Unlimited Profits From Good Stock Pick. Be Choosy and Consistent in Your Stock Selelction Criteria

Having A Good Stock Pick
Is Your First Step to Make Money in Stock Market

Summarized Overview

In this article you will find information about how to select a good stock quantitatively, why the strategy is so important and the critical key financial ratio.

You will also find information on what is important in corporate annual reports.

Reasons to Have Good Stock Pick Strategy

Though there are thousands of stocks in stock market nowadays, not many of them are worth investing. In ever changing business environment, it is not easy for companies to remain profitable.

Worse, hardly any of them have shareholders' interest at heart. That is why, stocks represented by quality companies with effective management team is the key to get a higher investment return.

My Five Stock Screening Criteria

A good stock pick should've consider effective management as it is everything in sustainable stock investment. Thanks to financial ratios, picking good stock is just a simple math away.

Above average EPSGR and excellent ROE is my first stock screening criteria to filter rubbish stocks in the stock market. You can choose any figure which you feel comfortable. But, the figure 10 I chose is because:

• 10 per cent EPSGR shows that the company has reliable high demand products or services.
• 10 per cent ROE shows that the company are managing shareholders’ fund effectively.
• 10 consecutive years means the company able to survive the ups and down of the market, business cycles or the ever-increasing competition.

Past performance doesn't guarantee anything in the future for sure, but it is the best information for good stock pick. Should there be no changes in it's business foundation and it's management, profit will continue to be sustainable. For any circumstances, effective management will find ways to stay ahead of competition.

On top of that, i did consider:

• less than 0.6 debt to equity ratio (D/E) so that the company has manageable debt during economic crisis.
• high profit margin which shows the management really did a great job in reducing operating cost to maximise profits.

Be Consistent in Your Stock Selection Criteria

You have to be choosy and determined in selecting which stocks you'll be investing in.


If you love speculative stocks, this method is not for you. Rumors and hot tips are just not my taste.

But if you are serious ininvesting for long-term, or value investing as what Warren Buffet did, this good stock pick can easily get rid of junk and worthless stocks straight from the beginning.

Test yourself, and see the result!

http://www.stock-investment-made-easy.com/good-stock-pick.html

"Time in the Market" versus "Timing the Market"

Why Invest in Stock Market When There are Other Investment Options?

Advantages of Stock Market Investing

Why I Love Stock Investing So Much

Summarized Overview

In this article you will find information about reasons to why invest in stock market than other investment options, historical stock market performace from 1926 to 1999, short comparison to other investment vehicles, namely mutual funds, real estate and own a business.
Happy Investing!

Three Reasons Why I Invest in Stock Market

Advantages of Stock 1: Own Profitable Businesses

This is the major reason to why invest in stock market. Building own business might be your ambition, especially if you are an employee like me. But no matter how big or small the business you are going to build, it require A LOT of commitment, time and money.

With stock, owning a business is a lot easier, and cheaper too!. Just imagine, owning a business empire without ever showing up at work. You just have to sitback and relax, watch your company growing from time to time.

By the end of the year, you can collect checks from dividend issued. As your company grows, your stock valuation appreciates as well. You will be amazed on how much return you'll be getting by just holding them as long as possible. Does it sound too good to be true?

Advantages of Stock 2: Flexible Holding Position

You can buy more of the same stock if you find it profitable and undervalued. On the other hand, you can sell some or all of them if it is overvalued or the company losses money. Depend on your stock investing strategy, this flexibility can help you achieve your financial goal faster.

Unlike if you had your own business, even if it losses money, you have to stick with it and struggle to make it profitable to cover your ongoing overhead costs. Same goes to real-estate. If you made mistake since the first day you own the properties, you'll end up losing more and more money paying the mortgage with no rental income to cover.

