Be realistic and you will avoid disappointment

It is worth reflecting on what your objectives are in your investment journey.

Having a clear sense of what you REALISTICALLY expect to achieve will help you to focus on what types of shares you may wish to buy, and having already considered what type of investing personality you are, what behaviours to be aware of and what your risk tolerance is, you can start to search for your investments with a clear sense of why you are going down a particular road.

If you do not have a clear sense of what you wish to achieve, it will be much more likely that you will make a less than optimum choice of investments, and that you may become disillusioned with what you achieve.

Be modest in your ambitions and realistic about what can be achieved. 
-  Do not expect to be right 100% of the time.  Anything over 50% of the time and you are doing well.
-  One of the key skills to learn is a little about how to understand and appreciate a business, and not the share price.  This approach will serve you well.



You should be realistic about your goals.

"In this business if you're good, you're right six times out of ten.  You're never going to be right nine times out of ten."  Peter Lynch

"It's not whether you're right or wrong that's important, but how much money you make when you're right and how much you lose when you're wrong."   George Soros

"If you took our top 15 decisions out, we'd have a pretty average record.  It wasn't hyperactivity, but a hell of a lot of patience.  You stuck to your principles and when opportunities came along, you pounced on them with vigor."  Charlie Munger.



Expect some of your share to go down, and some to go up.  The more you do your research and the more you learn over time, the relative proportion of the latter in relation to the former should increase.  If it does not, you may want to step back and reflect on what might be going wrong.  

A tolerance for ambiguity will serve you well as an investor, as will an inquiring mind.

I have $ 50,000 to invest into stocks, what should I do?

This young lady has saved $ 50,000 since she started her first job 3 years ago.  She would like to invest this money in the stock market.  How will you advise her?

She should not invest the money in the stock market if she needs to use the cash for other purposes within the next 5 years.  Investing in the stock market is best done with money she does not need for at least 5 years or more.  The market can be very volatile in the short term and she may be cashing her stocks when the market is in a bear phase, to her detriment.

With the above provision, she can safely invest into stocks (assuming that she has acquired the necessary education or guidance).    Here are probably some issues she can consider:

1.  Since the market has a good run since 2009 and is at historical high levels, she would need to be careful as she will be investing in a market where the prices of most stocks are probably also too high.  She should allocate 50% of her cash to fixed deposits and 50% of her cash into stocks.

2.  The money she put into stocks, she can diversify these into 5 to 7 stocks.  This will diversify some of the non-systemic risks associated with individual stocks.  Her portfolio will still be exposed to the systemic risk of the market, which cannot be avoided.

3.  She should select her stocks carefully, using a bottom up approach.  Her stock selections will be guided by her investment objectives, investing time horizon, and risk tolerance.

I suppose these 3 simple steps will be an initial plan that she can implement with the help or guidance of her mentor.  Hopefully, she has one or will ask for advice from one who is willing. 

50 Unfortunate Truths About Investing

Sorry, but ... 

1. Saying "I'll be greedy when others are fearful" is much easier than actually doing it.

2. The gulf between a great company and a great investment can be extraordinary.

3. Markets go through at least one big pullback every year, and one massive one every decade. Get used to it. It's just what they do.

4. There is virtually no accountability in the financial pundit arena. People who have been wrong about everything for years still draw crowds.

5. As Erik Falkenstein says: "In expert tennis, 80% of the points are won, while in amateur tennis, 80% are lost. The same is true for wrestling, chess, and investing: Beginners should focus on avoiding mistakes, experts on making great moves."

6. There are tens of thousands of professional money managers. Statistically, a handful of them have been successful by pure chance. Which ones? I don't know, but I bet a few are famous.

7. On that note, some investors who we call "legendary" have barely, if at all, beaten an index fund over their careers. On Wall Street, big wealth isn't indicative of big returns. 

8. During recessions, elections, and Federal Reserve policy meetings, people become unshakably certain about things they know nothing about.

9. The more comfortable an investment feels, the more likely you are to be slaughtered.

10. Time-saving tip: Instead of trading penny stocks, just light your money on fire. Same for leveraged ETFs.

11. Not a single person in the world knows what the market will do in the short run. End of story.

12. The analyst who talks about his mistakes is the guy you want to listen to. Avoid the guy who doesn't -- his are much bigger.

13. You don't understand a big bank's balance sheet. The people running the place and their accountants don't, either.

14. There will be seven to 10 recessions over the next 50 years. Don't act surprised when they come.

15. Thirty years ago, there was one hour of market TV per day. Today there's upwards of 18 hours. What changed isn't the volume of news, but the volume of drivel. 

