Learning from a 10-bagger
Posted Aug 30 2009, 11:57 PM
by AllStar Portfolio Rating: Filed under: investing, CAPS
Since I'm sure you're just as tired as I am with blogs about “calling” Sirius (SIRI) at 5 cents, and since I'm equally sure you don't want to hear someone bragging about how great of an investor they are, especially if your portfolio is still down from the recent carnage, let me be clear that you won't find that in this post! (I’ll leave that for when I score my 10th or so 10-bagger, not my first, especially when I have some serious losses to more than help balance my ego).
An investor who wants to be successful (and don't we all!), should spend some time and effort examining the stocks in their portfolio, both the winners and the losers to see what they can learn from the investment. I think investors DO spend a great deal of time considering those stocks that didn't perform as as they had hoped.
They are either angry at themselves, blaming company management, blaming the economy, blaming "Mr. Market" for being foolish or contrary, or blaming their third grade teacher for not doing a better job of teaching them basic math. Rather than blaming anyone, a thorough analysis of what they may have left out would be a better use of their time if they want to avoid similar mistakes.
Less obvious: We should study our winners. This could be equally as beneficial, but I suspect we rarely take this route either. A ten bagger -- a stock that has gone up 10 times its purchase price -- can happen without a great deal of investment skills, especially in the current market.
Pharmaceuticals
Whether it's a ride on a pharmaceutical that gets good news or a stock that Mr. Market has left for dead, 10-baggers can be found, especially in this economy, without having to ride them up for decades.
While being savvy enough, (or lucky enough), to jump on Human Genome Sciences (HGSI) soon after it plummeted to 50 cents on March 11th and riding it up to $20 on August 26th would have been a thrilling ride, and a great “trade”, it’s not quite the investing multi-bagger I’m referring to.
Pharmaceuticals are certainly an area where you might have a chance for a 10+ bagger in quick order. If one trades these, however, they should understand that the losers will outnumber the winners. (The FDA is more fickle than pretty much anything else you can think of, including.....well, I'll let you finish that sentence, I'm not sure if my relatives will read this).
Having held Dendreon (DNDN) for the longer leg up, I can relate that it’s easy to day dream. This might be acceptable if you’re willing to risk a small part of your portfolio, but such trading should not be your plan for an early retirement. Likewise in this market, taking a chance on a stock that Mr. Market priced for bankruptcy in the 60-cent range and riding it up to $8 is another way to “trade” your way into a 10-bagger, (examples being TRW Automotive (TRW), Dollar Thrifty (DTO), Las Vegas Sands (LVS), Tenneco (TEN) and many others).
For me, those would be good trades, but not quite what I consider an investment-grade 10-bagger. For me, it’s the home-grown, getting in when the equity is fair-valued by fundamental standards, and riding it up as it grows in earnings and potential.
This type of 10-bagger use to be more prevalent back in the tech days of the 90’s. In fact it was only a fraction of what EMC (EMC), Dell (DELL), Amazon (AMZN), and other Internet potential stocks achieved. Of course the bubble bursting shows you can ride a 10-bagger back down as fast or faster as you rode it up. You can also grow a 10-bagger over decades such as General Electric (GE) or Wal-Mart (WMT).
My first 10-bagger goes more along the lines of the tech bubble stocks, achieving the 10-bagger status for me in just under a year.
STEC (STEC) spent the eight years of its relatively young history often cycling between $2 and $12. As a designer and manufacturer of computer memory modules, it was at the whim of the tech industry to keep it's product "current" with each new computer technology. Each new memory generation was a source of renewed sales, but a nightmare controlling the inventory on now obsolete parts. Supply and demand controlled the earnings reports.
Enter the year of solid state disk drives. Most disk drive companies had decided that solid state hard drives, made entiredly from memory modules, were too expensive and would not be embraced by the market for several years. In the area of disruptive technology, STEC decided that there would be some cases where data-intensive applications might be make the user willing to pay a premium for speed and reliability, with no moving parts. There were also technical challenges, especially in regard to static memory being subjected to many thousands of writes and erasures.
STEC's share price has gone from $3.55, when I purchased a small stake, to $39.90 on Aug. 28. While development took a great deal of time, STEC did find willing partners to help evaluate the technology. When EMC validated that the technology was sound and the time IS NOW, (in limited quantities and specific applications), the major disk drive vendors were left flat-footed. It can take a year or more for a company to qualify technology. IBM (IBM) , Sun Microsystems (JAVA), Hitachi (HIT), and other storage companies soon certified the STEC drive. Other drive manufacturers are struggling to catch up, but for now, STEC dominates the market.
So what have I learned from my 10-bagger?
•Buy what you know. This old adage tells us that we should have some understanding of what we invest in. It doesn’t mean that we need to be an aeronautics engineer to buy Boeing. It doesn’t mean that we need to be a doctor to buy HGSI. It does mean that we should understand something about the industry. The more the better so we can make intelligent decisions about how wide someone’s moat is, how competition will affect our thesis, how regulation or environment rules might restrict bring a product to market, or how a recession might affect our potential.
•It’s NOT all in the Fundamentals: I still see people shorting STEC. Each month, there is a fresh round of shorts whose only thesis appears to be “too far too fast”, “overvalued”, “P/E over 100”, “bad five-year chart”. Yes, a rapidly growing company can look a little “scary” as the stock price climbs and the P/E looks out of whack. Yes, current P/E does “seem” high, but what about the forward P/E, 18, not bad in the tech field. Quarterly growth was1,269%, not bad in any industry. Toss in market domination, no serious competition, no debt, expanded manufacturing capabilities, and you have a recipe for growth that can’t be measured on past data.
•Ride your winners: This is a lesson that I’m still struggling with as STEC exceeds my target ratio of any individual stock in my portfolio. For some, selling a third or half is a good compromise to lock in gains, especially if one isn’t sure why the stock rose so high, or what the real upside might be. The “ride your winners” may be the hardest thing to do to score that elusive 10-bagger as you will have ample time to talk yourself out of “risking” that new found gain, especially in this type of market. The key is to reevaluate your thesis, why you bought the stock in the first place. If I feel a stock got beaten down too far by Mr. Market and the stock rises back to a new five year high, and then some, all while having earnings that are topped off well below historical highs, then it might be time to sell. Having a hard target to sell without reevaluating can be an easy way to play the stock, but certainly doesn’t give you an opportunity to ride winners that have a fresh outlook. Rebalancing is an issue that investors need to determine based on their own risk/reward.
•Small Cap stocks have the best chance to have rapid returns: Plenty of larger companies have show the way to stellar gains, but it's a little harder to double when you're market cap is $1 Billion than it is when it's $100 Million, and if you want to grow a 10-bagger, it's harder still for big companies. There is nothing wrong with the large companies, giving you steady growth, value, and dividends. Every portfolio should have a good mix. From my reflections, however, I will always have a few small caps in my portfolio. Do expect volitility to be higher, and do plan on reevaluating them more often. Companies with "disruptive technology" and a wide moat can give you the most growth and best chance of holding the growth. These terms are oft used and while some people think disruptive technology can only happen in the tech world, like STEC, there can be disruption, or wide moats in many industries.
• I never buy enough of my winners: No explanation needed here, but the lesson is that we can't get greedy, and we'll never be totally happy, even with 10-baggers! I learned this lesson well with Dendreon, but as a high risk “trade”, I’m not sorry. By the same token, having a plan when you go into a stock, an initial thesis for why you would sell, and your own definition of diversity in your portfolio means that you should be less likely to waste valuable self reflection second guessing yourself! I try hard not to spend my time playing the “if”, “should have, could have” game. Although I do play the “glad I didn’t” game! It would be nice if our biggest problem was when to sell our winners, but yes, we do need to learn from our losers as well, however, I’ll save that for another day.
May all of you learn some lessons from your own 10-bagger investment.
VISIT Allstarportfolio at WallStreetSurvivor.com
BLOG entry by Motley Fool, Allstarportfolio contributor TSIF on Caps.
Allstarportfolio is a collection of investors using community intelligence as one tool for investing. STEC is a holding in the allstarportfolio wallstreetsurvivor portfolio. At the time of this posting, the author is LONG on STEC, and believes it has room to grow. The writer also is also long EMC and GE and has long options in Dell. The writer has no holdings in any other stock referenced in this article, including WDC, STX, DNDN, IBM, DTO, TRW, JAVA, HIT, HGSI, LVS, TEN, or WMT
http://blogs.moneycentral.msn.com/topstocks/archive/2009/08/30/learning-from-our-winners-what-i-learned-from-a-10-bagger.aspx
Wednesday 2 September 2009
Loss Aversion versus Risk Aversion
http://www.ppfas.com/media/articles/how-the-wish.pdf
"It makes sense to ride the winners and sell the losers, but loss aversion makes people do the exact opposite."
Why do most portfolios have a few winners but a long list of losers? Why are your profits from your winners smaller than your losses from your losers? Due to loss aversion, investors sell their winners fast and hold on to the losers. Investors behave as if the loss occurs when the sale is made, when in fact the loss has already occurred, with the depreciation in price. Offsetting a loss against other income has tax benefits, too - it makes good sense to ride the winners and sell the losers. But loss aversion makes people do the exact opposite.
"It makes sense to ride the winners and sell the losers, but loss aversion makes people do the exact opposite."
Why do most portfolios have a few winners but a long list of losers? Why are your profits from your winners smaller than your losses from your losers? Due to loss aversion, investors sell their winners fast and hold on to the losers. Investors behave as if the loss occurs when the sale is made, when in fact the loss has already occurred, with the depreciation in price. Offsetting a loss against other income has tax benefits, too - it makes good sense to ride the winners and sell the losers. But loss aversion makes people do the exact opposite.
Emodons Rule
Seeking Pride and Avoiding Regret
People avoid actions that create regret and seek actions that cause pride. Regret is the emotional pain that comes with realizing that a previous decision has turned out badly. Pride is the emotional joy of realizing that a decision has turned out to be a good decision.
Say you've been playing the lottery.
You have been selecting the same lottery ticket numbers every week for months. Not surprisingly, you have not won. A friend suggests a different set of numbers. Do you change numbers?
Clearly, the likelihood of the old set of numbers winning is the same as the likelihood of the new set of numbers winning. There are two possible sources of regret in this example. Regret may be felt if you stick with the old numbers and the new numbers win, called the regret of omission (not taking an action).
Alternatively, regret would also be felt if you switch to the new numbers and the old numbers win. The regret of an action you took is the regret of commission. In which case would the pain of regret be stronger? The stronger regret is most likely from switching to the new numbers because you have a lot of emotional capital in the old numbers - after all, you have been selecting them for months. A regret of commission is more painful than a regret of omission.
DISPOSITION EFFECT
Avoiding regret and seeking pride affects people's behavior, but how does it affect investment decisions? This is called the disposition effect.
Consider the situation in which you wish to invest in a particular stock, Lucent. However, you have no cash and must sell a position in another stock in order to buy the purchase it in the nrst place. You enjoy pride at locking in your profit. Selling Microsoft at a loss means realizing that your decision to purchase it was bad. You would feel the pain of regret. The disposition effect predicts that you will sell the winner, IBM. Selling IBM triggers the feeling of pride and avoids the feeling of regret.
It's common sense that because of this you may sell your winners more frequently than your losers. Why is this a problem? One reason that this is a problem is because of the U.S. tax code. The taxation of capital gains causes the selling of losers to be the wealth-maximizing strategy. Selling a winner causes the realization of a capital gain and thus the payment of taxes. Those taxes reduce your profit. Selling the losers gives you a chance to reduce your taxes, thus decreasing the amount of the loss. Reconsider the IBM/Microsoft example and assume that capital gains are taxed at the 20% rate. If your positions in Microsoft and IBM are each valued at $1,000, then the original purchase price of IBM must have been $833 to have earned a 20% return. Likewise, the purchase price of Microsoft must have been $1,250 to have experienced a 20% loss. Table 5.1 shows which stock would be more advantageous to sell when you look at the total picture.
If you sell IBM, you receive $1,000, but you pay taxes of $33, so your net gain is $967. Alternatively, you could sell Microsoft and receive $1,000, plus gain a tax credit of $50 to be used against other capital gains in your portfolio; so your net gain is $1,050. If the tax rate is higher than 20% (as in the case of gains realized within one year of the stock purchase), then the advantage of selling the loser is even greater. The disposition effect predicts the selling of winners. However, it is the selling of losers that is the wealth-maximizing strategy!
This is not a recommendation to sell a stock as soon as it goes down in price - stock prices do frequently fluctuate. Instead, the disposition effect refers to hanging on to stocks that have fallen during the past six or nine months, when you really should be considering selling them. This is a psychological bias that affects you over a fairly long period of time. We'll discuss a similar, but opposite behavior in the next chapter, one that happens very quickly - where there is a quick drop in price and the "snake-bit" investor dumps the stocks quickly.
SELLING TO MAXIMIZE WEALTH
SEEKING PRIDE AND AVOIDING REGRET
DO WE REALLY SELL WINNERS?
So, do you behave in a rational manner and predominately sell losers, or are you affected by your psychology and have a tendency to sell your winners? Several studies provide insight into what investors really do.
One study examined 75,000 round-trip trades of a national brokerage house. A round-trip trade is a stock purchase followed later by the sale of the stock. Which stocks did investors sell - the winners or the losers? The study examined the length of time the stock was held and the return that was received. Are investors quick to close out a position when it has taken a loss or when it has a gain? Figure 5.1 shows the average annualized return for positions held 0-30 days, 31-182 days, 183-365 days, and over 365 days. Figure 5.1 indicates that investors are quick to realize their gains. The average annualized return for stocks purchased and then sold within the first 30 days was 45%. The returns for stocks held 31-182 days, 183-365 days, and over 365 days were 7.8%, 5.1%, and 4.5%, respectively.