Advantages of Stock 3: Can Do-It-Yourself

What is your primary investment options? Cash Deposits Stock Market Mutual Funds Own Business Real Estate Others

I can analyze stock profitability, track stock performance, call my broker for transaction and organize my stock investing strategies all by myself. I just have to catch up with few financial ratios either from analyst reports, business magazines, local newspapers or simply from myannual reports collection.

With good time management and focus on your research, all these processes are not require a lot of commitment, really. You don't have tenant to manage, supplier to deal with or customer to face in stock investment.

Unlike mutual funds, you have an absolute control over your investment decision. I can still have fun with my families and concentrate on my working career but make more and more money.

Historical Stock Market Performance

The average stock market is growing over time. Even excludingdividends paid, bonus issue or right issue, the stock market still able to grow 11 to 18 per cent per annum. Cool huh? Can you imagine if your stock has above average performace? Believe me, you can reach even 35 per cent return!

This is why invest in stock market is a very attractive options.

http://www.stock-investment-made-easy.com/why-invest-in-stock.html

If you are investing for long term, try to avoid cyclical stocks. But, it is ok to trade these stocks.

Acknowledge its Industry Nature

Companies have its own business cycle. This especially true to cyclical stocks. Businesses like housing properties, airlines or automobiles are more susceptible to the overall economy.

When the economy is riding the bull market, customers tend to spend more on luxuries thingy like cars, housing and holidays to overseas. But when economy experience slight downturn, people are more likely to avoid spending on the luxury things. 

Just imagine, when more employees been laid off and higher cost of living (as effect of inflationary pressures), buying new homes or brand new cars are most probably the last things in their mind. Struggling their lives through the turbulence time thought them how important cash saving is. If you are investing for long term, try to avoid this type of stock. But, it is ok to trade these stocks.

How to Calculate Intrinsic Value for Stock Investing

How to Calculate Intrinsic Value
Discounted Earnings, Instead of Just Cash Flow

Summarized Overview

You will find information about why you should calculate intrinsic value in stock market investing, and step by step guide on how to do it.

You will also find information about which key financial ratios to use and what you have to do after calculating intrinsic value.

Why You should Calculate Intrinsic Value

Simply because, you don't buy any stock at any price, do you? Do you know why? Because you want as much return as possible!

The price you are paying is the ultimate determinant for the rate of return that you'll be earning. The higher the price you pay for it, you'll be getting lower rate of return. This is why, you need to know how much a stock worth. Once you know its value, you can identify which stocks are traded at discounted price.

However, buying a stock simply because it is cheap is not the right approach either. This is another reason to calculate intrinsic value. To buy quality stocks at discounted price, value for money right?

How to Calculate Intrinsic Value

The way to go is, search for stocks whose prospects you believe in ( with good stock pick method ) and then use a valuation technique to ensure the purchase price is acceptable. Here, I use net present value (NPV) formula.

How to do it? Let say you are valuing stock ABC,

From 13 years historical data, you get the information as above. To proceed, you also need to firm up your expectation based on your risk profile. In this example:

• I set my investment horizon as long as ten years from 2007. So that in 2018 I can use the fund to finance my children's study
• I am confident stock ABC will continue growing 13 per cent per year for the next ten years (13 years records prove this stock able to grow 13 per cent EPS per year)
• I assume stock ABC will be having the same PER and dividend payout by end of 2017 (or early in 2018)

I am expecting 12 per cent return on investment (ROI) so that my initial investment able to cover my children's tuition costs in ten years time.

Let's start calculating intrinsic value of stock ABC.

Step One: Forecast Share Price

First of all, you need to forecast its share price ten years down the road. In this case, I project the price for the next ten years using 13 per cent per year growth.

Step Two: Forecast Total Future Value

Secondly, you need to calculate the total future value. This must include the potential dividend as well.

Look, some investors doesn't care much about dividend. To them, dividend is just too small to be considered. But as it has effect to the total future value, it should be taken into consideration.

By the end of the day, you can compare the stock's profitability to others; which may not pay any dividend at all.

