The Five Rules for Successful Stock Investing 2

The Five Rules for Successful Stock Investing

Here are the five rules that we recommend:

1. Do your homework.
2. Find economic moats.
3. Have a margin of safety.
4. Hold for the long haul.
5. Know when to sell.

[...] perhaps the most common mistake that investors make is failing to thoroughly investigate the stocks they purchase. Unless you know the business inside and out, you shouldn't buy the stock. This means that you need to develop an understanding of accounting so that you can decide for yourself what kind of financial shape a company is in.

What separates a bad company from a good one? Or a good company from a great one? In large part, it's the size of the economic moat a company builds around itself. The term economic moat is used to describe a firm's competitive advantage.

The key to identifying wide economic moats can be found in the answer to a deceptively simple question: How does a company manage to keep competitors at bay and earn consistently fat profits? If you can answer this, you've found the source of the firm's economic moat.

Finding great companies is only half of the investment process – the other half is assessing what the company is worth. You can't just go out and pay whatever the market is asking for the stock because the market might be demanding too high a price. And if the price you pay is too high, your investment returns will likely be disappointing.

Always include a margin of safety into the price you're willing to pay for a stock. If you later realize you overestimated the company's prospects, you'll have a built-in cushion that will mitigate your investment losses. The size of your margin of safety should be larger for shakier firms with uncertain futures and smaller for solid firms with reasonably predictable earnings.

[...] not making money is a lot less painful than losing money you already have.

[...] if you don't use discipline and conservatism in figuring out the prices you're willing to pay for stocks, you'll regret it eventually. Valuation is a crucial part of the investment process.

Investing should be a long-term commitment because short-term trading means that you're playing a loser's game. The costs really begin to add up – both the taxes and the brokerage costs – and create an almost insurmountable hurdle to good performance.

Knowing when it's appropriate to bail out of a stock is at least as important as knowing when to buy one, yet we often sell our winners too early and hang on to our losers for too long.

Even the greatest companies should be sold when their shares sell at egregious values.

As an investor, you should always be seeking to allocate your money to the assets that are likely to generate the highest return relative to their risk. There's no shame in selling a somewhat undervalued investment – even one on which you've lost money – to free up funds to buy a stock with better prospects.

Don't sell just because the price has gone up or down, but give it some serious thought if one of the following things has happened: You made a mistake buying it in the first place, the fundamentals have deteriorated, the stock has risen well above its intrinsic value, you can find better opportunities, or it takes up too much space in your portfolio.

http://books.danielhofstetter.com/the-five-rules-for-successful-stock-investing/

The Five Rules for Successful Stock Investing 1

Introduction: Picking Great Stocks Is Tough

Successful investing is simple, but it's not easy.

Picking individual stocks requires hard work, discipline, and an investment of time (as well as money). Expecting to make a large amount of money with only a little effort is like expecting to shoot a great round of golf the first time you pick up a set of clubs. There's no magic formula, and there's no guarantee of success.

The basic investment process is simple: Analyze the company and value the stock. If you avoid the mistake of confusing a great company with a great investment – and the two can be very different – you'll already be ahead of many of your investing peers.

Your goal as an investor should be to find wonderful businesses and purchase them at reasonable prices. Great companies create wealth, and as the value of the business grows, so should the stock price in time. In the short term, the market can be a capricious thing – wonderful businesses can sell at fire-sale prices, while money-losing ventures can be valued as if they had the rosiest of futures – but over the long haul, stock prices tend to track the value of the business.

You have to [...] understand the businesses of the stocks you own if you hope to be a successful long-term investor. When firms do well, so do their shares, and when business suffers, the stock will as well.

Company fundamentals have a direct effect on share prices. This principle applies only over a long time period – in the short term, stock prices can (and do) move around for a whole host of reasons that have nothing whatsoever to do with the underlying value of the company. We firmly advocate focusing on the long-term performance of businesses because the short-term price movement of a stock is completely unpredictable.

Successful stock-picking means having the courage to take a stance that's different from the crowd. There will always be conflicting opinions about the merits of any company, and it's often the companies with the most conflict surrounding them that make the best investments. Thus, as an investor, you have to be able to develop your own opinion about the value of a stock, and you should change that value only if the facts warrant doing so – not because you read a negative news article or because some pundit mouths off on TV. Investment success depends on personal discipline, not on whether the crowd agrees or disagrees with you.

http://books.danielhofstetter.com/the-five-rules-for-successful-stock-investing/

Technical Analysis - A Beginner's Guide

Past performance is no guarantee of future results.