It is apparent that investors are quick to sell winners. If you buy a stock and it quickly jumps in price, you become tempted to sell it and lock in the profit. You can now go out and seek pride by telling your neighbors about your quick profit. On the other hand, if you buy a stock and it goes down in price, you wait. Later, if it goes back up, you may sell or wait longer. However, selling the winner creates tax payments!
ANNUALIZED RETURN FOR DIFFERENT INVESTOR HOLDING PERIODS.
This behavior can be seen after initial public offering (IPO) shares hit the market. Shares of the IPO are first sold to the clients of the investment banks and brokerage firms helping the company go public. As we will discuss in detail in the next chapter, the price paid by these initial shareholders is often substantially less than the initial sales price of the stock on the stock exchange. These original shareholders often quickly sell the stock on the stock market for a quick profit - so often, in fact, that it has a special name: flipping IPOs. There are times, however, that the IPO does not start trading at a higher price on the stock exchange. Sometimes the price falls. The volume of shares traded is lower for these declining-price IPOs than for the increasing-price IPOs. The original investors are quick to flip increasing-price IPOs, but they tend to hold the declining-price IPOs hoping for a rebound.
Another study by Terrance Odean examined the trades of 10,000 accounts from a nationwide discount brokerage. He found that, when investors sell winners, the sale represents 23% of the total gains of the investor's portfolio. In other words, investors sell the big winners - one stock representing one quarter of the profits. He also found that, on average, investors are 50% more likely to sell a winner than a loser. Investors are prone to letting their losses ride.
Do you avoid selling losers? If you hear yourself in any of the following comments, you hold on to losers.
SEEKING PRIDE AND AVOIDING REGRET
■ The stock price has dropped so much, I can't sell it now!
■ I will hold this stock because it can't possibly fall any farther.
Sound familiar? Many investors will not sell anything at a loss because they don't want to give up the hope of making their money back. Meanwhile, they could be making money somewhere else.
Selling Winners Too Soon and Holding Losers Too Long
Not only does the disposition effect predict the selling of winners, it also suggests that the winners are sold too soon and the losers are held too long*.
What does selling too soon or holding too long imply? Selling a winner too soon suggests that it would have continued to perform well for you if you had not sold it. Holding losers too long suggests that your stocks with price declines will continue to perform poorly and will not rebound with the speed you hope for.
Do investors sell winners too soon and hold losers too long, as suggested by the disposition effect? Odean's study found that, when an investor sold a winner stock, the stock beat the market during the next year by an average of 2.35%. In other words, it continued to perform pretty well. During this same year, the loser stocks that the investor kept underperformed the market by -1.06%. In short, you tend to sell the stock that ends up providing a high return and keep the stock that provides a lower return.
So we've seen that the fear of regret and the seeking of pride hurts your wealth in two ways:
■ You are paying more in taxes because of the disposition to sell winners instead of losers.
■ You earn a lower return on your portfolio because you sell the winners too early and hold on to poorly performing stocks that continue to perform poorly.
React to a news story? Buy, sell, hold? I examined the trades of individual investors with holdings in 144 New York Stock Exchange companies in relation to news reports.5 I specifically studied investor reaction either to news about the company or to news about the economy. News about a company mostly affects the price of just that company's stock, whereas economic news affects the stock prices of all companies. The results are interesting. Good news about a company resulting in an increase in the stock price induces investors to sell (selling winners). Bad news about a company does not induce investors to sell (holding losers). This is consistent with avoiding regret and seeking pride.
However, news about the economy does not induce investor trading. Although good economic news increases stock prices and bad economic news lowers stock prices, this does not cause individual investors to sell. In fact, investors are less likely than usual to sell winners after good economic news. Investor reaction to economic news is not consistent with the disposition effect.
This illustrates an interesting characteristic of regret. After taking a stock loss, investors feel stronger regret if the loss can be tied to their own decision. However, if the investor can attribute the loss to things out of his or her control, then the feeling of regret is weaker. For example, if the stock you hold declines in price when the stock market itself is advancing, then you have made a bad choice and regret is strong. In this case, you would avoid selling the stock because you want to avoid the strong regret feelings. Alternatively, if the stock you hold drops in price during a general market decline, then this is divine intervention and out of your control. The feeling of regret is weak and you may be more inclined to sell.
In the case of news about a company, your actions are consistent with the disposition effect because the feeling of regret is strong. In the case of economic news, you have a weaker feeling of regret because the outcome is considered out of your control. This leads to actions that are not consistent with the predictions of the disposition effect.
http://www.wdc-econdev.com/THE-INVESTMENT-ENVIRONMENT/emodons-rule-investment-banks.html
People avoid actions that create regret and seek actions that cause pride. Regret is the emotional pain that comes with realizing that a previous decision has turned out badly. Pride is the emotional joy of realizing that a decision has turned out to be a good decision.
Say you've been playing the lottery.
You have been selecting the same lottery ticket numbers every week for months. Not surprisingly, you have not won. A friend suggests a different set of numbers. Do you change numbers?
Clearly, the likelihood of the old set of numbers winning is the same as the likelihood of the new set of numbers winning. There are two possible sources of regret in this example. Regret may be felt if you stick with the old numbers and the new numbers win, called the regret of omission (not taking an action).
Alternatively, regret would also be felt if you switch to the new numbers and the old numbers win. The regret of an action you took is the regret of commission. In which case would the pain of regret be stronger? The stronger regret is most likely from switching to the new numbers because you have a lot of emotional capital in the old numbers - after all, you have been selecting them for months. A regret of commission is more painful than a regret of omission.
DISPOSITION EFFECT
Avoiding regret and seeking pride affects people's behavior, but how does it affect investment decisions? This is called the disposition effect.
Consider the situation in which you wish to invest in a particular stock, Lucent. However, you have no cash and must sell a position in another stock in order to buy the purchase it in the nrst place. You enjoy pride at locking in your profit. Selling Microsoft at a loss means realizing that your decision to purchase it was bad. You would feel the pain of regret. The disposition effect predicts that you will sell the winner, IBM. Selling IBM triggers the feeling of pride and avoids the feeling of regret.
It's common sense that because of this you may sell your winners more frequently than your losers. Why is this a problem? One reason that this is a problem is because of the U.S. tax code. The taxation of capital gains causes the selling of losers to be the wealth-maximizing strategy. Selling a winner causes the realization of a capital gain and thus the payment of taxes. Those taxes reduce your profit. Selling the losers gives you a chance to reduce your taxes, thus decreasing the amount of the loss. Reconsider the IBM/Microsoft example and assume that capital gains are taxed at the 20% rate. If your positions in Microsoft and IBM are each valued at $1,000, then the original purchase price of IBM must have been $833 to have earned a 20% return. Likewise, the purchase price of Microsoft must have been $1,250 to have experienced a 20% loss. Table 5.1 shows which stock would be more advantageous to sell when you look at the total picture.
If you sell IBM, you receive $1,000, but you pay taxes of $33, so your net gain is $967. Alternatively, you could sell Microsoft and receive $1,000, plus gain a tax credit of $50 to be used against other capital gains in your portfolio; so your net gain is $1,050. If the tax rate is higher than 20% (as in the case of gains realized within one year of the stock purchase), then the advantage of selling the loser is even greater. The disposition effect predicts the selling of winners. However, it is the selling of losers that is the wealth-maximizing strategy!
This is not a recommendation to sell a stock as soon as it goes down in price - stock prices do frequently fluctuate. Instead, the disposition effect refers to hanging on to stocks that have fallen during the past six or nine months, when you really should be considering selling them. This is a psychological bias that affects you over a fairly long period of time. We'll discuss a similar, but opposite behavior in the next chapter, one that happens very quickly - where there is a quick drop in price and the "snake-bit" investor dumps the stocks quickly.
SELLING TO MAXIMIZE WEALTH
SEEKING PRIDE AND AVOIDING REGRET
DO WE REALLY SELL WINNERS?
So, do you behave in a rational manner and predominately sell losers, or are you affected by your psychology and have a tendency to sell your winners? Several studies provide insight into what investors really do.
One study examined 75,000 round-trip trades of a national brokerage house. A round-trip trade is a stock purchase followed later by the sale of the stock. Which stocks did investors sell - the winners or the losers? The study examined the length of time the stock was held and the return that was received. Are investors quick to close out a position when it has taken a loss or when it has a gain? Figure 5.1 shows the average annualized return for positions held 0-30 days, 31-182 days, 183-365 days, and over 365 days. Figure 5.1 indicates that investors are quick to realize their gains. The average annualized return for stocks purchased and then sold within the first 30 days was 45%. The returns for stocks held 31-182 days, 183-365 days, and over 365 days were 7.8%, 5.1%, and 4.5%, respectively.
It is apparent that investors are quick to sell winners. If you buy a stock and it quickly jumps in price, you become tempted to sell it and lock in the profit. You can now go out and seek pride by telling your neighbors about your quick profit. On the other hand, if you buy a stock and it goes down in price, you wait. Later, if it goes back up, you may sell or wait longer. However, selling the winner creates tax payments!
ANNUALIZED RETURN FOR DIFFERENT INVESTOR HOLDING PERIODS.
This behavior can be seen after initial public offering (IPO) shares hit the market. Shares of the IPO are first sold to the clients of the investment banks and brokerage firms helping the company go public. As we will discuss in detail in the next chapter, the price paid by these initial shareholders is often substantially less than the initial sales price of the stock on the stock exchange. These original shareholders often quickly sell the stock on the stock market for a quick profit - so often, in fact, that it has a special name: flipping IPOs. There are times, however, that the IPO does not start trading at a higher price on the stock exchange. Sometimes the price falls. The volume of shares traded is lower for these declining-price IPOs than for the increasing-price IPOs. The original investors are quick to flip increasing-price IPOs, but they tend to hold the declining-price IPOs hoping for a rebound.
Another study by Terrance Odean examined the trades of 10,000 accounts from a nationwide discount brokerage. He found that, when investors sell winners, the sale represents 23% of the total gains of the investor's portfolio. In other words, investors sell the big winners - one stock representing one quarter of the profits. He also found that, on average, investors are 50% more likely to sell a winner than a loser. Investors are prone to letting their losses ride.
Do you avoid selling losers? If you hear yourself in any of the following comments, you hold on to losers.
SEEKING PRIDE AND AVOIDING REGRET
■ The stock price has dropped so much, I can't sell it now!
■ I will hold this stock because it can't possibly fall any farther.
Sound familiar? Many investors will not sell anything at a loss because they don't want to give up the hope of making their money back. Meanwhile, they could be making money somewhere else.
Selling Winners Too Soon and Holding Losers Too Long
Not only does the disposition effect predict the selling of winners, it also suggests that the winners are sold too soon and the losers are held too long*.
What does selling too soon or holding too long imply? Selling a winner too soon suggests that it would have continued to perform well for you if you had not sold it. Holding losers too long suggests that your stocks with price declines will continue to perform poorly and will not rebound with the speed you hope for.
Do investors sell winners too soon and hold losers too long, as suggested by the disposition effect? Odean's study found that, when an investor sold a winner stock, the stock beat the market during the next year by an average of 2.35%. In other words, it continued to perform pretty well. During this same year, the loser stocks that the investor kept underperformed the market by -1.06%. In short, you tend to sell the stock that ends up providing a high return and keep the stock that provides a lower return.
So we've seen that the fear of regret and the seeking of pride hurts your wealth in two ways:
■ You are paying more in taxes because of the disposition to sell winners instead of losers.
■ You earn a lower return on your portfolio because you sell the winners too early and hold on to poorly performing stocks that continue to perform poorly.
React to a news story? Buy, sell, hold? I examined the trades of individual investors with holdings in 144 New York Stock Exchange companies in relation to news reports.5 I specifically studied investor reaction either to news about the company or to news about the economy. News about a company mostly affects the price of just that company's stock, whereas economic news affects the stock prices of all companies. The results are interesting. Good news about a company resulting in an increase in the stock price induces investors to sell (selling winners). Bad news about a company does not induce investors to sell (holding losers). This is consistent with avoiding regret and seeking pride.
However, news about the economy does not induce investor trading. Although good economic news increases stock prices and bad economic news lowers stock prices, this does not cause individual investors to sell. In fact, investors are less likely than usual to sell winners after good economic news. Investor reaction to economic news is not consistent with the disposition effect.
This illustrates an interesting characteristic of regret. After taking a stock loss, investors feel stronger regret if the loss can be tied to their own decision. However, if the investor can attribute the loss to things out of his or her control, then the feeling of regret is weaker. For example, if the stock you hold declines in price when the stock market itself is advancing, then you have made a bad choice and regret is strong. In this case, you would avoid selling the stock because you want to avoid the strong regret feelings. Alternatively, if the stock you hold drops in price during a general market decline, then this is divine intervention and out of your control. The feeling of regret is weak and you may be more inclined to sell.
In the case of news about a company, your actions are consistent with the disposition effect because the feeling of regret is strong. In the case of economic news, you have a weaker feeling of regret because the outcome is considered out of your control. This leads to actions that are not consistent with the predictions of the disposition effect.
http://www.wdc-econdev.com/THE-INVESTMENT-ENVIRONMENT/emodons-rule-investment-banks.html
Tuesday 1 September 2009
Riding the Dot-Com Bubble
Tracking Finances: Riding the Dot-Com Bubble
In the late 90’s when the world was ablaze with dotcom millionaires and it looked as though the stock market could make me wealthy too, I bought a lot of technology stocks — including some start-ups and IPOs (Linux, Red Hat, Pilgrim Technology Fund, EMC and others that I have since become an amnesiac for, thankfully). I rode them all up on a wild ride, and then rode them all down again. When I was tracking finances, I was riding a roller coaster
The actual dollar cost I lost wasn’t too traumatizing, but not selling when the P/E ratios were in the stratosphere was a big mistake that has cost me in the neighborhood of $100,000. To add insult to injury, during this time I came across a beach area lot that I bought, because of its terrific price… but of course, the proceeds I used were from selling my highest-quality investments, and I was left with the speculative garbage or what remained of them. Sell the losers and the low-quality first, and keep the long term winners.