16. Warren Buffett's best returns were achieved when markets were much less competitive. It's doubtful anyone will ever match his 50-year record.

17. Most of what is taught about investing in school is theoretical nonsense. There are very few rich professors.

18. The more someone is on TV, the less likely his or her predictions are to come true. (U.C. Berkeley psychologist Phil Tetlock has data on this).

19. Related: Trust no one who is on CNBC more than twice a week.

20. The market doesn't care how much you paid for a stock. Or your house. Or what you think is a "fair" price.

21. The majority of market news is not only useless, but also harmful to your financial health.

22. Professional investors have better information and faster computers than you do. You will never beat them short-term trading. Don't even try. 

23. How much experience a money manager has doesn't tell you much. You can underperform the market for an entire career. And many have.

24. The decline of trading costs is one of the worst things to happen to investors, as it made frequent trading possible. High transaction costs used to cause people to think hard before they acted.

25. Professional investing is one of the hardest careers to succeed at, but it has lowbarriers to entry and requires no credentials. That creates legions of "experts" who have no idea what they are doing. People forget this because it doesn't apply to many other fields.

26. Most IPOs will burn you. People with more information than you have want to sell. Think about that.

27. When someone mentions charts, moving averages, head-and-shoulders patterns, or resistance levels, walk away.

28. The phrase "double-dip recession" was mentioned 10.8 million times in 2010 and 2011, according to Google. It never came. There were virtually no mentions of "financial collapse" in 2006 and 2007. It did come.

29. The real interest rate on 20-year Treasuries is negative, and investors are plowing money into them. Fear can be a much stronger force than arithmetic.

30. The book Where Are the Customers' Yachts? was written in 1940, and most still haven't figured out that financial advisors don't have their best interest at heart.

31. The low-cost index fund is one of the most useful financial inventions in history. Boring but beautiful. 

32. The best investors in the world have more of an edge in psychology than in finance.

33. What markets do day to day is overwhelmingly driven by random chance. Ascribing explanations to short-term moves is like trying to explain lottery numbers.

34. For most, finding ways to save more money is more important than finding great investments.

35. If you have credit card debt and are thinking about investing in anything, stop. You will never beat 30% annual interest. 

36. A large portion of share buybacks are just offsetting shares issued to management as compensation. Managers still tout the buybacks as "returning money to shareholders."

37. The odds that at least one well-known company is insolvent and hiding behind fraudulent accounting are high.

38. Twenty years from now the S&P 500 (INDEX: ^GSPC  ) will look nothing like it does today. Companies die and new ones emerge.

39. Twelve years ago General Motors (NYSE: GM  ) was on top of the world and Apple(Nasdaq: AAPL  ) was laughed at. A similar shift will occur over the next decade, but no one knows to what companies.

40. Most would be better off if they stopped obsessing about Congress, the Federal Reserve, and the president and focused on their own financial mismanagement. 

41. For many, a house is a large liability masquerading as a safe asset.

42. The president has much less influence over the economy than people think.

43. However much money you think you'll need for retirement, double it. Now you're closer to reality.

44. The next recession is never like the last one. 

45. Remember what Buffett says about progress: "First come the innovators, then come the imitators, then come the idiots."

46. And what Mark Twain says about truth: "A lie can travel halfway around the world while truth is putting on its shoes."

47. And what Marty Whitman says about information: "Rarely do more than three or four variables really count. Everything else is noise."

48. The bigger a merger is, the higher the odds it will be a flop. CEOs love empire-building by overpaying for companies.

49. Investments that offer little upside and big downside outnumber those with the opposite characteristics at least 10-to-1.

50. The most boring companies -- toothpaste, food, bolts -- can make some of the bestlong-term investments. The most innovative, some of the worst.

50 Unfortunate Truths About Investing

By Morgan Housel
November 14, 2012
http://www.fool.com/investing/general/2012/11/14/50-unfortunate-truths-about-investing.aspx

Ultimately, the best investment ideas will come from doing your own homework. You should not feel intimidated.

Investment success is not synonymous with infallibility.  Rather, it comes about by doing more things right than wrong.

The success in your investment approach is as much a result of eliminating those things you can get wrong, which are many and perplexing (predicting markets, economies, and stock prices), as requiring you to get things right, which are few and simple (valuing a business).

When purchasing stocks, you should focus on two simple variables:  the price of the business and its value.  The price of the business can be found by looking up its quote.  Determining value requires some calculation, but it is not beyond the ability of those willing to do some homework.

The wonderful thing is because you are no longer worry about the stock market, the economy, or predicting stock prices, you are now free to spend more time understanding your businesses.