Charts do not predict the future from the past.

They seek to find current buying and selling patterns in the past and plan their own course of action once those patterns end.

It is based on probabilities, not forecasting.




Why does it work?

Chart patterns are formed by the buying and selling actions of people, and people tend to act in a similar manner when faced with similar situations.

Some blame this on a self-fulfilling prophecy.

If enough investors believe in the significance of a chart pattern ending then they will act, and thus their actions will assure that the assumed result will occur.

But investors may not act the same way this time and the charts will tell us when that is the case quickly, before losses begin to mount.




Note that technical analysis expects to have losses.

It is in minimising those losses and recognizing when a winner has more room to go that there is success - read consistent profits - in a portfolio.

No other method of analysis includes as a standard feature the possibility that things will not work out as planned.  




Charts need not be adversarial with other forms of analysis.

Charts can be used as tools to help with the other forms of analysis.

Whether it is a sanity check on the fundamentals, or something that tips us off on changing fundamentals in a sector, charts will enhance investing results.

Charts are tools, not crystal balls.

They help investors find good investments and just as importantly avoid bad ones.

A picture is worth a thousand words and charts can be put into action to help investors make and keep money.


Ref:  Michael Kahn

The FOUR filters of Buffett

The FOUR filters of Buffett:

1.  You must understand the business of the company.
2.  The business must have a durable competitive advantage.
3.  The management must have talent and integrity.
4.  The price must be reasonable with a margin of safety.

Some may focus just on Filter 4 and still make money in their investing.

However, by incorporating Filters 1, 2 & 3 into their investing, they are less likely to encounter losses.  

Filters 1, 2 & 3 are there to prevent losses in your investing.  


[Nothing new, I have been following these for umpteen years.  My QMV method! ]      

In investing, it is just as important to know which companies to avoid.

In investing, it is just as important to know what are the companies you do not wish to invest in.

This is very important and if you are able to identify these companies that are not going to do well or that are going to do badly in their businesses, you can prevent yourself from a lot of future heart-aches and losses.

Being able to identify these companies that are going to do poorly over the long term, means you have the ability to also:

1.  identify those companies with good long term prospects, which you may choose to dwell in deeper into to prospect for your long term portfolio of stocks.

2.  identify those companies that are fundamentally poor which are presently exhibiting temporarily a period of exceptionally good results, so that you may avoid them.

These assessments are based mainly on the businesses of the companies.  Do not look at the stock prices for guidance, especially in the initial stages of your analysis of the companies prospects.

It is better to assess the quality of the business and the quality and integrity of the management first.

When you like what you analyse, then do a valuation of its intrinsic value.

Then determine at what price you will be willing to buy at with a margin of safety and a promise of satisfactory return.

Then look at the market price.  Looking at the market price to get guidance may bias you in your intrinsic value calculation.

ALL EQUITY SECURITY INVESTMENTS PRESENT A RISK OF LOSS OF CAPITAL

Investment performance is not guaranteed and future returns may differ from past returns. As investment conditions change over time, past returns should not be used to predict future returns. The results of your investing will be affected by a number of factors, including the performance of the investment markets in which you invest.

THE ULTIMATE HOLD-VERSUS-SELL TEST

Here is the overriding primary test, followed by observations on why it is so critically important:

Knowing all that you now know and expect about the company and its stock (not what you originally believed or hoped at time of purchase), and assuming that you had available capital, and assuming that it would not cause a portfolio imbalance to do so, would you buy this stock today, at today's price?

No equivocation. Yes or no?

Answers such as maybe or probably are not acceptable since they are ways of dodging the issue. No investor probably buys a stock; they either place an order or do not.

Here is the implication of your answer to that critical test: if you did not answer with a clear affirmative, you should sell; only if you said a strong yes, are you justified to hold.

SELL THE LOSERS, LET THE WINNERS RUN.

Losers refer NOT to those stocks with the depressed prices but to those whose revenues and earnings aren't capable of growing adequately. Weed out these losers and reinvest the cash into other stocks with better revenues and earnings potential for higher returns.

SOME THOUGHTS ON ANALYSING STOCKS (KISS)

Ideally a stock you plan to purchase should have all of the following characteristics:

• A rising trend of earnings dividends and book value per share.
• A balance sheet with less debt than other companies in its particular industry.
• A P/E ratio no higher than average.
• A dividend yield that suits your particular needs.
• A below-average dividend pay-out ratio.
• A history of earnings and dividends not pockmarked by erratic ups and downs.
• Companies whose ROE is 15 or better.
• A ratio of price to cash flow (P/CF) that is not too high when compared to other stocks in the same industry.