Train Wreck Tuesdays are a weekly post of horrible financial mistakes. They are posted anonymously. Submit your story; if you’re selected, you get a free personal finance book. The best comment gets the same prize! Check out past Train Wreck stories.
http://www.mint.com/blog/train-wreck/tracking-finances-tuesday-train-wreck-dot-com-bubble/
In the late 90’s when the world was ablaze with dotcom millionaires and it looked as though the stock market could make me wealthy too, I bought a lot of technology stocks — including some start-ups and IPOs (Linux, Red Hat, Pilgrim Technology Fund, EMC and others that I have since become an amnesiac for, thankfully). I rode them all up on a wild ride, and then rode them all down again. When I was tracking finances, I was riding a roller coaster
The actual dollar cost I lost wasn’t too traumatizing, but not selling when the P/E ratios were in the stratosphere was a big mistake that has cost me in the neighborhood of $100,000. To add insult to injury, during this time I came across a beach area lot that I bought, because of its terrific price… but of course, the proceeds I used were from selling my highest-quality investments, and I was left with the speculative garbage or what remained of them. Sell the losers and the low-quality first, and keep the long term winners.
Train Wreck Tuesdays are a weekly post of horrible financial mistakes. They are posted anonymously. Submit your story; if you’re selected, you get a free personal finance book. The best comment gets the same prize! Check out past Train Wreck stories.
http://www.mint.com/blog/train-wreck/tracking-finances-tuesday-train-wreck-dot-com-bubble/
Stock market strategy for the winners
Stock market strategy for the winners
by Tejinder Singh Rawal
The recent fall of indices resulted in many speculators and day traders losing their shirts. Crores of rupees worth of capitalisation was lost in a week. The momentum investors who were jubilant at the rising charts during the last six months were suddenly cornered, and many of them lost a substantial part of the gain that they had made. This has prompted me to write about the strategy that most successful investors have followed to beat the street irrespective of which way the indices were going. An investor who plans his investment prudently, keeping a long-term horizon in mind, will succeed even if the indices go down. Here are the suggestions.
Invest for the long term: When Keynes said, in the long run we are all dead, he was certainly not referring to the stock market. The success in stock market largely depends upon your ability to stay invested for a long period. It is strange few people heed this advice! Most investors in Indian markets continue to be short-term investors, and speculators. Day trading is an important characteristic of Indian stock markets. Short-term investment is nothing more than a speculation, and you can rather try your luck at horse races, or at casinos where the probability of success is higher!
Do not time the market: A long-term investor does not try to predict the direction the market is going to take. You should not wait for the market to rise or fall before you decide to invest. Since as a long-term investor you will be focussing on the value of individual share, rather than the frenzy of the market, market direction should not be a cause of concern, as long as you are sure that the investment you are making is attractive, and has a sufficient margin of safety built into it. As a long-term investor, you should not hold your cash, waiting for the market to fall, so that you can invest when the prices are low. You should know the time value of money, which means that the early you invest the higher will be your return. Moreover, if you invest regularly, you are able to take advantage of 'rupee averaging', which takes care of market fluctuations.
Do your homework: As a long-term investor you should know the fundamental value of the share you are buying. Remember that PE ratio is not the acid test of investment. Low PE ratio does not on its own make a particular company worthy of investment, and high PE, per se, does not make a share less attractive. Other factors like the quality of management, break-up value of the share, debt-equity ratio, interest coverage ratio are equally important.
Do not invest in penny stocks: Penny stocks and junk scripts look attractive to the investor when the indices are rising, since the price of these shares usually rise faster than the rise in prices of other shares. However, when the market falls, the investor is left with junk, which has no value. As a matter of principle, you should invest in stock of the only such companies whose fundamentals are known to you. Do not depend on tips, however reliable the source of tip may be. Most of the tips are generated by people with vested interest. Even when the source of the tip is genuine, the time frame the issuer has in mind may be different. If you are tempted to act on a tip, study facts before you decide to go ahead.
Do not panic: This is very important. More money is made in stock market by remaining inactive. It is foolish for a long-term investor to be excited or subdued by the market ticker. CNBC channel is for the short-term traders and day-traders, do not let the opinions expressed there affect your investment decision. If you are confident your investment is fundamentally strong, every fall should give you an opportunity to buy rather than sell. Of course, while you do that keep in mind the principle I have narrated in the next paragraph.
Don't pull your flowers and water your weeds: This strong advice comes from Warren Buffet, the most successful disciple of Ben Graham. The greatest mistake most investors make is to sell the shares that have appreciated, and hold the ones, which are giving a negative return. The investment strategy should be the other way round; you should sell the losers and let the winners ride. I do not mean that you should sell every share that has depreciated. The right course is to keep pruning your field regularly to identify the weed so that they could be removed, and to identify the flowers that should be watered as long as their fundamental value is below the prevailing market price.
Do not invest in the company and sector whose business you do not understand: If you can understand a business and you find value there, invest. Do not be tempted to invest in industry about which you do not have much idea. While there is so much money to be made in technology shares, yet if you do not understand the business, it is better you do not go into it. My personal investment philosophy is to invest in the business, which I would be comfortable running on my own. I apply the same principles even when my investment is as low as 10 shares.
Do your own research: Security analysis is not as difficult as it may seem. You do not have to be a qualified analyst to do the analysis. A basic book on reading the financial statements of a company will be a great investment. When I say that more money is made by being inactive in the market, I certainly do not mean that you should invest and forget. On the other hand, you should keep reviewing the performance of the company you have invested in. If there is a fundamental change in the situation of your company, which has altered the premise based on which you had bought the shares, decide if the change warrants a change in your portfolio.
These principles have been perfected by masters and are time-tested technique for long-term investment in the market. While this is not the only way one can invest, this method is more scientific and if applied consistently, it would make the process of investment a less risky proposition with higher margin of safety.
You can reach him at: tsrawal@tsrawal.com
http://news.indiainfo.com/columns/tejinder/040105investment-strategy.html
by Tejinder Singh Rawal
The recent fall of indices resulted in many speculators and day traders losing their shirts. Crores of rupees worth of capitalisation was lost in a week. The momentum investors who were jubilant at the rising charts during the last six months were suddenly cornered, and many of them lost a substantial part of the gain that they had made. This has prompted me to write about the strategy that most successful investors have followed to beat the street irrespective of which way the indices were going. An investor who plans his investment prudently, keeping a long-term horizon in mind, will succeed even if the indices go down. Here are the suggestions.
Invest for the long term: When Keynes said, in the long run we are all dead, he was certainly not referring to the stock market. The success in stock market largely depends upon your ability to stay invested for a long period. It is strange few people heed this advice! Most investors in Indian markets continue to be short-term investors, and speculators. Day trading is an important characteristic of Indian stock markets. Short-term investment is nothing more than a speculation, and you can rather try your luck at horse races, or at casinos where the probability of success is higher!
Do not time the market: A long-term investor does not try to predict the direction the market is going to take. You should not wait for the market to rise or fall before you decide to invest. Since as a long-term investor you will be focussing on the value of individual share, rather than the frenzy of the market, market direction should not be a cause of concern, as long as you are sure that the investment you are making is attractive, and has a sufficient margin of safety built into it. As a long-term investor, you should not hold your cash, waiting for the market to fall, so that you can invest when the prices are low. You should know the time value of money, which means that the early you invest the higher will be your return. Moreover, if you invest regularly, you are able to take advantage of 'rupee averaging', which takes care of market fluctuations.
Do your homework: As a long-term investor you should know the fundamental value of the share you are buying. Remember that PE ratio is not the acid test of investment. Low PE ratio does not on its own make a particular company worthy of investment, and high PE, per se, does not make a share less attractive. Other factors like the quality of management, break-up value of the share, debt-equity ratio, interest coverage ratio are equally important.
Do not invest in penny stocks: Penny stocks and junk scripts look attractive to the investor when the indices are rising, since the price of these shares usually rise faster than the rise in prices of other shares. However, when the market falls, the investor is left with junk, which has no value. As a matter of principle, you should invest in stock of the only such companies whose fundamentals are known to you. Do not depend on tips, however reliable the source of tip may be. Most of the tips are generated by people with vested interest. Even when the source of the tip is genuine, the time frame the issuer has in mind may be different. If you are tempted to act on a tip, study facts before you decide to go ahead.
Do not panic: This is very important. More money is made in stock market by remaining inactive. It is foolish for a long-term investor to be excited or subdued by the market ticker. CNBC channel is for the short-term traders and day-traders, do not let the opinions expressed there affect your investment decision. If you are confident your investment is fundamentally strong, every fall should give you an opportunity to buy rather than sell. Of course, while you do that keep in mind the principle I have narrated in the next paragraph.
Don't pull your flowers and water your weeds: This strong advice comes from Warren Buffet, the most successful disciple of Ben Graham. The greatest mistake most investors make is to sell the shares that have appreciated, and hold the ones, which are giving a negative return. The investment strategy should be the other way round; you should sell the losers and let the winners ride. I do not mean that you should sell every share that has depreciated. The right course is to keep pruning your field regularly to identify the weed so that they could be removed, and to identify the flowers that should be watered as long as their fundamental value is below the prevailing market price.
Do not invest in the company and sector whose business you do not understand: If you can understand a business and you find value there, invest. Do not be tempted to invest in industry about which you do not have much idea. While there is so much money to be made in technology shares, yet if you do not understand the business, it is better you do not go into it. My personal investment philosophy is to invest in the business, which I would be comfortable running on my own. I apply the same principles even when my investment is as low as 10 shares.
Do your own research: Security analysis is not as difficult as it may seem. You do not have to be a qualified analyst to do the analysis. A basic book on reading the financial statements of a company will be a great investment. When I say that more money is made by being inactive in the market, I certainly do not mean that you should invest and forget. On the other hand, you should keep reviewing the performance of the company you have invested in. If there is a fundamental change in the situation of your company, which has altered the premise based on which you had bought the shares, decide if the change warrants a change in your portfolio.
These principles have been perfected by masters and are time-tested technique for long-term investment in the market. While this is not the only way one can invest, this method is more scientific and if applied consistently, it would make the process of investment a less risky proposition with higher margin of safety.
You can reach him at: tsrawal@tsrawal.com
http://news.indiainfo.com/columns/tejinder/040105investment-strategy.html
Ride your Winners, Dump your Losers
Ride your Winners, Dump your Losers
--------------------------------------------------------------------------------
If you are a momentum trader that trade purely on the basis of a surge in price and high trading volume, it is wise to scramble for the exit when the stock loses its momentum. However if you have picked the stock on the basis of its valuation, the fact that it drops more means it is even better value – time to buy more instead of sell. Obviously if the fundamentals (future prospects and changing sector conditions) of the company have deteriorated, you may need to admit your mistake and sell.
This theory sounds more credible than it really is in countering the human tendency to keep the losers. The fact that it identifies a stock as a winner or loser on the basis of the entry price already introduces an element of subjectivity. An emotion free investor would only look objectively at the fundamentals and the valuation of the stock, instead of getting hung up on the entry price.
http://www.italkcash.com/forum/general-stock-market/98561-ride-your-winners-dump-your-losers.html
--------------------------------------------------------------------------------
If you are a momentum trader that trade purely on the basis of a surge in price and high trading volume, it is wise to scramble for the exit when the stock loses its momentum. However if you have picked the stock on the basis of its valuation, the fact that it drops more means it is even better value – time to buy more instead of sell. Obviously if the fundamentals (future prospects and changing sector conditions) of the company have deteriorated, you may need to admit your mistake and sell.
This theory sounds more credible than it really is in countering the human tendency to keep the losers. The fact that it identifies a stock as a winner or loser on the basis of the entry price already introduces an element of subjectivity. An emotion free investor would only look objectively at the fundamentals and the valuation of the stock, instead of getting hung up on the entry price.
http://www.italkcash.com/forum/general-stock-market/98561-ride-your-winners-dump-your-losers.html
Cramer's 25 Investing Rules
1. Pigs Get Slaughtered
2. It's OK to Pay the Taxes
3. Don't Buy All at Once
4. Buy Damaged Stocks
5. Diversify to Control Risk
6. Do Your Homework
7. Don't Panic
8. Buy Best-of-Breed
9. Defend Some Stocks
10. Don't Bet on Bad Stocks
11. Own Fewer Names
12. Cash Is for Winners
13. No Regrets
14. Expect Corrections
15. Know Bonds
16. Don't Subsidize Losers
17. No Room for Hope
18. Be Flexible
19. Quit When Execs Do
20. Patience Is a Virtue
21. Be a TV Critic
22. When to Wait 30 Days
23. Beware the Hype
24. Explain Your Picks
25. Find the Bull Market
2. It's OK to Pay the Taxes
3. Don't Buy All at Once
4. Buy Damaged Stocks
5. Diversify to Control Risk
6. Do Your Homework
7. Don't Panic
8. Buy Best-of-Breed
9. Defend Some Stocks
10. Don't Bet on Bad Stocks
11. Own Fewer Names
12. Cash Is for Winners
13. No Regrets
14. Expect Corrections
15. Know Bonds
16. Don't Subsidize Losers
17. No Room for Hope
18. Be Flexible
19. Quit When Execs Do
20. Patience Is a Virtue
21. Be a TV Critic
22. When to Wait 30 Days
23. Beware the Hype
24. Explain Your Picks
25. Find the Bull Market
Never Subsidize Losers With Winners
Never Subsidize Losers With Winners
Professionals and amateurs alike hate selling their dogs. They keep hoping, keep assuming, that a sinking stock is wrong in its direction. They rationalize that the weakness or lack of interest they see is and will be fleeting, and that people soon will recognize the value that the holder sees in the stock.