Step Three: Calculate Intrinsic Value

After having all these data, then only you can calculate the intrinsic value for stock ABC.

Step Four: Compare with Current Stock Price

The intrinsic value above is because my goal is to get 12 per cent per annum from this stock. If so, current stock's price, which is $33.50, is acceptable indeed (stock price is below the intrinsic value).

How Do You Calculate Intrinsic Value? Discounted Cashflow Discounted Dividend Discounted Earnings Never Calculate What For?

But if your goal is about getting 25 per cent per annum return on investment, the intrinsic value will be $22. In this case, the current stock price will no longer acceptable for you.

For this same reason, you can say that current stock price is suit to those who are aiming for 15 per cent return per annum (in economics, this called as Internal Rate of Return or IRR)

What's Next?

As you can see, intrinsic value can be relatively different from one investor to another depending on the expected return. Expecting very high return will limit your investment options. On the other hand, having very low expected return may as well better keep the cash in fixed deposit.

As an investor, it is crucial to set a realistic target on the expected profits.

It is better if before you calculate intrinsic value of your selected stock, assess your own risk profile first. This will help you to determine your realistic preferred return based on your need, ability and investing habits.

Eager to buy stock? Hang on first! You need to have the fair value as another comparison. This is what mention by Warren Buffet's guru, the margin of safety 

http://www.stock-investment-made-easy.com/calculate-intrinsic-value.html

Related Reading

How to Value Stock - 3 Methods Warren Buffet Wants You to Learn
If you are looking for ways on how to value stock, click here. I'll share with you 3 stock valuation model most commonly used by stock analyst.

Additional Reading

How to Determine Margin of Safety in Stock Investing
Margin of safety is a way to preserve capital. Find out how to determine fair value for each stock effectively.

Guide in Analyzing Company for Stock Investing
Four guidelines in analyzing company that you are about to invest in. Find how companies difference to each other.

Fundamental Analysis: Definition and Basic Guide for Beginners
Fundamental analysis is a practice that attempt to determine stocks’ valuation. This technique is focusing on the underlying factors that affect the company’s actual business performance.

Unlimited Profits From Good Stock Pick
Discover my simple but profitable stock screening criteria. It is proven to be a good stock pick strategy for all stock investors.

Related Books

Security Analysis
Security Analysis is the bible of fundamental analysis. Originally published in 1934, the tome systematically lays bare the science of security analysis.

Value Investing: From Graham to Buffett and Beyond (Wiley Finance)
Discusses where to look for underpriced securities, how to determine the intrinsic value of a stock, and alternative methods for constructing a portfolio that control risk without restricting investment return.

The Intelligent Investor: The Definitive Book on Value Investing. A Book of Practical Counsel (Revised Edition)
Among the library of investment books promising no-fail strategies for riches, Benjamin Graham's classic, The Intelligent Investor, offers no guarantees or gimmicks but overflows with the wisdom at the core of all good portfolio management.

Intrinsic Value Calculation

Inputs			Default	Input Values (used for calculations)
Your Investment Horizon in Years (Max of 10):			5	5
Most Recent Reported EPS (Earnings Per Share):			#N/A	0.1151
Projected EPS Growth Rate:			#N/A	15.00%
Projected Average Annual PE Ratio:			NA	10
Average Dividend Payout Ratio:			#VALUE!	35%
Desired Minimum Annual Return:			NA	10%
Current Stock Price			NA	$1.40

Calculations
Estimated Earnings Per Share after year 5:	$0.23
Forecasted Stock Price after 5 Years:	$2.32
Total Estimated Dividends for the next 5 Years:	$0.08
Total Estimated Stock Value after 5 Years:	$2.40
Current Share Price:	$1.40
Estimated Intrinsic Value:	$1.49
Estimated Margin of Safety:	-6.27%