More productive time can be spent reading annual reports and business and industry articles that will improve your knowledge as an owner.  The degree to which you are willing to investigate your own business lessens your dependency on  others who make a living advising people to take irrational action.

Ultimately, the best investment ideas will come from doing your own homework.  You should not feel intimidated.

Determining how to allocate your savings is the most important decision you, as an investor, will make.

How To Build Wealth - The Four Pillars of Wealth

Achieve Your Financial Goals in the New Millennium Using Our Four Pillars of Wealth

An Investment U White Paper Report
By Alexander Green, Chief Investment Strategist, Investment U

Our philosophy of investing is this: You can’t go too far wrong if you get the big questions right.

The big questions are not “when will the economy recover?” or “where will the market go next?” True, these are the questions that most investors obsess over. But it’s a misallocation of your time.

The big question is how to build wealth with a game plan for the long haul and, more specifically, the following points that you can take action on:

• How can I secure the highest return with the least amount of risk?
• How can I protect both profits and principal?
• What can I do to build wealth and guarantee my investment portfolio will be worth more in the future?

Here’s how this philosophy can make this year – and your future ones – very prosperous.

How To Build Wealth Pillar 1: Stick to Our Asset Allocation Model

Successful investing begins by conceding that – to a degree – uncertainty will always be your companion.

You can guess what the market is going to do and be right or you can guess and be wrong. Or you can let some self-styled “expert” do the guessing for you. But no one guesses right consistently.

That’s why we follow a wealth-building investment formula that won Dr. Harold Markowitz the Nobel Prize in finance in 1990. His paper promising “portfolio optimization through means variance analysis” demonstrates how to maximize your profits and minimize your risk by properly asset allocating and rebalancing your portfolio.

Diversity Doesn’t Mean 3 Different Tech Stocks

Sometimes our readers tell us: “Oh, that means diversify. I already do that.” But that’s not what asset allocation is about. Right before the dot.com crash, you could have diversified into Microsoft, Intel, Yahoo and Amazon.com… and gone right off the cliff.

Asset allocation refers to spreading your investments among different asset classes, not just different securities or market sectors. Doing this has allowed us to survive, prosper and build our wealth, even during rough times.

High-grade bonds, real estate investment trusts (REITs), high-yield investments, inflation-adjusted treasuries, precious metals: It’s good to have at least a piece of each.

Because different asset classes are imperfectly correlated – some zig while others zag – our model allows you to boost returns while reducing your portfolio’s volatility.

In layman’s terms, proper asset allocation means you sleep better at night.

The Foundation of Our Philosophy

Asset allocation should be the foundation stone of your whole investment program. It’s critical to building your long-term financial health. To learn more about it, pick up a copy of William Bernstein’s excellent book, The Intelligent Asset Allocator.

How To Build Wealth Pillar 2: Adhere to the Oxford Safety Switch

Anyone can buy a stock or publicly traded fund. The real art of investing is knowing when to sell. Investment U does not rely on point-and-figure charts or tarot cards or Elliott Waves. Instead, we adhere to a time-tested trailing stop strategy. That means no member takes one of our stock recommendations without knowing in advance exactly where we’ll get out.

This takes the guesswork out of investing. And guarantees that both your profits and your principal are always protected. Here’s a quick review.

Let Your Winners Ride

We start all of our trading positions with a recommendation that you place a sell stop 25% below your execution price. As the stock rises, we raise the trailing stop. In other words, if you buy a stock at $20, your stop loss is at $15. When the stock hits $32, your stop loss (still trailing at 25%) will be at $24.

As long as the stock keeps trending up, we’re happy to hang on. If the stock pulls back 25% from it’s closing high, we sell. No questions asked.

And Cut Your Losses Early

You protect the profits you’ve earned on the way up and also protect your principal when things go awry. Everyone knows you should cut your losses early and let your profits run. But very few investors actually do it. The Oxford Safety Switch, championed by The Oxford Club, guarantees that you do.

During the bull market of the 1990s, many investors watched as their stock portfolios grew bigger and bigger. There was only one problem. They never took any profits. They had no sell discipline whatsoever. So when stocks started tanking, they watched many of those profits evaporate entirely. Some even turned into losses.

Other investors then bought stocks early in the ensuing bear market with high expectations. And they were crushed to see those shares drop to levels they never would have imagined.

In both cases, the fault was the same: They failed to have a sell discipline. Investors without one are flying by the seat of their pants. And that rarely ends in award-winning results. It’s simply not a practical means to build wealth.

Action to take: Use a trailing stop on all your individual stocks and have the gumption to stick with it.