That's all well and good, until you need money.
Most fund managers have fabulous marketing teams that are able to hype their funds regardless of performance. Despite that and despite the shameless way this industry supports just about anyone who runs money if the money-runner is willing to kick back to the sources of funds, managers do get cash calls. They periodically have to redeem shares they own for cash to send back to unlucky investors.
When they do, that tendency to keep the dogs develops a sinister side: Good stocks get sold to subsidize the losers. You then get a self-fulfilling spiral as the bad stocks stay bad. They usually keep going down. And the fund, without the good stocks, keeps sinking. They never learn my rule:
Never subsidize losers with winners.
Individuals do the same thing. They have only a finite amount of capital to invest. Rather than take the medicine -- the loss -- they hold on to the losers and sell their winners.
My advice to anyone who is stuck in this position is quite simple: Sell the losers and wait a day. If you really want them, go buy them back the next day. I also am certain that you never will.
http://www.thestreet.com/story/10292298/never-subsidize-losers-with-winners.html
Professionals and amateurs alike hate selling their dogs. They keep hoping, keep assuming, that a sinking stock is wrong in its direction. They rationalize that the weakness or lack of interest they see is and will be fleeting, and that people soon will recognize the value that the holder sees in the stock.
That's all well and good, until you need money.
Most fund managers have fabulous marketing teams that are able to hype their funds regardless of performance. Despite that and despite the shameless way this industry supports just about anyone who runs money if the money-runner is willing to kick back to the sources of funds, managers do get cash calls. They periodically have to redeem shares they own for cash to send back to unlucky investors.
When they do, that tendency to keep the dogs develops a sinister side: Good stocks get sold to subsidize the losers. You then get a self-fulfilling spiral as the bad stocks stay bad. They usually keep going down. And the fund, without the good stocks, keeps sinking. They never learn my rule:
Never subsidize losers with winners.
Individuals do the same thing. They have only a finite amount of capital to invest. Rather than take the medicine -- the loss -- they hold on to the losers and sell their winners.
My advice to anyone who is stuck in this position is quite simple: Sell the losers and wait a day. If you really want them, go buy them back the next day. I also am certain that you never will.
http://www.thestreet.com/story/10292298/never-subsidize-losers-with-winners.html
Eject the losers and the winners will lift the portfolio.
It is the percentage of time that most of a portfolio is invested in rising stocks that determines how good performance will be. Eject the losers and the winners will lift the portfolio.
The Fundamental vs. the Technical in Stock Buy and Sell Decisions
The Fundamental vs. the Technical in Stock Buy and Sell Decisions
Author: Dr. Winton Felt
http://www.articlesbase.com/investing-articles/the-fundamental-vs-the-technical-in-stock-buy-and-sell-decisions-899280.html
Author: Dr. Winton Felt
Positive technical signals tend to precede good financial reports from a company. That is, the technical patterns precede and anticipate the fundamental reports. Stock price patterns reflect the buying and selling of all the people who have intimate knowledge about the company. The rest of the investment world creates the noise in stock behavior that accompanies the pattern created by those with knowledge. That is why sell strategies based on fundamentals are too slow in a volatile market.
Before the crash in 2000, many investment managers had relied on "fundamentals" to tell them when to sell. However, as the market crash approached it was often the case that by the time the company announced that earnings were going to be "soft," the stock had already declined. Sell strategies based on fundamentals (earnings, cash flow, order backlog, etc.) turned out to be much too "sluggish" in relation to market action and in comparison with sell signals based on technical analysis (volume & price patterns of the stock). The problem was compounded by the fact that analysts were often far from accurate in their forecasts regarding the financial prospects of companies. Some of the shortcomings of fundamental analysis are addressed by technical analysis.
Technical analysis offers its proponents the opportunity of responding in "real-time" to a stock's behavior. Technicians do not have to wait for the next quarterly report from the company. In other words, technicians can quickly respond to what is (current stock behavior) rather than wait to see if what ought to be (projections by fundamental analysts) actually happens (if the company actually generates the earnings expected by analysts). Each company has links with suppliers, competitors, officers, and employees. These in turn have families and friends. Many of these people are investors. There are also outside investors, thinkers, reporters, and others who are watchers of these people and their companies. The total knowledge of all these people is reflected in stock behavior. The cumulative effect of all the buying and selling activity of these people, and of those who watch these people, defines the regions of supply and demand (resistance and support) evident in the market activity of the stock and consequently in the patterns evident in the stock's behavior.
That is why stock behavior often precedes a company's announcement about earnings performance over the last quarter. The suppliers of a company know if that company has been increasing or decreasing orders for the supplies, equipment, or support needed to produce products or deliver services (people associated with these suppliers and their friends buy and sell stock). The competitors of a company know who is exerting the strongest pull on customers (people associated with these competitors and their friends buy and sell stock). Family members of employees and all their friends also have a general "feel" for how well a company is doing even without the use of "insider information" (these people and their friends also buy and sell stock). The sum total of all this "knowledge" is reflected in stock behavior much faster than analysts can get their next quarterly report written and published. Statistically, their combined actions reduce "noise" ("noise" is created by the actions of the uninformed) and increase order or "pattern" in stock behavior.
After the last market crash, portfolio managers and strategists proclaimed that the old "buy and hold" philosophy of investing is no longer viable. They said, "the market is simply too volatile for that kind of approach. Even well-established companies can go bankrupt. The slightest bad news can cause a stock to plummet." Lately, some managers are once again investing with the prior intent of holding all positions for several years (though some do say they will sell if the fundamentals change). It is as if they have learned nothing from their recent experience. Such an attitude tends to lock an investor or advisor into a pattern of thinking that all losses are only temporary, and everything will be fine five years from now anyway.
The problem with this mentality is that it reduces vigilance. Why bother to watch a portfolio closely or even to think about strategy issues if everything will work out in the long run? What are these advisors being paid to do? We know from past experience that everything may not turn out okay in five years. We can recite a very long list of stocks that have dropped over 60% from what they were five years ago and they still have not come close to recovering (I actually named a number of these companies in another article). Many of these stocks no longer exist or are now virtually worthless.
The point is that all these stocks looked good to many of the analysts who studied the fundamentals of these businesses. There were, after all, some honest analysts who joined the dishonest ones in repeatedly recommending their purchase and who gave glowing reports about their prospects. These stocks were touted as great investments at prices that later proved to be much too high (they did not seem particularly high at the time because they had been much higher before that). Nevertheless, some of the analysts who studied these companies really believed that they were very good picks. They kept recommending these stocks even though they kept falling. Why? They did so because they concluded that these stocks ought to go higher. Technicians who study price, volume, and various other stock behavior patterns, on the other hand, sold when their stop-losses were triggered or when technical sell signals were registered. They did not argue with themselves that these stocks ought to go higher. They acted on what was, not on what ought to be. They were the smart ones.
Yes, some day these stocks may recover. However, an investor who ejected himself from these situations could have been accumulating profits during the following years rather than watching his stocks decline or hoping for a recovery some day. Those who merely hang on through "thick and thin" are the real gamblers. Contrary to their own opinions of themselves, they are not really investors but speculators guided by hopes and dreams. They have no real sell disciplines. They merely buy "good companies" and blindly hold on with no plans for selling except "someday, at a profit." It is far better to get rid of losers and to keep the winners. If you do not "weed your garden," you will end up with nothing but "weeds." If you keep pulling the weeds, your garden will have only flowers. The same is true of your portfolio. It is the percentage of time that most of a portfolio is invested in rising stocks that determines how good performance will be. Eject the losers and the winners will lift the portfolio.
We prefer to invest in companies whose long-term financial prospects are good because, in the long run, it is earnings that drive stock prices. In other words, a stock that is in an up-trend because the company is doing well financially (good fundamentals) will tend to hold that up-trend better than a stock that is rising only because of unjustified momentum. However, as the basis for a primary selling discipline, fundamentals leave much to be desired. They tend to evolve at a rate that is inherently too sluggish for them to serve in that capacity, especially in volatile markets. Poor fundamentals still give us a good reason to sell. However, a stock will usually give a technical sell signal long before the company reports the poor fundamentals. Stockdisciplines.com traders prefer to respond to whatever signal they get first. You can benefit from their experience by using the same approach. They found that the first sell signal is almost always technical rather than fundamental in nature. If you make it a practice to sell only when the fundamentals are deteriorating, then you must reconcile yourself to much larger losses.
The same things may be said regarding the buy side of investing. We usually see technical buy signals before the company makes a positive earnings report. In other words, all those "watchers" of the company mentioned above know the company is doing well so they have been buying its stock and have therefore caused the technical buy signal to be generated. The profile of a stock's accumulation pattern can reveal much about whether there is something substantive behind the new buying activity. When the fundamentals are released, those who bought the stock because of the technical buy signal will benefit from the new surge of buying that follows the release of positive fundamentals.
Even so, we have a very high regard for fundamentals. If we get a technical buy signal, we like to check the stock's fundamental profile in Value Line, Morningstar, or in The Valuator before we make a purchase. If the technical signal is good but not outstanding, then outstanding fundamentals can make a big difference in how we see a stock (fundamentals tend to have momentum). However, if a stock has a lousy technical profile, we are not going to be interested regardless of how attractive a stock is fundamentally (it doesn’t pass the "smell" test). There are also times when a stock's technical pattern is so compelling that we can feel justified in basing our buy decision on technical measurements, patterns, or signals alone. Good financial reports often follow in the wake of positive technical signals.
Copyright 2009, by Stock Disciplines, LLC. a.k.a. StockDisciplines.com
Dr. Winton Felt has market reviews, stock alerts, and free tutorials at http://www.stockdisciplines.com Information and videos about stock alerts and pre-surge "setups" are at http://www.stockdisciplines.com/stock-alerts Information and videos about traditional as well as volatility based stop losses are at http://www.stockdisciplines.com/stop-losses
Article Source: ArticlesBase.com - The Fundamental vs. the Technical in Stock Buy and Sell Decisions
http://www.articlesbase.com/investing-articles/the-fundamental-vs-the-technical-in-stock-buy-and-sell-decisions-899280.html
Keep your investments balanced
Keep your investments balanced
Daniel Jimenez • Bankrate.com
The market's ups and downs can leave an investor feeling nauseated. To help settle your stomach, evaluate your investments periodically to make sure they are still doing the job.
If the word "balance" makes you think of car tires rather than investments, now may be a good time to review your assets. Unfortunately, many investors don't have the blend of stocks, bonds and mutual funds that meet their needs. Knowing the right time to rebalance your portfolio is just as important as knowing what types of investments to carry.
Choosing the right mix
You've probably heard that you should keep a variety of investments including foreign, domestic, small-cap and large-cap stocks and funds. But what constitutes a good balance? It depends on your goals, plans and tolerance for risk.
William Green, a certified financial planner for Green/White Advisers in Houston, believes that investors should set goals in terms of at least three years so that market volatility doesn't become as large an issue. A stock market plunge can keep an investor from meeting goals if there isn't enough time for the investment to recover. That is why a person who has a one-year time horizon should place his money in conservative investments like money market accounts, certificates of deposit or government securities.
If you have a short horizon then you can't afford the volatility that can be in the market," Green says. "At least if you have a three-year horizon then it should've come back by then. The shorter your time horizon, the safer you have to be."
Investment advisers use a series of questions to determine the right mix for their clients, but their recommendations vary. For example, Gregory Fenton, a planner with Cambridge/Cape Cod Advisers in Massachusetts, thinks investors should take 90 percent of their holdings and divide them equally between interest-earning vehicles, real estate and equities, with the final 10 percent kept in cash. On the other hand, Green recommends a balanced fund that covers several asset classes for those with only a few thousand dollars to invest.
Some advisers allow their clients a small amount of "play money" to be set aside for riskier investments. But in general, the experts agree that a widely diverse portfolio provides the lowest volatility and the highest rate of return.
Time for a change
Planners take great care to develop a client's initial portfolio, but there are times when changes can be beneficial. Sameer Shah, a certified financial planner with Shah & Associates in Tampa, Fla., tells his clients that a systematic rebalancing of their assets can boost their returns by as much as 1 percent a year and lower risk at the same time.
"This can work even for a simple portfolio based on three asset classes (e.g., domestic large-cap stocks, domestic small-cap stocks, international stocks)," Shah says. "Say you start with a portfolio of 50 percent large cap, 25 percent international, and 25 percent small cap. If at the end of the year you end up with 60 percent large cap, 20 percent international, and 20 percent small cap, you should sell enough of the large cap, and buy international and small cap, so that you return to the original percentages."
Shah adds that active rebalancing is often more important in the long run than the initial actual allocation targets. Of course, this should be done, as much as possible, in tax-advantaged accounts such as a 401(k) or IRA because there are no tax consequences to moving different funds around.
There is little doubt that occasional rebalancing can be wise. But some people tend to treat their investments like a toddler who can't be left unattended for more than a few minutes. So a down market often leaves them wondering whether the baby needs tending.
If you're regularly investing on your own, rebalance the mix by shifting your purchases, rather than selling what you already have to purchase something else. For example, if the bull market has left your portfolio heavily weighed toward stocks, rebalance by purchasing more bonds. If you sell the stocks to get money to buy bonds for a quick fix, you will end up paying capital gains taxes on the stocks you sold.