-----------------

Inputs Default Input Values (used for calculations) Your Investment Horizon in Years (Max of 10): 5 5 Most Recent Reported EPS (Earnings Per Share): #N/A 0.1151 Projected EPS Growth Rate: #N/A 10.00% Projected Average Annual PE Ratio: NA 10 Average Dividend Payout Ratio: #VALUE! 35% Desired Minimum Annual Return: NA 15% Current Stock Price NA $1.40

Calculations
Estimated Earnings Per Share after year 5:	$0.19
Forecasted Stock Price after 5 Years:	$1.85
Total Estimated Dividends for the next 5 Years:	$0.06
Total Estimated Stock Value after 5 Years:	$1.92
Current Share Price:	$1.40
Estimated Intrinsic Value:	$0.95
Estimated Margin of Safety:	31.87%

---------------

http://smartstockresearch.com/InvestingBasics/Articles/Stock-Analysis-Spreadsheet.html

More Topics 
How To Research A Stock 
How To Generate Investing Ideas 
What To Know Before You Begin Investing 
Why Invest Now? 
What Type of Investor are You? 
Is Investing in Stocks Like Gambling? 
What Does a Stock's Price Tell You? 
How To Read a Balance Sheet 
How To Read an Income Statement 
How To Read a Cash Flow Statement 
Why Read the Annual Report? 
Should You Be An Investor or Trader?

Online Investing Guide 
Where to Learn How To Invest 
Online Brokers 
Where to Get Stock Ideas 
Where to Get Basic Company Information 
Where to Get News, Opinions, and Advice 
Where to Get Analyst Research 
Where to Get Economic Information

Value Investing - One of the best known stock-picking methods. Find companies trading below their inherent worth.

 Value Investment  


Value investing is one of the best known stock-picking methods. The concept is  simple: find companies trading below their inherent worth.

Benjamin Graham is considered the first proponent of value investing . He assumed that two values are attached to a company. The first is the market price, the value of the company on the stock exchange. The second is a company’s business value.

Business value or intrinsic value is based on its ‘real time’ value in the event of a merger with a competitor or in a takeover situation. Alternatively the owners may consider the business value as the amount that could be achieved by breaking up the company and selling all its assets.

The value investor looks for bargain price stocks: stocks selling at a low price but with strong fundamentals - including earnings, dividends, book value, and cash flow. Companies that are undervalued by the market have the potential to increase in share price when the market corrects itself.

Value investing doesn't mean just buying any stock that declines and therefore seems "cheap" in price. Value investors have to do their homework and be confident that they are picking a company that is cheap given its high quality. It's important to distinguish the difference between a value company and a company that simply has a declining price. For example, in the past year Company A has been trading at about $25 per share but suddenly drops to $10 per share. This does not automatically mean that the company is selling at a bargain. All we know is that the company is less expensive now than it was last year. The drop in price could be a result of the market responding to a fundamental problem in the company. To be a real bargain, this company must have fundamentals healthy enough to imply it is worth more than $10 - value investing always compares current share price to intrinsic value not to historic share prices.

One of the greatest investors of all time, Warren Buffett, has proven that value investing can work: his value strategy took the stock of Berkshire Hathaway, his holding company, from $12 a share in 1967 to $70,900 in 2002. The company beat the S&P 500's performance by about 13.02% on average annually! Although Buffett does not strictly categorize himself as a value investor, many of his most successful investments were made on the basis of value investing principles.

We should emphasize that the value investing mentality sees a stock as the vehicle by which a person becomes an owner of a company - to a value investor profits are made by investing in quality companies, not by trading. Because their method is about determining the worth of the underlying asset, value investors pay no mind to the external factors affecting a company, such as market volatility or day-to-day price fluctuations. These factors are not inherent to the company, and therefore are not seen to have any effect on the value of the business.   In the long run, stock prices will reflect this business value, but in the short and medium term, market prices are often far above or below it. 

http://www.trade4rich.com/Value.html

Value Investing - Mr. Market

Mr. Market  


Benjamin Graham used an imaginary investor called Mr. Market to demonstrate his point that a wise investor chooses investments on their fundamental value rather than on the opinions of others or the direction of the markets.