How To Build Wealth Pillar 3: Size Does Matter Understand Position-Sizing

Often when the Oxford Club recommends a particular stock at a chapter meeting or seminar, someone in the audience will ask how much he or she should invest in it.

Of course, we know nothing about that individual’s net worth, investment experience, risk tolerance or time horizon. But we do have a position-sizing formula you can use to determine how much to invest in a particular stock: 3% of your equity portfolio. If you want to be conservative, invest less. If you want to be aggressive, invest more. But not too much more.

Don’t Fall in Love with an Investment

The saddest stories heard in the financial press are those of people who took a serious financial hit late in life because they were overconfident. In short, they liked an investment so much they plunked too much in it. Big mistake.

Yes, you could hit the jackpot that way and some people have. But that’s a roll of the dice and it’s not recommended.

Look at the thousands of people devastated during the recent bear market because their entire pension was tied up in their employer’s stock. More often than not, these folks had the option of putting the money into a diversified stock fund or safer alternatives.

Not spreading the risk might have felt like the right thing when the stock was rising, but it sure hurts on the way down.

You Can Afford the Hit

That’s why position sizing is important. It’s not just about the size of your initial position; it’s also about how much of your portfolio the position becomes. Many investors refuse to diversify even when a single stock becomes a substantial percentage of their entire portfolio. They always had the same excuse: “I just can’t afford the tax hit.”

But taxes should never be the first priority in running your investment portfolio. Former blue chips like WorldCom, Enron and United Airlines have taught us that – in hindsight – the federal tax bite can look like a kiss on the cheek.

How To Build Wealth Pillar 4: Cut Investment Expenses, and Leave the IRS in the Cold

Unless you run or sit on the board of the companies you invest in, there’s nothing you can do to affect your stocks’ performance once you own them. But there is a way to guarantee that your stock-portfolio value will be worth more five, 10 and 20 years from now.

Create wealth for the short- and long-term by cutting your expenses and stiff-arming the taxman.

Let’s start with expenses…

Just Say No To High Fees

Instead of buying the nation’s largest and best-performing bond fund, the Pimco Total Return Fund, we’re recommending the Manager’s Fremont Bond Fund (Nasdaq: MBDFX). You still get the nation’s top-performing bond fund manager, Bill Gross, but you forego the high fees and expenses associated with Pimco Total Return. Fremont is a no-load fund.

Likewise, we opted for the closed-end Templeton Emerging Markets Fund (NYSE: EMF) instead of the open-end Templeton Developing Markets Fund. Both funds invest exclusively in emerging markets. Both are run by Mark Mobius, the top manager in the sector.

But the Templeton Developing Markets Fund has a 5.75% front-end load. The Templeton Emerging Markets Fund – like all closed-end funds – has none. And it sells at an 11% discount to its net asset value (NAV). (You can never buy an open-end fund for less than NAV.)

In fact, there is nothing in our Oxford Portfolio that has a front-end load, back-end load, 12b-1 fees or surrender penalties. Furthermore, you can act on any of our recommendations through a no-load fund company or a deep discount broker that charges you no more than $8 a trade.

In short, a big part of our strategy in explaining how to build wealth is cutting portfolio expenses to the bone. Lower investment costs is the one, sure-fire way to increase your net returns.

5 Tax-Managing Tips (Reducing Expenses Helps To Build Wealth)

The second way is to tax-manage your investments. That means handling your portfolio in such a way that there is simply nothing there for the IRS to take.

Here’s how to do it:

1. Stick to quality. Higher quality investments mean less turnover. And less turnover means less capital gains taxes. The less you trade your core portfolio, the less tax liabilities you incur. As Warren Buffett warns, “the capital gains tax is not a tax on capital gains; it’s a tax on transactions.”
2. Try to hang on 12 months. Anything sold in less than 12 months is a short-term capital gain. And short-term gains are taxed at the same level as earned income, which can be as high as 38%. But long-term gains are taxed at a maximum rate of 20%. Even better, do your short-term trading in your IRA, where the gains are tax-exempt.
3. When you stop out in less than 12 months, offset your capital gains with capital losses. The IRS allows you to offset all of your realized capital gains by selling any stocks that have joined the kennel club. You can even take up to $3,000 in losses against earned income. Not selling your occasional losers is not only poor money management; it’s poor tax management.
4. Avoid actively-managed funds in your non-retirement accounts. Managed funds often have high turnover and Federal law requires them to distribute at least 98% of realized capital gains each year. You can get hit with a big capital gains distribution even in a year when the fund is down. In parts of Texas, this is known as “the double whammy.”
5. Own high-yield investments in your IRA, pension, 401K or other tax-deferred account. There’s no provision in the tax code to offset your dividends and interest. So do the smart thing. How to do this? Own big income-payers like bonds, utilities and real estate investment trusts (REITs) in your IRA.