"Margin of Safety" as the Central Concept of Investment

The Intelligent Investor by Benjamin Graham

Chapter 20 - “Margin of Safety” as the Central Concept of Investment

A single quote by Graham on page 516 struck me:

Observation over many years has taught us that the chief losses to investors come from the purchase of low-quality securities at times of favorable business conditions.
Basically, Graham is saying that most stock investors lose money because they invest in companies that seem good at a particular point in time, but are lacking the fundamentals of a long-lasting stable company.

This seems obvious on the surface, but it’s actually a great argument for thinking more carefully about your individual stock investments. If most of your losses come from buying companies that seem healthy but really aren’t, isn’t that a profound argument for carefully studying any company you might invest in?

MARGIN OF SAFETY CONCEPT: STOCKS SHOULD BE BOUGHT LIKE GROCERIES, NOT LIKE PERFUME

The high CAGR in the early years of the investing period, due to buying at a discount, tended to decline and approach that of the intrinsic EPS GR of the companies over a longer investment time-frame.

MARKET FLUCTUATIONS OF INVESTOR'S PORTFOLIO

Note carefully what Graham is saying here. 

It is not just possible, but probable, that most of the stocks you own will gain at least 50% from their lowest price and lose at least 33% ("equivalent one-third") from their highest price -regardless of which stocks you own or whether the market as a whole goes up or down.

If you can't live with that - or you think your portfolio is somehow magically exempt from it - then you are not yet entitled to call yourself an investor.

KESM 7.6.2016

KESM Charts

Cyclical business

PE has expanded and contracted over the years.

Revenue growth is anaemic.

PBT and EPS have grown fast recently due to margin expansions for various reasons.

Its price was below RM 1 in recent years and has climbed to 6 before dropping to present levels recently.


Best time to be enthusiastic on cyclical stocks:


1.  When their PE is the highest in the cycle

2.  When their profit margins are the lowest in the cycle.

The company has about 50 m debts but is net cash positive.

Large capital expenditure expended last year.  

ROE is improving, was a single digit and now about 12%.

Its dividend is minuscule, DPO is about 15%.

DY at its present high price of 4.90 is about 1.6%.

The key to profitable investing - knowing how to capitalize successes and curtail failures.

An investor who year in and year out procures for himself a final net profit.

An investor who year in and year out who is usually in the red.

What might be the reasons to explain their different outcomes?

Is this entirely a question of superior selection of stocks?  Maybe NOT entirely.

Is this entirely a question of superior timing of buying and selling of stocks?  Maybe NOT entirely.

How good are economists in their forecasts?

In a meeting of economists, they agreed if their forecasts were 1/3 correct, that was considered a high mark in their profession.

You cannot invest in securities successfully with odds like that against you if you place dependence solely upon judgement as to the right securities to own and the right time or price to buy them.

It is also a case of knowing how to capitalize successes and curtail failures.

You have to learn by doing.

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This blog was started in August 2008 in the midst of the Global Financial Crisis.

It is on developing a sound investing philosophy, strategies and methods to profit from investing in stocks.

It has been an interesting and a rewarding journey blogging on investing.

Thank you for visiting my blog and wishing you a safe and rewarding investing in stocks over your lifetime..

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INVESTMENT POLICIES (BASED ON BENJAMIN GRAHAM) SUMMARY OF INVESTMENT POLICIES

• ►  2015 (256)

• ►  2014 (208)

• ►  2013 (533)

• ►  2012 (1470)

• ►  2011 (1031)

• ►  2010 (2430)

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WHEN TO SELL by Buffett

When To Sell Quotes

Warren Buffett’s advice on when to sell is fairly straightforward. Sell when the business you are invested is performing poorly (and will likely continue to do so).

“Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks.”

As an individual investor, you can’t fix a declining business. Your energy is best spent cutting losses and moving on.

“The most important thing to do if you find yourself in a hole is to stop digging.”

Buffett sells infrequently. He is a long-term investor that would rather hold forever than sell as long as a business maintains its competitive advantage. Even Buffett gets it wrong sometimes. When you make a mistake, learn from it and cut your losses.