Let's say you own a business and have a partner. His name is "Mr. Market." Your business is a good one. It has given you a high return on what you have invested in the business. The only problem is that your partner, Mr. Market, is kind of a strange dude. He's very emotional. Some days he's on a very euphoric high and other days he's very depressed.

Mr. Market has a curious habit. Every day he comes into the office and offers to sell you his share of the business or buy yours. However, because he is so moody, if he happens to be euphoric on a particular day, he wants a very high price for his share. On the other hand, if he's in one of his down moods, he's willing to sell out for a pittance.

The interesting thing about Mr. Market is that he doesn't seem to care whether or not you choose to buy his interest or sell yours. He doesn't get his feelings hurt. You can do whatever you want. It's completely up to you. He just keeps coming in the office every day, offering to buy or sell at wildly different prices. It's always the same good business it has always been. That doesn't change. It's just that, depending on his mood, some days Mr. Market is enthusiastic about the business and other days he's very pessimistic.

Since you know what the business is worth, you can just listen to Mr. Market's offer every day and decide if his offer is a good one or one you want to turn down. Even though Mr. Market's moods might be difficult to get used to, he's actually a great business partner to have.

That's exactly the way you should view the stock market. Choose your favorite business that happens to be one of the 10,000 or so publicly traded stocks. Look at the stock tables in the paper and notice the yearly high and low price for that stock. You'll find that there can be a dramatic difference between the high and the low during a single year. The business hasn't changed. It's just the mood of Mr. Market that changes.

http://www.trade4rich.com/Market.html

Value Investing - Margin of Safety

Safety Margin  


Consider a real-life example of a margin of safety. Say you're planning a pyrotechnics show, which will include flames and explosions. You have concluded with a high degree of certainty that it's perfectly safe to stand 100 feet from the center of the explosions. But to be absolutely sure no one gets hurt, you implement a margin of safety by setting up barriers 125 feet from the explosions.

This use of a margin of safety works similarly in value investing. It's simply the practice of leaving room for error in your calculations of intrinsic value. A value investor may be fairly confident that a company has an intrinsic value of $30 per share. But in case his or her calculations are a little too optimistic, he or she creates a margin of safety/error by using the $26 per share in their scenario analysis. The investor may find that at $15 the company is an attractive investment, or he or she may find that at $24, the company is not attractive enough. If the stock's intrinsic value is lower than the investor estimated, the margin of safety would help prevent this investor from paying too much for the stock.

http://www.trade4rich.com/SaftyMargin.html

Value Investing - Important Financial Ratios

Important Ratios

The following is a simple discussion for the most important ratios a value investor should consider: 1. PE ratio, 2. PEG ratio, 3. Net profit margin , 4. Return on assets (ROA) , 5. Return on Equity (ROE), 6. Debt/Equity Ratio , 7. Current Ratio.

1). PE Ratio (P/E) 

Price/earnings ratio is the most common measure of how expensive a stock is. The P/E ratio is equal to a stock's market capitalization divided by its after-tax earnings over a 12-month period, usually the trailing period but occasionally the current or forward period.

In ordinary periods, most stocks trade between a 10-25 P/E ratio. Stocks with higher forecast earnings growth will usually have a higher P/E, and those expected to have lower earnings growth will in most cases have a lower P/E. Peter Lynch thinks the P/E ratio of any company that's fairly priced will equal to its growth rate.

The bottom line on Price/earnings ratio for the best value stock is: PE Ratio < 20

2). PE Ratio To Growth Ratio (PEG)

The PEG ratio is a valuation metric for determining the relative trade-off between the price of a stock, the earnings generated per share (EPS), and the company's expected growth. PEG is equal to P/E ratio divided by EPS growth ratio .