	Average Portfolio	Oxford Portfolio
5 years	$140,255	$168,505
10 years	$196,715	$283,942
15 years	$275,903	$478,458
20 years	$386,000	$806,231

Your remaining choices are simple ones like owning tax-free rather than taxable bonds if you’re “fortunate enough” to reside in the upper tax brackets.

If you reduce your annual investment expenses and tax-manage your portfolio, the effect will be dramatic. For example:

The Vanguard Group of mutual funds recently conducted a study that indicates that the average investor gives up 2.4% of his annual returns to taxes. If you trade frequently, it’s likely much higher. We can also estimate that most investors give up at least 1.9% a year in commissions, management fees, 12b-1 expenses and other costs.

How to retain an additional 4% of your portfolio’s return each year: Reduce your expenses to .3% annually and tax-manage your portfolio.

Here are some important facts on how to build wealth and improve your portfolio over time using our strategy. The differences are not subtle.

The U.S. market has returned roughly 11% a year over the past 200 years. The previous chart reflects how a $100,000 stock portfolio grows at this rate – with the drag of taxes and high expenses, and without.

In other words, after 20 years, our cost-efficient, tax-managed portfolio is worth $419,000 more. (A million dollar stock portfolio, of course, would be worth almost $4.2 million more.) This is without factoring in any superior investment performance whatsoever! It’s simply the difference achieved when watching investment costs and taxes.

Armed with our Four Pillars of Wealth, a little diligence, and the discipline to stick with the program, we can all look forward to substantially higher real-world returns in our wealth-building pursuits.

The Four Pillars of Wealth, by the way, are fundamental to the success of Investment U‘s sister business, The Oxford Club, where Investment U’s profit strategies are put into action.

http://www.investmentu.com/research/buildwealth.html

The "Good Investment". Clarify your Investment Goals.

By pinpointing what you think represents value, you can now create your definition of a good investment.   You should be able to summarize it in one sentence.

Consider these examples:

Warren Buffett:  a good business that can be purchased for less than the discounted value of its future earnings.

George Soros:  an investment that can be purchased (or sold) prior to a reflexive shift in market psychology/fundamentals that will change its perceived value substantially.

Benjamin Graham:  a company that can be purchased for substantially less than its intrinsic value.

A few more examples:

The Corporate Raider:  companies whose parts are worth more than the whole.

The Technical Analyst:  an investment where technical indicators have identified a change in the price trend.

The Real Estate Fixer-Upper:  run-down properties that can be sold for much more than the investment required to purchase and renovate them.

The Arbitrageur:  an asset that can be bough low in one market and sold simultaneously in another at a higher price.

The Crisis Investor:  assets that can be bought at fire-sale prices after some panic has hammered a market down.


Coming to your definition of a good investment is easy - if you're clear about the kinds of investments that interest you and have clarified your beliefs about prices and values.

Your mental focus is: on YOUR INVESTMENT PROCESS

The Master Investor treats investing like a business: he doesn't focus on any single investment but on the overall outcome of the continual application of the same investment system over and over and over again.  He establishes procedures and systems so that he can compound his returns on a long-term basis.  And that's where his mental focus is:  on his investment process.  

Once you're clear what kind of investments you'll be buying, what your specific criteria are, and how you'll minimize risk, you need to establish the rules and procedures you'll follow to gain the Master Investor's long-term focus.


Bottom line:  Focus on your investment process  to compound your returns on a long-term basis

Better Investing Philosophy

Fundamentals of Investing

 

Explaining the BetterInvesting Philosophy

 

Our February issue traditionally includes an invitation for you to bring a visitor to your investment club meeting so that they can discover how clubs can help them build wealth and can learn about BetterInvesting’s philosophy. Two years ago we published an article explaining our approach to investing that proved popular with readers. This month we’ll tackle the subject again. If you’re bringing a guest to a meeting or want to introduce someone to the BetterInvesting approach, you might consider giving them this issue.

Brad Perry, in his classic book Winning the Investment Marathon, wrote that investing “is pursued most successfully in a simple, straightforward way.” This is the Golden Rule for most investors who employ fundamental analysis and have a long-term perspective. Buy stocks of high-quality companies at good prices and continue holding them as long as the companies’ performance merits doing so.

Sales drives earnings; earnings drives the stock price. That’s what it comes down to for fundamental investors. You might hear of different ways to buy and sell stocks, and countless books have touted systems that promise great returns. But over the long term fundamental analysis is what works in building wealth.
   