Selling businesses in decline is a form of risk management. 

http://www.suredividend.com/warren-buffett-quotes/#when to sell

WHEN to Buy by Buffett

Warren Buffett on When To Buy

Warren Buffett’s buying wisdom can be condensed into 2 statements:

1. Buy great businesses when they are trading at fair or better prices.
2. This occurs when short-term traders become pessimistic

The 8 quotes below clarify Warren Buffett’s thinking on when to buy great businesses.

“Long ago, Ben Graham taught me that ‘Price is what you pay; value is what you get.’ Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down.”

In the quote above, Buffett explains that he acquired his value-focused mindset from his mentor Benjamin Graham. Graham was the father of value investing and a fantastic investor in his own right. It makes sense that his philosophies significantly influence Warren Buffett.

There is a stark difference in investing style between Graham and Buffett. Graham focused on deep value plays – businesses that were trading below liquidation value. These were typically poor businesses that were undervalued because they had such bad future prospects.

Buffett focuses on great businesses trading at fair or better prices, as the quote below clarifies:

“It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price”

Wonderful companies compound your wealth year-after-year. Poor quality businesses that are exceptionally cheap only grow your wealth once (when you sell them – hopefully for a profit).

Note that Buffett does not say to buy great businesses at any price.

“For the investor, a too-high purchase price for the stock of an excellent company can undo the effects of a subsequent decade of favorable business developments.”

Overpaying severely limits the growth of your wealth. If you pay for a large part of future growth today, you will not benefit from that growth down the line. Great businesses can be very overvalued…

“Most people get interested in stocks when everyone else is. The time to get interested is when no one else is. You can’t buy what is popular and do well.”

You don’t need to be a contrarian to do well in investing, but you do need to exhibit emotional control and be realistic.

Just as great businesses can be overvalued, they can also be undervalued.

“The best thing that happens to us is when a great company gets into temporary trouble…We want to buy them when they’re on the operating table.”

It’s not easy to buy great businesses when they are ‘on the operating table’. That’s because the zeitgeist is decidedly against buying – stocks become undervalued because the general consensus is negative. Intelligent investors profit from irrational fears.

“Be fearful when others are greedy and greedy only when others are fearful.”

Fear and market corrections create opportunities for more patient, long-term investors. The two quotes below expand upon this.

“So smile when you read a headline that says ‘Investors lose as market falls.’ Edit it in your mind to ‘Disinvestors lose as market falls—but investors gain.’ Though writers often forget this truism, there is a buyer for every seller and what hurts one necessarily helps the other.”

&

“The most common cause of low prices is pessimism—some times pervasive, some times specific to a company or industry. We want to do business in such an environment, not because we like pessimism but because we like the prices it produces. It’s optimism that is the enemy of the rational buyer.”

Paying too high a price is an investing risk that can be avoided (for the most part) by staying disciplined.

Buying is only half of investing. The next section covers when to sell.

http://www.suredividend.com/warren-buffett-quotes/#when to buy

WHAT to Buy by Buffett

Buffett Quotes on Great Businesses & Competitive Advantages

Investors can be divided into two broad categories:

• Bottom up investors
• Top down investors

Top down investors look for rapidly growing industries or macroeconomic trends. They then try to find good investments that will capitalize on these trends.

Bottom up investors do they exact opposite. They look for individual investment opportunities irrespective of industry or macroeconomic trends.

Warren Buffett wants to invest in great businesses. He is a bottom up investor.

“The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage.”

Buffett prefers to invest in businesses that have differentiated themselves from the competition. Commodity selling businesses don’t have a differentiator (unless they are the low cost producer).

“Stocks of companies selling commodity-like products should come with a warning label: ‘Competition may prove hazardous to human wealth.’”

Commodity business (in general) are not quality businesses for long-term investors. The reason is because competition will erode margins and make investing in the business a zero-sum game.

Commodity businesses that have found a way to survive are not great businesses. The analogy below emphasizes this point:

“A horse that can count to ten is a remarkable horse—not a remarkable mathematician.”

Don’t invest in horses that can count to 10. Invest in businesses with a strong competitive advantage that allows for large excess profits…

And make sure that company’s competitive advantage is durable.

“Our approach is very much profiting from lack of change rather than from change. With Wrigley chewing gum, it’s the lack of change that appeals to me.”

Chewing gum doesn’t change much. Neither does Coca-Cola (KO), or banking with Wells Fargo (WFC), or Ketchup at Kraft-Heinz (KHC). Buffett invests in slow changing businesses because they will compound growth over the long run. 