In general, the P/E ratio is higher for a company with a higher growth rate. Thus using just the P/E ratio would make high-growth companies overvalued relative to others. It is assumed that by dividing the P/E ratio by the earnings growth rate, the resulting ratio is better for comparing companies with different growth rates.

The PEG ratio is considered to be a convenient approximation. It was popularized by Peter Lynch. He thinks a fairly valued company will have its PEG equal to 1. So a lower ratio is "better" (cheaper) and a higher ratio is "worse" (expensive).

The bottom line on PEG ratio for the best value stock is: PEG < 1.

3). Net Profit Margin 

Net profit margin is a key method of measuring profitability which is calculated as net income divided by revenues, or net profits divided by sales . It can be interpreted as the amount of money the company gets to keep for every dollar of revenue. A 20% profit margin, for example, means the company has a net income of $0.20 for each dollar of sales.

When a company has a high profit margin, it usually means that it also has one or more advantages over its competition. Companies with high net profit margins have better control over its costs compared to its competitors and have a bigger cushion to protect themselves during the hard times. Companies with low profit margins can get wiped out in a downturn.

The bottom line on net profit margin for the best value stock is: Net profit margin > 10%.

4). Return on Assets (ROA) 

ROA gives an idea as to how efficient management is at using its assets to generate earnings. An indicator of how profitable a company is relative to its total assets.

ROA for public companies can vary substantially and will be highly dependent on the industry. This is why when using ROA as a comparative measure, it is best to compare it against a company's previous ROA numbers or the ROA of a similar company.

For example, if one company has a net income of $1 million and total assets of $5 million, its ROA is 20%; however, if another company earns the same amount but has total assets of $10 million, it has an ROA of 10%. Based on this example, the first company is better at converting its investment into profit.

Management's most important job is to make wise choices in allocating its resources. Anybody can make a profit by throwing a ton of money at a problem, but very few managers excel at making large profits with little investment.

The bottom line on return on assets for the best value stock is: Return on assets > 10%.

5). Return on Equity (ROE) 

ROE is viewed as one of the most important financial ratios. It measures a firm's efficiency at generating profits from every dollar of net assets (assets minus liabilities), and shows how well a company uses investment dollars to generate earnings growth. ROE is equal to a fiscal year's net income divided by total equity .

Buffett always looks at ROE to see whether or not a company has consistently performed well in comparison to other companies in the same industry. Looking at the ROE in just the last year isn't enough. The investor should view the ROE from the past five to 10 years to get a good idea of historical performance.

The bottom line on Return on Equity for the best value stock is: Return on Equity > 15%.

6). Debt to Equity Ratio

The debt/equity ratio is a key characteristic Buffett considers carefully. Buffett prefers to see a small amount of debt so that earnings growth is being generated from shareholders' equity as opposed to borrowed money.

The debt/equity ratio is a measure of a company's financial leverage calculated by dividing its total liabilities by stockholders' equity. It indicates what proportion of equity and debt the company is using to finance its assets.

If a lot of debt is used to finance increased operations (high debt to equity), the company could potentially generate more earnings than it would have without this outside financing. If this were to increase earnings by a greater amount than the debt cost (interest), then the shareholders benefit as more earnings are being spread among the same amount of shareholders. However, the cost of this debt financing may outweigh the return that the company generates on the debt through investment and business activities and become too much for the company to handle. This can lead to bankruptcy, which would leave shareholders with nothing.

The bottom line on debt/equity ratio for the best value stock is: Debt/Equity Ratio < 1.

7). Current Ratio 

The ratio is mainly used to give an idea of the company's ability to pay back its short-term liabilities with its short-term assets (cash, inventory, receivables). The higher the current ratio, the more capable the company is of paying its obligations.

A ratio under 1 suggests that the company would be unable to pay off its obligations if they came due at that point. While this shows the company is not in good financial health, it does not necessarily mean that it will go bankrupt - as there are many ways to access financing - but it is definitely not a good sign.