Fundamental analysis comes down to studying a company’s financial performance. Broadly, there are those who look for growth stocks and those who look for value equities, but the line between value and growth investing is gray: As Warren Buffett says, value and growth “are joined at the hip.”
   
Value investing, as practiced by Buffett and his mentor Benjamin Graham, is a time-tested method involving fundamental analysis that has served many investors well. But for the typical person who has a job and family and who is managing his own portfolio while following Perry’s admonition to keep it simple, fundamental analysis focused on growth stocks might be more appropriate.
   
This is because individual investors can spot a good growth company quickly. BetterInvesting’s Stock Selection Guide arranges the fundamental data in a way that allows users to see a company’s growth and management performance as well as the stock’s investment possibilities in just a few minutes; see the Stock to Study SSG on pages 29 and 30 for an example. Meanwhile, the work required to spot a good value stock is a little more complex. But as we’ll discuss later, value should be a vital consideration as well.

The Three Most Important Ideas:
Management, Management, Management
The individual investors who belong to BetterInvesting ask two questions when studying a stock:

•  Is this a well-managed company?
•  Is its stock reasonably priced?
   
We seek great management because talented, capable executives know how to ensure their company thrives over the long term amid competitive battles and periodic downturns. These are the people, in other words, who are responsible for driving the sales and growth increases that fuel stock prices.
   
In assessing management, we don’t know everything about a company’s day-to-day operations and boardroom discussions. But as laid out in a methodology promoted by association co-founder George Nicholson, we do have a lot of the information we need. A first step in finding a well-managed company is to look at the history of sales and earnings growth. An important indicator of strong management is its ability to grow the business in good times and bad.
   
We also seek companies that are growing sales and earnings over the long term at a rate that’s high relative to their size. Smaller companies generally should be growing earnings by at least 15 percent a year; mid-size companies, by 10 percent to 15 percent a year; and large companies, by at least 7 percent annually.
   
We want smaller companies to have higher growth rates partly because they generally are riskier investments than large companies. The higher growth rate compensates us for this additional risk, and if we do a good job of assessing these companies, we’ll see handsome returns. As you’ll see in this issue in “Repair Shop” and “Watch List,” finding small companies can be challenging but also quite rewarding.
   
Finally, we favor consistent growth over the long term. In the graph on this page, for example, note the railroad-track-like growth of the company’s sales and earnings. Consistent performance reassures us about the capability of management. And although the past is no guarantee of future performance (as they say in the mutual fund world), history informs our decisions regarding future growth.
   
Two other tests help us assess the company’s management. First, we check the company’s profitability before taxes and other charges outside of management’s control. We like to see stable or growing profit margins. The other ratio is return on equity — how well management is using the equity invested in the company. Again, stable or growing ROE is preferred. Comparing the company’s growth rates, profitability and ROE with those of its peers helps determine whether this is a company built for a long voyage or is simply benefiting from the rising tide for its industry.



Evaluating the Investment Potential

Once we’ve determined the company in question is likely a high-quality one worth studying further, we next project sales and earnings growth. As fundamental investors, we know that in the short term, the market may not reward the company for its excellence. But over the long term, we trust that it will. So it’s the long-term projections — five years, very roughly enough for the company to go through a business cycle — we care about.
   
We start by forecasting sales growth because we need this for building our earnings projection. With the caveat that making long-term predictions can be a humbling experience, we have a number of data points at our disposal, including:

•  The company’s historical growth rate.
•  Company statements regarding growth goals.
•  Wall Street estimates of both short- and long-term growth. Long-term sales growth estimates can be difficult to find but are sometimes buried in analyst reports.
•  The industry’s historical growth rate and estimates of future expansion.
   
More experienced investors might consider such factors as the percentage of recurring revenues, the value of projects under contract but not yet completed and historical organic growth and growth by acquisition. For retailers, they might look at projections for store and square footage expansion as well as same-store sales growth. But history is a powerful teacher for beginning and experienced investors alike.
   
We then estimate earnings growth in light of the sales projection. We’ll consider the company’s history of earnings growth and any goals it has stated. We can also access analyst reports and analysts’ consensus estimates, but these forecasts are usually overly optimistic.
   
Studying past and potential future profit margins and tax rates can help us understand the path revenues will take to earnings. We also want to think about what will happen to the firm’s number of common shares outstanding. For example, if a company regularly buys back shares to reduce the number of shares outstanding and is expected to continue this practice, we would expect future earnings to be spread among fewer shares.
   