Businesses in rapidly changing industries have shorter periods of time in which they can compound investor wealth.

Now that we have covered what to buy, it is time to see Warren Buffett’s thoughts on when to buy.

http://www.suredividend.com/warren-buffett-quotes/#circle of competence

Constructing a Winning Portfolio using a general methodology that will serve you well

No one can predict the course of the market over the next month or the next year but you will be able to better the odds of constructing a winning portfolio.

The price levels of stocks and bonds will undoubtedly fluctuate beyond your control.

You need to acquire a general methodology that will serve you well in realistically projecting long-run returns and adopting your investment program to your financial needs.


What determines the returns from stocks and bonds?

Very long run returns from common stocks are driven by two critical factors:

• The dividend yield at the time of purchase, and,
• The future growth rate of earnings and dividends.

In principle, for the buyer who holds his or her stocks forever, a share of common stock is worth the present or discounted value of its stream of future dividends.

A stock buyer purchases an ownership interest in a business and hopes to receive a growing stream of dividends.

Even if a company pays very small dividends today and retains most (or even all) of its earnings to reinvest in the business, the investor implicitly assumes that such reinvestment will lead to a more rapidly growing stream of dividends in the future or alternatively to greater earnings that can be used by the company to buy backs its stocks.

LONG RUN EQUITY RETURN = INITIAL DIVIDEND YIELD + GROWTH RATE.

From 1926 to 2010:
Common stocks provided an average annual rate of return of about 9.8%.
The dividend yield for the market as a whole on Jan 1, 1926 was about 5%.
The long-run rate of growth of earnings and dividends was also about 5%.
Adding the initial dividend yield to the growth rate gives a close approximation of the actual rate of return.


OVER SHORTER PERIODS, SUCH AS A YEAR OR EVEN SEVERAL YEARS, A THIRD FACTOR IS CRITICAL IN DETERMINING RETURNS.

This factor is the change in valuation relationships - specifically, the change in the price-dividend or price-earnings multiple.  (Increases or decreases in the price-dividend multiple tend to move in the same direction as the more popularly used price-earnings multiple.)



Price-dividend and price-earnings multiples vary widely from year to year.

In times of great optimism, such as early March 2000, stocks sold at price-earnings multiples well above 30.
The price-dividend multiple was over 80.

At times of great pessimism, such as 1982, stocks sold at only 8 times earnings and 17 times dividends.



These multiples are also influenced by interest rates.

When interest rates are low, stocks, which compete with bonds for an investor's savings, tend to sell at low dividend yields and high price-earnings multiples.

When interest rates are high, stock yields rise to be more competitive and stocks tend to sell at low price-earnings multiples.

Buffett's Investment Philosophy. That's it. That's the secret formula.

Buffett’s investment philosophy is succinctly summarized in this quote below:

“We select such investments on a long-term basis, weighing the same factors as would be involved in the purchase of 100% of an operating business:

(1) favorable long-term economic characteristics;
(2) competent and honest management;
(3) purchase price attractive when measured against the yardstick of value to a private owner; and
(4) an industry with which we are familiar and whose long-term business characteristics we feel competent to judge.”

That’s it. That’s the basic ‘secret formula’ to Warren Buffett’s $60 billion fortune.

http://www.valuewalk.com/2016/04/107-profound-warren-buffett-quotes-learn-build-wealth/?all=1

Berkshire Hathaway live-streamed its annual shareholder meeting for the first time in the company's history (video)

For the first time in the company’s history, Berkshire Hathaway live-streamed its annual shareholder meeting for all of the world to see.
https://finance.yahoo.com/brklivestream

The risk you can assume is determined by: your sleeping point, your age and the sources and dependability of your noninvestment income.

The theories of valuation worked out by economists and the performance recorded by the professionals lead to a single conclusion:  There is no sure and easy road to riches.

High returns can be achieved only through higher risk-taking ( and perhaps through acceptance of lesser degrees of liquidity).

The amount of risk you can tolerate is partly determined by your sleeping point.

You should understand the risks and rewards of stock and bond investing and be able to determine the kinds of return you should expect from different financial instruments.

But the risk you can assume is also significantly influenced by your age and by the sources and dependability of your noninvestment income.

You should have a clear notion of how to decide what portion of your capital should be placed in common stocks, bonds, real estate and short-term investments.

You should develop  a sound philosophy and specific stock market strategies that will enable you as  amateur investors to achieve results as good as or better than those of the most sophisticated professionals.



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