The current ratio can give a sense of the efficiency of a company's operating cycle or its ability to turn its product into cash. Companies that have trouble getting paid on their receivables or have long inventory turnover can run into liquidity problems because they are unable to alleviate their obligations. Because business operations differ in each industry, it is always more useful to compare companies within the same industry.

The bottom line on current ratio for the best value stock is: Current Ratio > 1

http://www.trade4rich.com/Ratio.html

Value Investing - Stock Price

Stock Price  


You can’t buy any stock at any price, right? The price you pay is ultimately determines your rate of return. You want to buy cheap to maximize your earnings.

The actual stock prices consist of two parts: 1) intrinsic value and 2) variance from the human emotion and dynamic market environments. So there are two basic methods to determine the price of a stock: 1) Fundamental Analysis and 2) Technical Analysis.

• Fundamental Analysis determines intrinsic stock prices by projecting future earnings and then applying an acceptable return on    investment to calculate the stock price. This approach is used by most traditional investment analysts.
• Technical Analysis applies statistical charts and techniques to historical stock prices and volumes to identify the future stock price trend. It does not consider the fundamentals of the stock. The business, or economic environment as the influence of these factors is deemed to be already reflected in the stock price.

http://www.trade4rich.com/Price.html

Value Investing - Calculating Intrinsic Value

Calculating Intrinsic Value  


There are many ways to calculate the intrinsic value.  We'll just go over the most common used PE (Price to Earnings) stock valuation method to calculate the intrinsic value.   Price/earnings ratio is the most common measure of how expensive a stock is.

P/E ratio = P / EPS         P = Current Market Price,        EPS = Earnings per Share

The higher the P/E ratio, the more the market is willing to pay for each dollar of annual earnings. Companies that are currently unprofitable (that is, ones which have negative earnings) don't have a P/E ratio at all.  In general, the P/E ratio is higher for a company with a higher growth rate.Peter Lynch thinks the P/E ratio of any company that's fairly priced will equal to its growth rate.

If we know a stock  P/E ratio and its EPS, we can calculate its value by the following formula:      

Value = P/E * EPS

For example, if stock ABC  long term EPS growth rate is 15%; and next year EPS estimation is $1.8, we can suppose its next year fair PE equal to 15, and its next year’s fair value is 15 * 1.8 = 27. Now that you know what the stock is "worth", you can compare its current stock price with its value to decide if it is worth to buy, sell or hold. For example, if ABC was trading at $20, you would consider it undervalued because its trading at a price that is less than its value of $27. However, if it was trading at $35 per share, it would be considered overvalued. 

http://www.trade4rich.com/Calculation.html

Value Investing - Peter Lynch's Formula

 Peter Lynch's Formula  Peter Lynch 's astounding record makes him the greatest mutual fund manager in history. In his book One Up on Wall Street, Lynch gives a simple, straight-forward explanation as to how he does a quick and dirty valuation of a firm's growth versus its stock price. Here's just a short quote explaining how he does it.

The P/E ratio of any company that's fairly priced will equal its growth rate ... If the P/E of Coca-Cola is 15, you'd expect the company to be growing at about 15 percent a year, etc. But if the P/E ratio is less than the growth rate, you may have found yourself a bargain. A company, say, with a growth rate of 12 percent a year ... and a P/E ratio of 6 is a very attractive prospect. On the other hand, a company with a growth rate of 6 percent a year and a P/E ratio of 12 is an unattractive prospect and headed for a comedown.

In general, a P/E ratio that's half the growth rate is very positive, and one that's twice the growth rate is very negative.

Lynch's formula is as follows:

Intrinsic Value = EPS * G

EPS = Earnings per Share , G = Long Term EPS Growth Rate 

http://www.trade4rich.com/Lynch.html

Value Investing - Benjamin Graham's Formula

Benjamin Graham's Formula   


In The Intelligent Investor, Benjamin Graham describes a formula he used to value stocks. He disregarded complicated calculations and kept his formula simple. In his words: 

"Our study of the various methods has led us to suggest a foreshortened and quite simple formula for the evaluation of growth stocks, which is intended to produce figures fairly close to those resulting from the more refined mathematical calculations."