Most experts caution against overreacting to market dips. Frank Armstrong III, president of Managed Account Services in Miami and chief investment strategist for directadvice.com, says investors should ignore magazine articles touting the "10 hottest funds" and focus instead on a more disciplined strategy based on sound theory.
"I don't think that investors should shuffle their portfolio more than once a year," Armstrong adds. "And that's only if one of the assets was really dropping. That would be something like 3 to 4 percent."
Shah stresses that investors must look at the portfolio's overall performance rather than focusing on one particular investment that may be faltering. Frequent changes are not recommended since individual market sectors often rebound, becoming stronger than they were before.
"I'll have a client who's got an under-performing small cap or international fund come to me and say, 'Let's dump this,'" Shah says. "That's when I explain to them, 'No, this is exactly the time when you want to stay in.'"
Cambridge's Fenton discourages major overhauls as well because of the tax consequences of selling stocks that have performed well. His firm believes that annual or biannual portfolio reviews offer an opportunity to purge bad stocks while retaining their gains.
"Every other year we sell the losers and keep the winners," Fenton says. "That is a way for us to keep making gains and not have to pay any taxes. The losses are offset by the gains."
No one can stop you from looking at your investments' progress on a monthly or even daily basis. But investors who learn not to micromanage their portfolio can rest easy as long as they are still on pace to reach their goals. Not only will they stop worrying so much about market fluctuations, but they may also find that their blood pressure will drop back to normal.
http://www.bankrate.com/brm/news/advice/19991105d.asp
Daniel Jimenez • Bankrate.com
The market's ups and downs can leave an investor feeling nauseated. To help settle your stomach, evaluate your investments periodically to make sure they are still doing the job.
If the word "balance" makes you think of car tires rather than investments, now may be a good time to review your assets. Unfortunately, many investors don't have the blend of stocks, bonds and mutual funds that meet their needs. Knowing the right time to rebalance your portfolio is just as important as knowing what types of investments to carry.
Choosing the right mix
You've probably heard that you should keep a variety of investments including foreign, domestic, small-cap and large-cap stocks and funds. But what constitutes a good balance? It depends on your goals, plans and tolerance for risk.
William Green, a certified financial planner for Green/White Advisers in Houston, believes that investors should set goals in terms of at least three years so that market volatility doesn't become as large an issue. A stock market plunge can keep an investor from meeting goals if there isn't enough time for the investment to recover. That is why a person who has a one-year time horizon should place his money in conservative investments like money market accounts, certificates of deposit or government securities.
If you have a short horizon then you can't afford the volatility that can be in the market," Green says. "At least if you have a three-year horizon then it should've come back by then. The shorter your time horizon, the safer you have to be."
Investment advisers use a series of questions to determine the right mix for their clients, but their recommendations vary. For example, Gregory Fenton, a planner with Cambridge/Cape Cod Advisers in Massachusetts, thinks investors should take 90 percent of their holdings and divide them equally between interest-earning vehicles, real estate and equities, with the final 10 percent kept in cash. On the other hand, Green recommends a balanced fund that covers several asset classes for those with only a few thousand dollars to invest.
Some advisers allow their clients a small amount of "play money" to be set aside for riskier investments. But in general, the experts agree that a widely diverse portfolio provides the lowest volatility and the highest rate of return.
Time for a change
Planners take great care to develop a client's initial portfolio, but there are times when changes can be beneficial. Sameer Shah, a certified financial planner with Shah & Associates in Tampa, Fla., tells his clients that a systematic rebalancing of their assets can boost their returns by as much as 1 percent a year and lower risk at the same time.
"This can work even for a simple portfolio based on three asset classes (e.g., domestic large-cap stocks, domestic small-cap stocks, international stocks)," Shah says. "Say you start with a portfolio of 50 percent large cap, 25 percent international, and 25 percent small cap. If at the end of the year you end up with 60 percent large cap, 20 percent international, and 20 percent small cap, you should sell enough of the large cap, and buy international and small cap, so that you return to the original percentages."
Shah adds that active rebalancing is often more important in the long run than the initial actual allocation targets. Of course, this should be done, as much as possible, in tax-advantaged accounts such as a 401(k) or IRA because there are no tax consequences to moving different funds around.
There is little doubt that occasional rebalancing can be wise. But some people tend to treat their investments like a toddler who can't be left unattended for more than a few minutes. So a down market often leaves them wondering whether the baby needs tending.
If you're regularly investing on your own, rebalance the mix by shifting your purchases, rather than selling what you already have to purchase something else. For example, if the bull market has left your portfolio heavily weighed toward stocks, rebalance by purchasing more bonds. If you sell the stocks to get money to buy bonds for a quick fix, you will end up paying capital gains taxes on the stocks you sold.
Most experts caution against overreacting to market dips. Frank Armstrong III, president of Managed Account Services in Miami and chief investment strategist for directadvice.com, says investors should ignore magazine articles touting the "10 hottest funds" and focus instead on a more disciplined strategy based on sound theory.
"I don't think that investors should shuffle their portfolio more than once a year," Armstrong adds. "And that's only if one of the assets was really dropping. That would be something like 3 to 4 percent."
Shah stresses that investors must look at the portfolio's overall performance rather than focusing on one particular investment that may be faltering. Frequent changes are not recommended since individual market sectors often rebound, becoming stronger than they were before.
"I'll have a client who's got an under-performing small cap or international fund come to me and say, 'Let's dump this,'" Shah says. "That's when I explain to them, 'No, this is exactly the time when you want to stay in.'"
Cambridge's Fenton discourages major overhauls as well because of the tax consequences of selling stocks that have performed well. His firm believes that annual or biannual portfolio reviews offer an opportunity to purge bad stocks while retaining their gains.
"Every other year we sell the losers and keep the winners," Fenton says. "That is a way for us to keep making gains and not have to pay any taxes. The losses are offset by the gains."
No one can stop you from looking at your investments' progress on a monthly or even daily basis. But investors who learn not to micromanage their portfolio can rest easy as long as they are still on pace to reach their goals. Not only will they stop worrying so much about market fluctuations, but they may also find that their blood pressure will drop back to normal.
http://www.bankrate.com/brm/news/advice/19991105d.asp
Differentiating between the winners and the losers
Differentiating between the winners and the losers
By Clyde Rossouw, portfolio manager of the Investec Opportunity Fund and Absolute Balanced Fund
Local and international stock markets have rallied strongly. Many investors are wondering whether this is going to be sustainable or whether equity markets will plunge again. What’s most encouraging for us as long-term investors is that we still see many good opportunities locally and globally, which we are exploiting. The recovery in the equity markets does not signify the start of a long-term sustainable bull market, but there is an opportunity to make money from deeply discounted levels on really good shares. As an investor this is a fantastic time to be sowing rather than to be looking to reap. The time for reaping will come later; investors just need to be patient.
Global stock markets bottomed in March and that changed the direction of world equity market returns. Once the bottoming-out process was confirmed, investors were prepared to start taking on a lot more risk. We have seen emerging market currencies appreciating and the rand in particular has strengthened substantially – even reaching a level of below eight rand to the dollar.
Where is the recovery coming from?
There have been massive stimulus packages around the world and investors are starting to realise that the world is not going to come to an end. Emerging markets are generally in better shape than the developed world. The Chinese government has embarked on a huge spending programme to support its economy and we are starting to see more favourable economic data from China. Steel and iron ore production is increasing and China’s purchasing managers’ index (PMI) remained above the critical 50-point level in May. The Chinese stock market has done very well over the last six months, together with India, Brazil and Russia. The South Africa stock market also enjoyed excellent returns, and support from foreign investors has largely contributed to rand strength. Rising dollar prices for commodities such as copper, platinum, gold and oil signify that the world is on a recovery path and emerging markets are benefiting from this trend.
The era of a commodities super-cycle is over
The uptick in commodities has resulted in local resources shares outperforming the general market. There are a number of opportunities within the resources space, but some companies still look very risky. It is unlikely that we will ever experience a commodities super-cycle again. The super-cycle commodities trend reminds one of previous market themes such as the “new economy versus the old economy” and the “tech boom” – which are now dead and buried. When the technology bubble burst, many of the tech companies ceased to exist, but the stronger companies survived. The same scenario is likely to play out in the resources space. Some of the more marginal companies will underperform or go bust, while quality companies will power ahead. It is clear that the performance of commodities versus commodity producers will be divergent going forward.
The current environment presents many challenges, but offers good rewards for those portfolio managers who make prudent stock selections. In a bull market when a theme is strong, investors just need to ensure that they are part of that theme and ride the wave. This luxury does not exist under current market conditions. The market is going to be much more cynical and will do its homework properly in terms of differentiating between the winners and the losers.
Physical gold is more attractive than gold companies
Gold shares have been very volatile – we saw a sharp drop in April and a strong recovery in May. Gold producers’ earnings benefited from the weak rand in the first quarter, but the strength in the rand will mean that companies’ earnings will pull back again. The strength in gold shares does not seem sustainable. Since 1970 the rand gold price has outperformed gold shares. Gold production has been declining since the 1970s and it continues to bleed every year. Last year South Africa was down to 226 tons of gold from 1,000 in 1970. The gold companies are all trying to expand internationally, but their long-term health will still largely depend on the quality of reserves.
Developed market government bonds are looking very risky
The Unites States government and the US Federal Reserve (the Fed) have been on a spending spree over the last few months in a bid to support the ailing US economy. The US government has been issuing trillions of dollars worth of US treasuries (long-term government debt) to fund the fiscal stimulus packages. China has supported the US government by buying up a great deal of these government bonds that have flooded the market, together with other central banks and private investors. The Fed has also been mopping up the excess supply of bonds. Essentially, the Fed buys these government bonds by printing more money; this is known as quantitative easing. When risk aversion peaked, many investors piled into US treasuries as it was perceived to be risk-free. Consequently, US treasury yields remained very low. (When bond yields decline, bond prices increase and vice versa).
The strength in government bonds could simply not be sustained. Since March US Treasury yields have been rising, and in the last week of May the ten-year Treasury yield reached a six-month high. The weaker government bond market reflects investors’ concerns regarding the continued oversupply of bonds. More government bond auctions are on the way and with appetite for government bonds waning, the Fed will have to keep on propping the market up. The dollar has been losing value and inflationary fears have also driven Treasury yields up.
A key question is how long the Federal Reserve will be forced to support the government bond market and whether its actions will not have serious implications for inflation over the longer term? Essentially, money is being created out of nothing. This is not money that was created from people actually doing some work, performing a service or producing goods. Money has been printed without any economic activity taking place. Economics 101 would suggest that if you have more money chasing the same amount of goods, services or assets, ultimately you will have inflation.
The upside is that higher inflation could result in an improvement in company profits, which means better cash flows, enabling companies to pay off their debts. In turn, the risk of companies defaulting on their debt obligations would decrease, resulting in corporate bond yields coming down. (As corporate bond yields decline, corporate bond prices rise).
Local bonds are still pricing in risk, but listed property looks vulnerable
Local bond yields are still higher than international bond yields and because of this spread our market enjoys some protection against a sharp sell-off in international bonds. However, the local market may be too optimistic about a meaningful decline in inflation. Consumer inflation is currently running at 8% and the bond market expects this to slow to 6%. There is a risk that inflation may remain above the upper band of the Reserve Bank’s inflation target. The international environment for bonds will be one to watch closely over the next few months. Listed property would be the most at risk from a rising bond trend. The differential between the yields of listed property and government bonds in South Africa is too low, whereas in the developed world the spread is much wider. Investors are not adequately compensated for the risk of holding SA listed property.
There are many attractively valued equities available in global and local stock markets that should give strong real returns for investors with a horizon of more than three years. Some of these opportunities include MTN, which has attracted corporate buying interest and Afrox, where the market has assumed its business franchise has been decimated. We are still not finding reasonable risk-adjusted returns from either bonds or listed property, and continue to largely avoid these asset classes. Despite tough conditions, there are opportunities to outperform the market and we are confident of producing inflation-beating returns over the long term.
http://www.investecassetmanagement.com/server.php?show=ConWebDoc.1238&navId=2470
By Clyde Rossouw, portfolio manager of the Investec Opportunity Fund and Absolute Balanced Fund
Local and international stock markets have rallied strongly. Many investors are wondering whether this is going to be sustainable or whether equity markets will plunge again. What’s most encouraging for us as long-term investors is that we still see many good opportunities locally and globally, which we are exploiting. The recovery in the equity markets does not signify the start of a long-term sustainable bull market, but there is an opportunity to make money from deeply discounted levels on really good shares. As an investor this is a fantastic time to be sowing rather than to be looking to reap. The time for reaping will come later; investors just need to be patient.
Global stock markets bottomed in March and that changed the direction of world equity market returns. Once the bottoming-out process was confirmed, investors were prepared to start taking on a lot more risk. We have seen emerging market currencies appreciating and the rand in particular has strengthened substantially – even reaching a level of below eight rand to the dollar.
Where is the recovery coming from?
There have been massive stimulus packages around the world and investors are starting to realise that the world is not going to come to an end. Emerging markets are generally in better shape than the developed world. The Chinese government has embarked on a huge spending programme to support its economy and we are starting to see more favourable economic data from China. Steel and iron ore production is increasing and China’s purchasing managers’ index (PMI) remained above the critical 50-point level in May. The Chinese stock market has done very well over the last six months, together with India, Brazil and Russia. The South Africa stock market also enjoyed excellent returns, and support from foreign investors has largely contributed to rand strength. Rising dollar prices for commodities such as copper, platinum, gold and oil signify that the world is on a recovery path and emerging markets are benefiting from this trend.
