply your own reasoning.
4. To keep an open mind. Think about crazy things. Test them by asking challenging questions. The answers are less important than the thought processes they revealed.