When we’re finished, we use the earnings growth rate to arrive at an estimate of earnings per share five years from now. If we have forecast growth of 15 percent a year, and the EPS at our starting point is $1, five years from now EPS will be $2. Two things to keep in mind regarding projections:

•  It’s prudent to be conservative.
A firm might have increased earnings 25 percent annually over the past 10 years, but such performance is extremely difficult to maintain. Gravity will eventually take hold as a company moves from small to mid-size to large.
•  Earnings advances can outpace sales growth for only so long. Over the long term, they usually settle in at the rate of revenue growth. If you’re going to project EPS increases that are higher than sales growth, understand where the additional percentage points are coming from: Increased margins? Lower taxes? Fewer shares outstanding?

Checking Valuation

Once we’ve predicted the EPS five years from now, we’re ready to answer our second question: whether the stock is reasonably priced. Investors are good at discovering high-quality stocks but experience more challenges in determining the proper price to pay for the stock. Our first step is to study the stock’s price-earnings ratios over the past several years and forecast the likely high and low P/Es over the next five years. The P/E, the stock’s current price divided by a company’s EPS, is how much the market is willing to pay for $1 of a firm’s earnings; it’s the most common way to measure how expensive a company’s stock is.
   
Historical valuations can help us in this process, but P/Es often go through unpredictable periods of expansion and contraction as industries go in and out of favor on Wall Street. Another idea to keep in mind is that a stock can trade at extremely high P/Es for a while but eventually will drop — severely so when a high-growth company stumbles. P/Es also tend to contract in times of inflation.
   
After we have predicted what the high P/E for a stock will be, we’re ready to estimate a potential high price for our stock. It’s a matter of simple math: The high point of EPS — what we forecast the EPS to be five years from now — is multiplied by the high P/E to come up with a potential high price. For example, if we predict EPS will be $2 in five years and the high P/E will be 30, our predicted high price will be $60.
   
After projecting the low P/E, we can multiply it by the expected low EPS to come up with a potential low price. Since we’ve determined this is a growth company, we usually can use the most recent 12 months’ EPS as the low point for earnings. I can use other criteria for projecting a low, but this is a common method for determining this figure.

Return Expectations

Now that we have the stock’s potential range from low to high, we’re ready to see whether this stock will provide a suitable return. Our SSG divides the range into three zones: Buy, Maybe (or Hold) and Sell. The lowest 25 percent of the range is the Buy zone, and the upper-most 25 percent is the Sell zone.
   
We include the stock’s dividends — the cash payments of earnings to shareholders — in our return calculations. This gives us three ways to achieve a return on a stock: 

• through dividends,
• through the market increasing the stock’s price in concert with the earnings growth and 
• through the stock’s price rising because the market believes the P/E should be higher.

   
We aim for our stock holdings to return 15 percent annually on average over the next five years, or a doubling of return. That’s an aggressive target, but the idea isn’t to be disappointed if we fail to meet it. It’s to maintain our focus on seeking high-quality growth stocks. Achieving returns of, say, 10 percent yearly is pretty commendable.
Managing Risk

Investors can manage their risk in picking individual stocks by following some simple rules:

•  Require that the company have at least five years of financial history. Younger firms haven’t developed enough of a track record for assessing management performance.
•  Study only companies that have proven they can make money. Someone who invests in a company that has never reported earnings is speculating, not investing.
•  Understand the possible risk and reward of owning a stock.
•  Diversify your portfolio. Even if you’ve done your homework on every holding using all the information you need to make an informed decision, you’ll still make mistakes. If you have a good-size basket of stocks, however, you’ll also have some stocks that perform much better than expected.
   
Besides investing in high-quality growth stocks and diversifying your portfolio, two other simple principles can help you build wealth over the long term. 

• First, reinvest all your dividends and earnings. 
• Second, invest regularly in both good markets and bad; this is often called dollar-cost averaging.

   
The type of analysis I’ve outlined provides a lot of the information fundamental investors need to determine whether a stock is a suitable investment. But not everything. Reading annual reports, listening to conference calls and viewing company presentations will help you form a fuller picture of the company.
   
In today’s unpredictable, volatile market, fundamental analysis is even more important than usual. But for an investor using a simple, straightforward methodology that focuses on the long term, these are also times of great opportunity.

http://www.betterinvesting.org/Public/SingleTabs/BI+Mag/Articles+Archives/0210publiccs.htm

Long Term Stock Picks For Investing Beginners

If there is one thing that the recent recession has taught us, it is that everyone should be responsible for their personal finances and investments. Despite the fact that you are paying professionals for their stock pick advice and their inside track on hot stock picks, how many of them really have your best interest at heart or actually know what they are doing? How many Ponzi scheme stories do we have to hear on the news about people being robbed of their life savings? For some retirees, this is a devastating blow. For others, there is still time to make it back with long term stock picks on the horizon.