The era of a commodities super-cycle is over
The uptick in commodities has resulted in local resources shares outperforming the general market. There are a number of opportunities within the resources space, but some companies still look very risky. It is unlikely that we will ever experience a commodities super-cycle again. The super-cycle commodities trend reminds one of previous market themes such as the “new economy versus the old economy” and the “tech boom” – which are now dead and buried. When the technology bubble burst, many of the tech companies ceased to exist, but the stronger companies survived. The same scenario is likely to play out in the resources space. Some of the more marginal companies will underperform or go bust, while quality companies will power ahead. It is clear that the performance of commodities versus commodity producers will be divergent going forward.
The current environment presents many challenges, but offers good rewards for those portfolio managers who make prudent stock selections. In a bull market when a theme is strong, investors just need to ensure that they are part of that theme and ride the wave. This luxury does not exist under current market conditions. The market is going to be much more cynical and will do its homework properly in terms of differentiating between the winners and the losers.
Physical gold is more attractive than gold companies
Gold shares have been very volatile – we saw a sharp drop in April and a strong recovery in May. Gold producers’ earnings benefited from the weak rand in the first quarter, but the strength in the rand will mean that companies’ earnings will pull back again. The strength in gold shares does not seem sustainable. Since 1970 the rand gold price has outperformed gold shares. Gold production has been declining since the 1970s and it continues to bleed every year. Last year South Africa was down to 226 tons of gold from 1,000 in 1970. The gold companies are all trying to expand internationally, but their long-term health will still largely depend on the quality of reserves.
Developed market government bonds are looking very risky
The Unites States government and the US Federal Reserve (the Fed) have been on a spending spree over the last few months in a bid to support the ailing US economy. The US government has been issuing trillions of dollars worth of US treasuries (long-term government debt) to fund the fiscal stimulus packages. China has supported the US government by buying up a great deal of these government bonds that have flooded the market, together with other central banks and private investors. The Fed has also been mopping up the excess supply of bonds. Essentially, the Fed buys these government bonds by printing more money; this is known as quantitative easing. When risk aversion peaked, many investors piled into US treasuries as it was perceived to be risk-free. Consequently, US treasury yields remained very low. (When bond yields decline, bond prices increase and vice versa).
The strength in government bonds could simply not be sustained. Since March US Treasury yields have been rising, and in the last week of May the ten-year Treasury yield reached a six-month high. The weaker government bond market reflects investors’ concerns regarding the continued oversupply of bonds. More government bond auctions are on the way and with appetite for government bonds waning, the Fed will have to keep on propping the market up. The dollar has been losing value and inflationary fears have also driven Treasury yields up.
A key question is how long the Federal Reserve will be forced to support the government bond market and whether its actions will not have serious implications for inflation over the longer term? Essentially, money is being created out of nothing. This is not money that was created from people actually doing some work, performing a service or producing goods. Money has been printed without any economic activity taking place. Economics 101 would suggest that if you have more money chasing the same amount of goods, services or assets, ultimately you will have inflation.
The upside is that higher inflation could result in an improvement in company profits, which means better cash flows, enabling companies to pay off their debts. In turn, the risk of companies defaulting on their debt obligations would decrease, resulting in corporate bond yields coming down. (As corporate bond yields decline, corporate bond prices rise).
Local bonds are still pricing in risk, but listed property looks vulnerable
Local bond yields are still higher than international bond yields and because of this spread our market enjoys some protection against a sharp sell-off in international bonds. However, the local market may be too optimistic about a meaningful decline in inflation. Consumer inflation is currently running at 8% and the bond market expects this to slow to 6%. There is a risk that inflation may remain above the upper band of the Reserve Bank’s inflation target. The international environment for bonds will be one to watch closely over the next few months. Listed property would be the most at risk from a rising bond trend. The differential between the yields of listed property and government bonds in South Africa is too low, whereas in the developed world the spread is much wider. Investors are not adequately compensated for the risk of holding SA listed property.
There are many attractively valued equities available in global and local stock markets that should give strong real returns for investors with a horizon of more than three years. Some of these opportunities include MTN, which has attracted corporate buying interest and Afrox, where the market has assumed its business franchise has been decimated. We are still not finding reasonable risk-adjusted returns from either bonds or listed property, and continue to largely avoid these asset classes. Despite tough conditions, there are opportunities to outperform the market and we are confident of producing inflation-beating returns over the long term.
http://www.investecassetmanagement.com/server.php?show=ConWebDoc.1238&navId=2470
Learn To Invest In 10 Steps
Learn To Invest In 10 Steps
Investing is actually pretty simple; you're basically putting your money to work for you so that you don't have to take a second job, or work overtime hours to increase your earning potential. There are many different ways to make an investment, such as stocks, bonds, mutual funds or real estate, and they don't always require a large sum of money to start.
Step 1: Get Your Finances In Order
Jumping into investing without first examining your finances is like jumping into the deep end of the pool without knowing how to swim. On top of the cost of living, payments to outstanding credit card balances and loans can eat into the amount of money left to invest. Luckily, investing doesn't require a significant sum to start. Gain more insight in Invest On A Shoestring Budget and Should I Invest Or Reduce Debt?.
Step 2: Learn The Basics
You don't need to be a financial expert to invest, but you do need to learn some basic terminology so that you are better equipped to make informed decisions. Learn the differences between stocks, bonds, mutual funds and certificates of deposit (CDs). You should also learn financial theories such as portfolio optimization, diversification and market efficiency. Reading books written by successful investors such as Warren Buffett or reading through the basic tutorials on Investopedia are great starting points. Get started with our Investing 101 tutorial.
Step 3: Set Goals
Once you have established your investing budget and have learned the basics, it's time to set your investing goal. Even though all investors are trying to make money, each one comes from a diverse background and has different needs. Safety of capital, income and capital appreciation are some factors to consider; what is best for you will depend on your age, position in life and personal circumstances. A 35-year-old business executive and a 75-year-old widow will have very different needs. Read more in Basic Investment Objectives and Investing With A Purpose.
Step 4: Determine Your Risk Tolerance
Would a significant drop in your overall investment value make you weak in the knees? Before deciding on which investments are right for you, you need to know how much risk you are willing to assume. Do you love fast cars and the thrill of a risk, or do you prefer reading in your hammock while enjoying the safety of your backyard? Your risk tolerance will vary according to your age, income requirements and financial goals. For more insight read Risk Tolerance Only Tells Half The Story, Personalizing Risk Tolerance and Determining Risk And The Risk Pyramid.
Step 5: Find Your Investing Style
Now that you know your risk tolerance and goals, what is your investing style? Many first-time investors will find that their goals and risk tolerance will often not match up. For example, if you love fast cars but are looking for safety of capital, you're better off taking a more conservative approach to investing. Conservative investors will generally invest 70-75% of their money in low-risk, fixed-income securities such as Treasury bills, with 15-20% dedicated to blue chip equities. On the other hand, very aggressive investors will generally invest 80-100% of their money in equities. Find your fit in Achieving Optimal Asset Allocation.
Step 6: Learn The Costs
It is equally important to learn the costs of investing, as certain costs can cut into your investment returns. As a whole, passive investing strategies tend to have lower fees than active investing strategies such as trading stocks. Stock brokers charge commissions. For investors starting out with a smaller investment, a discount broker is probably a better choice because they charge a reduced commission. On the other hand, if you are purchasing mutual funds, keep in mind that funds charge various management fees, which is the cost of operating the fund, and some funds charge load fees. Read The Lowdown On No-Load Mutual Funds.
Step 7: Find A Broker Or Advisor
The type of advisor that is right for you depends on the amount of time you are willing to spend on your investments and your risk tolerance. Choosing a financial advisor is a big decision. Factors to consider include their reputation and performance, what designations they hold, how much they plan on communicating with you and what additional services they can offer. For more tips, read Shopping For A Financial Advisor and Picking Your First Broker.
Step 8: Choose Investments
Now comes the fun part: choosing the investments that will become a part of your investment portfolio. If you have a conservative investment style, your portfolio should consist mainly of low-risk, income-producing securities such as federal bonds and money market funds. Key concepts here are asset allocation and diversification. In asset allocation, you are balancing risk and reward by dividing your money between the three asset classes: equities, fixed-income and cash. By diversifying among different asset classes, you avoid the issues associated with putting all of your eggs in one basket. Learn more in A Guide To Portfolio Construction and Introduction To Diversification.
Step 9: Keep Emotions At Bay
Don't let fear or greed limit your returns or inflate your losses. Expect short-term fluctuations in your overall portfolio value. As a long-term investor, these short-term movements should not cause panic. Greed can lead an investor to hold on to a position too long in the hope of an even higher price – even if it falls. Fear can cause an investor to sell an investment too early, or prevent an investor from selling a loser. If your portfolio is keeping you awake at night, it might be best to reconsider your risk tolerance and adopt a more conservative approach. Read When Fear And Greed Take Over for more.
Step 10: Review and Adjust
The final step in your investing journey is reviewing your portfolio. Once you've established an asset-allocation strategy, you may find that your asset weightings have changed over the course of the year. Why? The market value of the various securities within your portfolio has changed. This can be modified easily through rebalancing. Read more on this topic, and the consequences for ignoring these changes, in Rebalance Your Portfolio To Stay On Track.
http://investopedia.com/slide-show/learn-how-to-invest/
Investing is actually pretty simple; you're basically putting your money to work for you so that you don't have to take a second job, or work overtime hours to increase your earning potential. There are many different ways to make an investment, such as stocks, bonds, mutual funds or real estate, and they don't always require a large sum of money to start.
Step 1: Get Your Finances In Order
Jumping into investing without first examining your finances is like jumping into the deep end of the pool without knowing how to swim. On top of the cost of living, payments to outstanding credit card balances and loans can eat into the amount of money left to invest. Luckily, investing doesn't require a significant sum to start. Gain more insight in Invest On A Shoestring Budget and Should I Invest Or Reduce Debt?.
Step 2: Learn The Basics
You don't need to be a financial expert to invest, but you do need to learn some basic terminology so that you are better equipped to make informed decisions. Learn the differences between stocks, bonds, mutual funds and certificates of deposit (CDs). You should also learn financial theories such as portfolio optimization, diversification and market efficiency. Reading books written by successful investors such as Warren Buffett or reading through the basic tutorials on Investopedia are great starting points. Get started with our Investing 101 tutorial.
Step 3: Set Goals
Once you have established your investing budget and have learned the basics, it's time to set your investing goal. Even though all investors are trying to make money, each one comes from a diverse background and has different needs. Safety of capital, income and capital appreciation are some factors to consider; what is best for you will depend on your age, position in life and personal circumstances. A 35-year-old business executive and a 75-year-old widow will have very different needs. Read more in Basic Investment Objectives and Investing With A Purpose.
Step 4: Determine Your Risk Tolerance
Would a significant drop in your overall investment value make you weak in the knees? Before deciding on which investments are right for you, you need to know how much risk you are willing to assume. Do you love fast cars and the thrill of a risk, or do you prefer reading in your hammock while enjoying the safety of your backyard? Your risk tolerance will vary according to your age, income requirements and financial goals. For more insight read Risk Tolerance Only Tells Half The Story, Personalizing Risk Tolerance and Determining Risk And The Risk Pyramid.
Step 5: Find Your Investing Style
Now that you know your risk tolerance and goals, what is your investing style? Many first-time investors will find that their goals and risk tolerance will often not match up. For example, if you love fast cars but are looking for safety of capital, you're better off taking a more conservative approach to investing. Conservative investors will generally invest 70-75% of their money in low-risk, fixed-income securities such as Treasury bills, with 15-20% dedicated to blue chip equities. On the other hand, very aggressive investors will generally invest 80-100% of their money in equities. Find your fit in Achieving Optimal Asset Allocation.
Step 6: Learn The Costs
It is equally important to learn the costs of investing, as certain costs can cut into your investment returns. As a whole, passive investing strategies tend to have lower fees than active investing strategies such as trading stocks. Stock brokers charge commissions. For investors starting out with a smaller investment, a discount broker is probably a better choice because they charge a reduced commission. On the other hand, if you are purchasing mutual funds, keep in mind that funds charge various management fees, which is the cost of operating the fund, and some funds charge load fees. Read The Lowdown On No-Load Mutual Funds.
Step 7: Find A Broker Or Advisor
The type of advisor that is right for you depends on the amount of time you are willing to spend on your investments and your risk tolerance. Choosing a financial advisor is a big decision. Factors to consider include their reputation and performance, what designations they hold, how much they plan on communicating with you and what additional services they can offer. For more tips, read Shopping For A Financial Advisor and Picking Your First Broker.
Step 8: Choose Investments
Now comes the fun part: choosing the investments that will become a part of your investment portfolio. If you have a conservative investment style, your portfolio should consist mainly of low-risk, income-producing securities such as federal bonds and money market funds. Key concepts here are asset allocation and diversification. In asset allocation, you are balancing risk and reward by dividing your money between the three asset classes: equities, fixed-income and cash. By diversifying among different asset classes, you avoid the issues associated with putting all of your eggs in one basket. Learn more in A Guide To Portfolio Construction and Introduction To Diversification.
Step 9: Keep Emotions At Bay
Don't let fear or greed limit your returns or inflate your losses. Expect short-term fluctuations in your overall portfolio value. As a long-term investor, these short-term movements should not cause panic. Greed can lead an investor to hold on to a position too long in the hope of an even higher price – even if it falls. Fear can cause an investor to sell an investment too early, or prevent an investor from selling a loser. If your portfolio is keeping you awake at night, it might be best to reconsider your risk tolerance and adopt a more conservative approach. Read When Fear And Greed Take Over for more.