His formula is as follows:

Intrinsic Value = EPS * (8.5 + 2* G)

EPS = Earnings per Share, G = Long Term EPS Growth Rate

This formula has little practical value to most value investors. A company with an expected growth rate of 10% in EPS could have a P/E (Price/Earnings) of 28.5 to be considered a buy. Most value investors would reject it. However, Graham also preached Margin of Safety. Therefore, taking this formula and allowing a 50% Margin of Safety you arrive at a P/E of 14.25 . Many value investors would take a hard look at a company with a 14.5 P/E growing earnings at 10% a year.

The formula is efficient and simplistic but has its limits:  the model doesn’t work for every stock. It should never be used in isolation. The investor must take into account many other factors such as current asset value, debt to equity ratio etc. 

http://www.trade4rich.com/Benjamin.html

Comment: Warren Buffett thought Benjamin Graham was not at his best when he came up with the various formulae to value stocks.

Value Investing - Warren Buffett's Methodology

Warren Buffett's Methodology  Warren Buffett descends from the Benjamin Graham school of value investing. He takes this value investing approach to another level. He chooses stocks solely on the basis of their overall potential as a company - he looks at each as a whole. Holding these stocks as a long-term play, Buffett seeks not capital gain but ownership in quality companies extremely capable of generating earnings. When Buffett invests in a company, he isn't concerned with whether the market will eventually recognize its worth; he is concerned with how well that company can make money as a business.

Brief summary Buffett's methodology:
1. Has the company consistently performed well? 

Sometimes return on equity (ROE) is referred to as "stockholder's return on investment". It reveals the rate at which shareholders are earning income on their shares. Buffett always looks at ROE to see whether or not a company has consistently performed well in comparison to other companies in the same industry.

2. Has the company avoided excess debt? 

The debt/equity ratio is another key characteristic Buffett considers carefully. Buffett prefers to see a small amount of debt so that earnings growth is being generated from shareholders' equity as opposed to borrowed money.

3. Are profit margins high? Are they increasing? 

The profitability of a company depends not only on having a good profit margin but also on consistently increasing this profit margin. To get a good indication of historical profit margins, investors should look back at least five years. A high profit margin indicates the company is executing its business well, but increasing margins means management has been extremely efficient and successful at controlling expenses.

4. How long has the company been public? 

Buffett typically considers only companies that have been around for at least 10 years. It makes sense that one of Buffet's criteria is longevity: value investing means looking at companies that have stood the test of time but are currently undervalued.

5. Do the company's products rely on a commodity? 

Buffett sees this question as an important one. He tends to shy away (but not always) from companies whose products are indistinguishable from those of competitors, and those that rely solely on a commodity such as oil and gas. If the company does not offer anything different than another firm within the same industry, Buffett sees little that sets the company apart. Any characteristic that is hard to replicate is what Buffett calls a company's economic moat, or competitive advantage. The wider the moat, the tougher it is for a competitor to gain market share.

6. Is the stock selling at a 25% discount to its real value? 

Buffett's most important skill is determining whether a company is undervalued. To do this, an investor must determine the intrinsic value of a company by analyzing a number of business fundamentals, including earnings, revenues and assets. And a company's intrinsic value is usually higher (and more complicated) than its liquidation value - what a company would be worth if it were broken up and sold today. The liquidation value doesn't include intangibles such as the value of a brand name, which is not directly stated on the financial statements.   Once Buffett determines the intrinsic value of the company as a whole, he compares it to its current market capitalization - the current total worth (price). If his measurement of intrinsic value is at least 25% higher than the company's market capitalization, Buffett sees the company as one that has value to buy.

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