After suffering a financial set back, it might be hard for some investors to rebuild their fortune but the same investment advice can be applied to those who are beginning investors. Before you begin to invest, you need to have your personal finances in order. This means you need to have your emergency funds in place so you won’t feel obligated to sell your best stock picks because you need the money. It is generally regarded that you should put away enough money in your savings account for six months to a year if something goes wrong and you are out of a job. As an investment tip, it is recommended that you only invest with money you won’t need for a period of five to ten years. Even though you can make fast money in the stock market, you can also easily lose money too. The way to reduce these risks is if you think for the future with long-term stock picks. You want to invest in growth stocks that are trading cheaply for their future potential as opposed to hot penny stocks that are more erratic and risky.

To be honest, any stock picking advice can be reduced to one golden rule: buy low and sell high. However, it is important to note that it doesn’t cover the time line. You can make money on the stock market within a few minutes or you can make money over a period of years. Perhaps this is why famed billionaire investor Warren Buffett has his number one rule of investing as well: never lose money. His second rule of investing is never forget rule number one. Warren Buffett’s investment advice might sound glib but surprisingly, so many people do lose money in the markets. This is because while they might have a few winning stock picks, the vast majority of them were losers. So they understand the concept of buying low and selling high but they don’t do it consistently to make money in the stock market. And perhaps this is due to their time horizon.

If there is one person you should take investment advice from, it is Warren Buffett. He has an incredible financial mind and yet he can distill concepts to teach investing for beginners. So while you can make money from day trading, foreign exchange arbitrage, shorting stocks, buying and selling options and warrants, Warren Buffett does it the old fashion way with long term stock picks. Buffett’s investment strategy simply reduces the risk by buying good companies at a fair price. Again, this might seem like a very simplistic stock tip but it is amazing that so many people cannot understand the concept.

According to Buffett, price is what you pay, but the value is what you get. For example, a company’s share price might be the lowest that it has been in a year but is it worth it to begin with? There have been lots of stock market bubbles in the past with certain sectors being overvalued only to come crashing down again. When looking for best stocks to invest, it is important to look past the hype and realize a company’s intrinsic value. You should also invest in something you understand as well. If you don’t understand a business, how can you do your stock analysis? You need to do your stock pick research by going through a company’s annual reports and financial statements. This is called fundamental analysis. If you can identify top stock picks that are trading below their intrinsic value, you can keep them in your portfolio for the long term. And if you can find cheap stocks that are mispriced you will have the luxury of time for the long term horizon which gives you a margin of safety. Therefore, let this be another stock pick advice: when a company is overhyped, its stock price is probably overvalued. When a company’s stock is trading below its intrinsic value and the pundits are tell the public to sell, that is when you should go against the grain and buy. Again, the point of making money investing is to buy low and sell high. Therefore, even though a lot of people are scared to invest in the stock market because of the economic crisis, this is the best time to invest in recession stock picks.

If you follow Warren Buffett’s stock picks advice of applying a margin of safety when buying a few good companies and waiting patiently for the price to go up again, you will make money in the stock markets. The Warren Buffett strategy is also called focus investing. You put your focus on finding a few winning long-term stock picks. For some people, this might seem risky as it goes against the popular thinking of diversification. However, the point of diversification is because you want to reduce risks but what are the risks if you do your due diligence? This is very important advice for beginning investors to adhere to as well. It is easy to make money on a few hot stocks but it is hard to make money consistently in the stock market so always do your research.

As a final word of advice for stock market beginners, if you don’t have time to learn how to invest in the stock market, the next best thing is to invest in index funds instead of managing a stock portfolio yourself. An index fund is a low cost mutual fund that tracks a particular stock market index by buying the same companies that make up the index. Since markets rise over the years, this takes care of your long term investments. Of course, you will only do as well as the market and you won’t have the fun of watching break out stocks but the truth is most mutual funds are closet index funds anyway. If you look at the mutual fund stocks, most funds will be a duplicate of some index so why pay the extra management costs that eat away at your return? And for those high profile money managers, do you really trust them with your money after all that’s happened in the news with the financial scandals? While there are undoubtedly honest money managers out there, how do you separate the good ones from the bad? The bottom line is that no one will have your best interest at heart and care about your long term investments more than you. You might as well learn about investing for yourself.

http://warrenbuffettstockpicks.com/long-term-stock-picks-for-investing-beginners/