Step 10: Review and Adjust
The final step in your investing journey is reviewing your portfolio. Once you've established an asset-allocation strategy, you may find that your asset weightings have changed over the course of the year. Why? The market value of the various securities within your portfolio has changed. This can be modified easily through rebalancing. Read more on this topic, and the consequences for ignoring these changes, in Rebalance Your Portfolio To Stay On Track.
http://investopedia.com/slide-show/learn-how-to-invest/
8 Signs Of A Doomed Stock
Are Your Stocks Doomed?
Few people seem to spot the early signs of a company in distress. Remember WorldCom and Enron? Not so long ago, these companies were worth hundreds of billions of dollars. Today, they no longer exist. Their collapses came as a surprise to most of the world, including their investors. Even large shareholders, many of them with an inside track, were caught off guard. So is there any way to know that your stock may be on a crash course to nowhere? The answer is yes. Read on to find out how.
1. Negative Cash Flows
Cash flow is a company's lifeline; investors who keep an eye on it can protect themselves from ending up with a worthless share certificate. When a company's cash payments exceed its cash receipts, the company's cash flow is negative. If this occurs over a sustained period, it's a sign that the company's cash in the bank may be getting dangerously low. Without fresh injections of capital from shareholders or lenders, a company in this situation can quickly find itself insolvent. (For more insight, see The Essentials Of Cash Flow.)
2. High Debt-Equity Ratio
Interest repayments place pressure on cash flow, and this pressure is likely to be exacerbated for distressed companies. Because they have a higher risk of default, struggling companies must pay a higher interest rate to borrow money. As a result, debt tends to shrink their returns. The total debt-to-equity (D/E) ratio is a useful measure of bankruptcy risk. It compares a company's combined long- and short-term debt to shareholders' equity or book value. Companies with D/E ratios of 0.5 and above deserve a closer look.
3. Interest Coverage Ratio
The debt/equity (D/E) ratio doesn't always say much on its own. It should be accompanied by an examination of the debt interest coverage ratio. For example, suppose that a company has a D/E ratio of 0.75, which signals a low bankruptcy risk, but that it also has an interest coverage ratio of 0.5. An interest coverage ratio below 1 means that the company is not able to meet all of its debt obligations with the period's earnings before interest and tax (operating income). It's also a sign that a company is having difficulty meeting its debt obligations. (For more, read Looking At Interest Coverage.)
4. Share Price Decline
Savvy investor should also watch out for unusual share price declines. Almost all corporate collapses are preceded by a sustained share price decline. Enron's share price started falling 16 months before it went bust. That said, while a big share price decline might signal trouble ahead, it may also signal a valuable opportunity to buy an out-of-favor business with solid fundamentals. Before deciding whether the stock is a buy or sell, be sure to examine the additional factors we discuss next. (Find out if your stock is on the verge of decline in Signs A Stock Is Ready To Slide.)
5. Profit Warnings
Investors should take profit warnings very, very seriously. While market reaction to a profit warning may appear swift and brutal, there is growing academic evidence to suggest that the market systematically underreacts to bad news. As a result, a profit warning is often followed by a gradual share price decline.
6. Insider Trading
Companies are required to report, by way of company announcement, purchases and sales of shares by substantial shareholders and company directors (also known as insiders). Executives and directors have the most up-to-date information on their company's prospects, so heavy selling by one or both groups can be a sign of trouble ahead. Admittedly, insiders don't always sell simply because they think their shares are about to sink in value, but insider selling should give investors pause. (To learn more, read Uncovering Insider Trading.)
7. Resignations
The sudden departure of key executives (or directors), and/or auditors can also signal bad news. While these resignations may be completely innocent, they demand closer inspection. Auditor replacement can also mean a deteriorating relationship between the auditor and the client company, and perhaps more fundamental difficulties within the client company's business. Warning bells should ring the loudest when the individual concerned has a reputation as a successful manager or a strong, independent director.
8. SEC Investigations
Formal investigations by the Securities and Exchange Commission (SEC) normally precede corporate collapses. That's not surprising; many companies guilty of breaking SEC and accounting rules do so because they are facing financial difficulties. While many SEC investigations turn out to be unfounded, they still give investors good reason to pay closer attention to the financial situations of companies that are targeted by the SEC. (For more insight, see SEC Filings: Forms You Need To Know.)
http://investopedia.com/slide-show/signs-doomed-stock/
Few people seem to spot the early signs of a company in distress. Remember WorldCom and Enron? Not so long ago, these companies were worth hundreds of billions of dollars. Today, they no longer exist. Their collapses came as a surprise to most of the world, including their investors. Even large shareholders, many of them with an inside track, were caught off guard. So is there any way to know that your stock may be on a crash course to nowhere? The answer is yes. Read on to find out how.
1. Negative Cash Flows
Cash flow is a company's lifeline; investors who keep an eye on it can protect themselves from ending up with a worthless share certificate. When a company's cash payments exceed its cash receipts, the company's cash flow is negative. If this occurs over a sustained period, it's a sign that the company's cash in the bank may be getting dangerously low. Without fresh injections of capital from shareholders or lenders, a company in this situation can quickly find itself insolvent. (For more insight, see The Essentials Of Cash Flow.)
2. High Debt-Equity Ratio
Interest repayments place pressure on cash flow, and this pressure is likely to be exacerbated for distressed companies. Because they have a higher risk of default, struggling companies must pay a higher interest rate to borrow money. As a result, debt tends to shrink their returns. The total debt-to-equity (D/E) ratio is a useful measure of bankruptcy risk. It compares a company's combined long- and short-term debt to shareholders' equity or book value. Companies with D/E ratios of 0.5 and above deserve a closer look.
3. Interest Coverage Ratio
The debt/equity (D/E) ratio doesn't always say much on its own. It should be accompanied by an examination of the debt interest coverage ratio. For example, suppose that a company has a D/E ratio of 0.75, which signals a low bankruptcy risk, but that it also has an interest coverage ratio of 0.5. An interest coverage ratio below 1 means that the company is not able to meet all of its debt obligations with the period's earnings before interest and tax (operating income). It's also a sign that a company is having difficulty meeting its debt obligations. (For more, read Looking At Interest Coverage.)
4. Share Price Decline
Savvy investor should also watch out for unusual share price declines. Almost all corporate collapses are preceded by a sustained share price decline. Enron's share price started falling 16 months before it went bust. That said, while a big share price decline might signal trouble ahead, it may also signal a valuable opportunity to buy an out-of-favor business with solid fundamentals. Before deciding whether the stock is a buy or sell, be sure to examine the additional factors we discuss next. (Find out if your stock is on the verge of decline in Signs A Stock Is Ready To Slide.)
5. Profit Warnings
Investors should take profit warnings very, very seriously. While market reaction to a profit warning may appear swift and brutal, there is growing academic evidence to suggest that the market systematically underreacts to bad news. As a result, a profit warning is often followed by a gradual share price decline.
6. Insider Trading
Companies are required to report, by way of company announcement, purchases and sales of shares by substantial shareholders and company directors (also known as insiders). Executives and directors have the most up-to-date information on their company's prospects, so heavy selling by one or both groups can be a sign of trouble ahead. Admittedly, insiders don't always sell simply because they think their shares are about to sink in value, but insider selling should give investors pause. (To learn more, read Uncovering Insider Trading.)
7. Resignations
The sudden departure of key executives (or directors), and/or auditors can also signal bad news. While these resignations may be completely innocent, they demand closer inspection. Auditor replacement can also mean a deteriorating relationship between the auditor and the client company, and perhaps more fundamental difficulties within the client company's business. Warning bells should ring the loudest when the individual concerned has a reputation as a successful manager or a strong, independent director.
8. SEC Investigations
Formal investigations by the Securities and Exchange Commission (SEC) normally precede corporate collapses. That's not surprising; many companies guilty of breaking SEC and accounting rules do so because they are facing financial difficulties. While many SEC investigations turn out to be unfounded, they still give investors good reason to pay closer attention to the financial situations of companies that are targeted by the SEC. (For more insight, see SEC Filings: Forms You Need To Know.)
http://investopedia.com/slide-show/signs-doomed-stock/
Sunday 30 August 2009
20 Tools For Building Up Your Portfolio
1. 20 Tools For Building Up Your Portfolio
The concept of a portfolio and the birth of individual investing have opened up possibilities for everyone. The only real difference between you and Warren Buffett is a few well-chosen stocks - the billion-dollar fortune is the result. Stocks, while important, aren’t all there is to investing. Keeping your portfolio divided between the different investment vehicles reduces your overall risk while still generating returns. Here are 20 investment tools you can use to increase your portfolio’s diversity.
2. Go Global With ADRs
American Depository Receipts (ADRs) were introduced to streamline the purchase of foreign assets. ADRs are created when banks buy bundles of foreign shares and repackage them to sell on U.S. stock exchanges. Instead of having investors switch dollars for another currency to buy foreign shares and switch back to dollars when selling, banks eliminate the currency transaction. ADRs face exchange rate risks and political risks as well as the regular risks for stocks, but they offer global diversity in a convenient package. For more, see ADRs: Invest Offshore Without Leaving Home.
3. Add Annuities To Your Retirement Portfolio
Annuities are investments that provide annual payments and are usually sold by insurance companies. Although generally used as retirement vehicles, annuities come in several flavors. Deferred annuities and immediate annuities differ in when the payments begin, and fixed annuities and variable annuities have different payment structures. Disadvantages include penalties for withdrawing the principal and the ever-present drain of inflation on future returns. Despite this, annuities can be a great way for investors nearing or in retirement to enjoy the benefits of compounding because they are low risk and gains are tax deferred. (For more on this, see Personal Pensions: Repackaging The Annuity.)
4. Get In On Closed-End Investment Funds
A closed-end investment fund is similar to a mutual fund, the difference being that the price of shares in the fund are decided by demand on the open market rather than by net asset value. Basically, you are buying shares of a fund that buys shares in the market, so your fund’s share price is only as good as the management’s performance. Generally, these funds specialize according to purpose (capital appreciation, dividend income, etc.) and market (energy, technology, pharmaceuticals, etc.), so it is important to read the prospectus and check the performance history before buying in. See Open Your Eyes To Closed-End Funds.
5. Consider Collectibles
When footage of Marilyn Monroe sells for over $14,000 and a Honus Wagner card for over $1 million, it’s hard not to see an upside to collectibles. Before you make them the base of your portfolio, however, it’s important to look at the downside. Similar to precious metals, owning collectibles produces no income and gains are only realized through appreciation. Unlike precious metals, physical damage can erase all the value of a collectible, meaning that you need to factor maintenance costs against future returns. There is no doubt collectibles can produce big returns, but they’re more of a purchase than an investment and are usually best left to those with a genuine passion. For more on this, see Contemplating Collectible Investments.
6. Common Stock, Uncommon Returns
Stocks have history running in their favor, averaging 11-12% a year, and they outperform just about every type of investment. The trade-off is that stocks come with greater risk. Average market returns are no comfort if you buy at the market peak and sell during the graveyard. Still investing in stocks is no longer as mysterious or as elite an activity as it used to be. Armed with the desire to learn, you can make stocks a powerful source of returns in your portfolio. To learn more about stocks, see our Stock Basics Tutorial.
7. The Magic Of Convertible Securities
Convertible securities are the alchemists of the financial world. They can change bonds representing a company’s debt into stocks representing ownership of the company. Convertible bonds allow a company to get financing at a low interest rate without having to explicitly issue more stock - something that existing shareholders frown upon. For investors, convertible bonds offer protection in that they function as bonds if the company does poorly, but can be turned into stock if a company does well. Depending on the company, convertible bonds offer risks and rewards somewhere between true stocks and true corporate bonds, and carry an extra caveat in that they are callable. See Convertible Bonds: An Introduction for more.
8. Enter The World Of Corporate Finance
Corporate bonds are basically loans made from an investor to the corporation issuing the bond. Whereas normal people go to a bank and have to get approved, corporations set their own terms and then find investors. Bonds are evaluated by the default risk of the borrower, the interest rate offered,and the maturity date. Corporate bonds carry a higher yield - that is, they pay more to investors - than government bonds. Corporations with a high default risk have to pay even more to woo investors - these are called junk bonds. To learn more about bonds, see our Bond Basics Tutorial.
9. Buy Into The Future
At its core, a futures contract is simply a way to move the risk of price volatility off producers and onto investors, who are prepared to take on the risk in order to profit. If an egg producer needs $2/dozen to stay in business, but the market price fluctuates between $1 and $3 throughout the year, the producer can enter a futures contract at $2 to lock-in the price. The investor now holds the risk of the price of eggs plummeting and the profit if the price goes up - though in the latter case, the investor may be left with only the fee the producer paid to enter the contract rather than the profits. For more on trading in futures, see the Futures Fundamentals Tutorial.
10. Play The Game Of Life
Taking out life insurance is essentially playing the odds on your mortality. When you’re young the issuer is willing to give it to you cheap because the odds are against you dying suddenly and making them pay out your plan. As you age, however, the ante keeps going up. Life insurance is invaluable for the peace of mind it provides and can even be used as a hedge against wasting illnesses that you may not have coverage for under your health plan (dread disease rider). Although your goal should be to get into a financial situation where your assets will more than cover your obligations when you die, life insurance is an excellent stop-gap until that day. For more, see How Much Life Insurance Should You Carry?
11. Take Idle Funds To The Money Market
The money market is a basket of short-term, fixed-income securities that are meant to provide a return on idle funds without sacrificing liquidity. For example, many full service brokerages keep investors’ cash balances in money market accounts while the investor considers his or her investment options. If you need to house money for a short time and don’t have the thousands it takes to buy directly into the money market, it can be accessed through money market funds. These are basically mutual funds dealing exclusively in the money market. If you are working with a longer time horizon, however, then bonds or equities are a better bet. To learn more, see our Money Market Tutorial.
12. Give Mortgage-Backed Securities A Second Chance
The world revolves on credit. Freddie, Fannie and Ginnie are responsible for repackaging mortgages into investments so that banks can move loans off their balance sheets and offer more credit to consumers. There was a time when mortgage-backed securities (MBS) were as good as gold. That is to say that they carried little risk of default, offered both liquidity and capital appreciation, and offered better returns than bonds - all in all, an excellent investment. Unfortunately, the MBS industry took a hit in the mortgage meltdown of 2007-08 as loans were being given to less credit-worthy individuals - the MBS then became toxic. MBS will recover to provide excellent investment opportunities in the future as they have become as essential as stocks for making the market work, but they must now be approached with healthy skepticism. See Profit From Mortgage Debt With MBS for more.
13. Invest In Infrastructure
Municipal bonds are debt instruments issued by local governments to cover capital expenditures like road maintenance and other infrastructure projects. Munis carry very good tax breaks because the governments, federal and state, want to encourage private investment in infrastructure as it lessens the strain on their budgets. The interest on munis tends to be much lower than corporate bonds because of the advantageous tax breaks. You can get exposure to a pool of munis through municipal bond funds to lessen the risk of default in any one county. Although default is very rare, it has happened. See The Basics Of Municipal Bonds for more.
14. Follow The Leader
Mutual funds are the casual investors solution to research. In theory, you pay a management fee to a professional who does the due diligence for you and comes up with a portfolio that should provide above-average returns. By pooling your money with other investors, your fund manager can buy into investments that require larger amounts of capital. Sadly, funds vary widely according to the quality of the fund manager, so you will still have to do research to find a fund that fits your investment goals, and has a manager who can deliver choice returns. The upside is that a good mutual fund gives you diversity through a single investment. For more, see our Mutual Fund Basics Tutorial.
15. Take Stock Of Your Options
If you are comfortable trading stocks, there is a way to increase your gains by leveraging your bets on a stock. Options allow investors to speculate on the movement of a stock or to hedge an existing investment by using a call or a put. If you think a stock will shoot up in value, you can purchase a call option at the current price and, if it goes up, you can exercise the option and profit from the difference in prices. The price of purchasing an option is much cheaper than actually purchasing and holding the stock, but using this financial shortcut requires a high risk tolerance. It’s not unusual for the value of an option to whipsaw 30-40% within a single trading day. See our Options Basics Tutorial for more.
16. Get Preferential Treatment
Similar to convertible bonds, preferred stock takes up a middle ground between the risk and rewards of common stock and those of corporate bonds. Preferred stock holders get regular dividend payouts unlike the unpredictable dividends for holders of common stock and, in the case of a bankruptcy, rank just behind corporate bondholders on the payback list. Unfortunately the higher dividend is taxable, so the choice between common and preferred is as much a tax issue as an investment one. The purpose of preferred shares is to produce more income than bonds while only slightly increasing the risks. See A Primer On Preferred Stocks.
17. Become The Landlord
People who balk at the idea of going through a financial statement and shudder at the thoughts of scouring footnotes often make a more difficult investment without a second thought. Buying a house makes you every bit as sophisticated as a qualified investor, especially if you’re the type to check the fixtures and go to the town council for zoning laws. Real estate investing seems more comprehensible to people because buying a house is something everyone has to do at some point in his or her life. With the power of leverage, real estate investing can be an excellent source of income - providing people choose their investment as wisely as they do their own house. See Investing In Real Estate for more.
18. Team Up With The Landlord
If you want to invest in real estate but you don’t want tenants calling you at 3am with a flooding toilet, than REITs might be for you. REITs allow investors to enjoy some of the benefits of investing in real estate - income from rent paid as dividends and some tax benefits - without giving up liquidity or having to learn plumbing in your spare time. REITs come in different types: equity REITs pool investor money and buy properties to rent, mortgage REITs issue mortgages and invest in mortgage backed securities, and hybrid REITs do a bit of both. Depending on what you’re looking for, REITs offer an easy way to diversify into real estate without wielding a pipe wrench. For more, see What Are REITs?
19. Uncle Sam's IOU
Treasuries are essentially the same as munis, but issued by the federal government. The government securities are broken up into three categories: long-term treasury bonds, short-term treasury bills, and medium-term treasury notes. They may vary in the term of investment, but all of them are exempt from state and municipal taxes. Because the U.S. government specifically endorses these investments, they often become the life raft for investors when the market begins to tank. Although the rate of return won’t wow your friends, the low risk of default on treasuries makes them a safe haven in a choppy market. See Asset Allocation Within Fixed Income for more.
20. Who Needs Fund Managers?
A unit investment trust (UIT) is like a mutual fund without a fund manager. The portfolio, be it bonds or stocks, is selected by professionals and then the UIT undergoes a process similar to an IPO where investors buy into the trust. The trust buys-and-holds the securities after the IPO - the portfolio is not actively managed. Shares of the trust can be traded in secondary markets or sold back to the issuer to be resold, but the total of shares issued doesn't change. Usually a UIT remains in operation only for the life of the investments. If there is any uncertainty, as with a stock unit trust, a termination date is set beforehand. In short, UITs provide the diversity of mutual funds without the management risks.
21. Bonds Gone Wild
Zero-coupon bonds are bonds that have been stripped of their coupons. In layman’s terms, this means a brokerage has taken a bond and split it into two parts. One part is the interest payments, or coupons, and the other part is the face value of the bond (the size of the loan it represents). On a $1,000 bond, the face value is simply $1,000. You can buy that bond for less than $1,000, however, because it no longer pays interest. This means you might pay $800 for a bond worth $1,000, but you have to wait until the bond matures to see your $200 profit. Basically, stripping bonds is a way for banks and brokerages to free up credit faster, but investors also benefit from the returns that come from buying theses bonds at a deep discount. To learn more about this, see What is the difference between a zero-coupon bond and a regular bond?
22. Conclusion: Divide and Conquer
While putting all the eggs in one basket has worked for exceptional stock pickers, real estate investors and other specialists, most people benefit from diversifying their portfolios away from a single type of investment. It is extremely unlikely that you'll own all of these investments at the same time, but a well-diversified portfolio doesn't need to have everything, but rather a mix that suits your investing needs. As your needs change, so will your tools. You may find that stocks are for your salad days while treasury bonds and annuities keep you warm in old age. That's why it's important to be aware of what's out there already and what new financial tools are being created - even if they're not the proper investment for you right now, they may be in the future.
http://investopedia.com/slide-show/investments-build-portfolio/
The concept of a portfolio and the birth of individual investing have opened up possibilities for everyone. The only real difference between you and Warren Buffett is a few well-chosen stocks - the billion-dollar fortune is the result. Stocks, while important, aren’t all there is to investing. Keeping your portfolio divided between the different investment vehicles reduces your overall risk while still generating returns. Here are 20 investment tools you can use to increase your portfolio’s diversity.
2. Go Global With ADRs
American Depository Receipts (ADRs) were introduced to streamline the purchase of foreign assets. ADRs are created when banks buy bundles of foreign shares and repackage them to sell on U.S. stock exchanges. Instead of having investors switch dollars for another currency to buy foreign shares and switch back to dollars when selling, banks eliminate the currency transaction. ADRs face exchange rate risks and political risks as well as the regular risks for stocks, but they offer global diversity in a convenient package. For more, see ADRs: Invest Offshore Without Leaving Home.
3. Add Annuities To Your Retirement Portfolio
Annuities are investments that provide annual payments and are usually sold by insurance companies. Although generally used as retirement vehicles, annuities come in several flavors. Deferred annuities and immediate annuities differ in when the payments begin, and fixed annuities and variable annuities have different payment structures. Disadvantages include penalties for withdrawing the principal and the ever-present drain of inflation on future returns. Despite this, annuities can be a great way for investors nearing or in retirement to enjoy the benefits of compounding because they are low risk and gains are tax deferred. (For more on this, see Personal Pensions: Repackaging The Annuity.)
4. Get In On Closed-End Investment Funds
A closed-end investment fund is similar to a mutual fund, the difference being that the price of shares in the fund are decided by demand on the open market rather than by net asset value. Basically, you are buying shares of a fund that buys shares in the market, so your fund’s share price is only as good as the management’s performance. Generally, these funds specialize according to purpose (capital appreciation, dividend income, etc.) and market (energy, technology, pharmaceuticals, etc.), so it is important to read the prospectus and check the performance history before buying in. See Open Your Eyes To Closed-End Funds.
5. Consider Collectibles
When footage of Marilyn Monroe sells for over $14,000 and a Honus Wagner card for over $1 million, it’s hard not to see an upside to collectibles. Before you make them the base of your portfolio, however, it’s important to look at the downside. Similar to precious metals, owning collectibles produces no income and gains are only realized through appreciation. Unlike precious metals, physical damage can erase all the value of a collectible, meaning that you need to factor maintenance costs against future returns. There is no doubt collectibles can produce big returns, but they’re more of a purchase than an investment and are usually best left to those with a genuine passion. For more on this, see Contemplating Collectible Investments.
6. Common Stock, Uncommon Returns
Stocks have history running in their favor, averaging 11-12% a year, and they outperform just about every type of investment. The trade-off is that stocks come with greater risk. Average market returns are no comfort if you buy at the market peak and sell during the graveyard. Still investing in stocks is no longer as mysterious or as elite an activity as it used to be. Armed with the desire to learn, you can make stocks a powerful source of returns in your portfolio. To learn more about stocks, see our Stock Basics Tutorial.
7. The Magic Of Convertible Securities
Convertible securities are the alchemists of the financial world. They can change bonds representing a company’s debt into stocks representing ownership of the company. Convertible bonds allow a company to get financing at a low interest rate without having to explicitly issue more stock - something that existing shareholders frown upon. For investors, convertible bonds offer protection in that they function as bonds if the company does poorly, but can be turned into stock if a company does well. Depending on the company, convertible bonds offer risks and rewards somewhere between true stocks and true corporate bonds, and carry an extra caveat in that they are callable. See Convertible Bonds: An Introduction for more.
8. Enter The World Of Corporate Finance
Corporate bonds are basically loans made from an investor to the corporation issuing the bond. Whereas normal people go to a bank and have to get approved, corporations set their own terms and then find investors. Bonds are evaluated by the default risk of the borrower, the interest rate offered,and the maturity date. Corporate bonds carry a higher yield - that is, they pay more to investors - than government bonds. Corporations with a high default risk have to pay even more to woo investors - these are called junk bonds. To learn more about bonds, see our Bond Basics Tutorial.
9. Buy Into The Future
At its core, a futures contract is simply a way to move the risk of price volatility off producers and onto investors, who are prepared to take on the risk in order to profit. If an egg producer needs $2/dozen to stay in business, but the market price fluctuates between $1 and $3 throughout the year, the producer can enter a futures contract at $2 to lock-in the price. The investor now holds the risk of the price of eggs plummeting and the profit if the price goes up - though in the latter case, the investor may be left with only the fee the producer paid to enter the contract rather than the profits. For more on trading in futures, see the Futures Fundamentals Tutorial.
10. Play The Game Of Life
Taking out life insurance is essentially playing the odds on your mortality. When you’re young the issuer is willing to give it to you cheap because the odds are against you dying suddenly and making them pay out your plan. As you age, however, the ante keeps going up. Life insurance is invaluable for the peace of mind it provides and can even be used as a hedge against wasting illnesses that you may not have coverage for under your health plan (dread disease rider). Although your goal should be to get into a financial situation where your assets will more than cover your obligations when you die, life insurance is an excellent stop-gap until that day. For more, see How Much Life Insurance Should You Carry?
11. Take Idle Funds To The Money Market
The money market is a basket of short-term, fixed-income securities that are meant to provide a return on idle funds without sacrificing liquidity. For example, many full service brokerages keep investors’ cash balances in money market accounts while the investor considers his or her investment options. If you need to house money for a short time and don’t have the thousands it takes to buy directly into the money market, it can be accessed through money market funds. These are basically mutual funds dealing exclusively in the money market. If you are working with a longer time horizon, however, then bonds or equities are a better bet. To learn more, see our Money Market Tutorial.
12. Give Mortgage-Backed Securities A Second Chance
The world revolves on credit. Freddie, Fannie and Ginnie are responsible for repackaging mortgages into investments so that banks can move loans off their balance sheets and offer more credit to consumers. There was a time when mortgage-backed securities (MBS) were as good as gold. That is to say that they carried little risk of default, offered both liquidity and capital appreciation, and offered better returns than bonds - all in all, an excellent investment. Unfortunately, the MBS industry took a hit in the mortgage meltdown of 2007-08 as loans were being given to less credit-worthy individuals - the MBS then became toxic. MBS will recover to provide excellent investment opportunities in the future as they have become as essential as stocks for making the market work, but they must now be approached with healthy skepticism. See Profit From Mortgage Debt With MBS for more.
13. Invest In Infrastructure
Municipal bonds are debt instruments issued by local governments to cover capital expenditures like road maintenance and other infrastructure projects. Munis carry very good tax breaks because the governments, federal and state, want to encourage private investment in infrastructure as it lessens the strain on their budgets. The interest on munis tends to be much lower than corporate bonds because of the advantageous tax breaks. You can get exposure to a pool of munis through municipal bond funds to lessen the risk of default in any one county. Although default is very rare, it has happened. See The Basics Of Municipal Bonds for more.
14. Follow The Leader
Mutual funds are the casual investors solution to research. In theory, you pay a management fee to a professional who does the due diligence for you and comes up with a portfolio that should provide above-average returns. By pooling your money with other investors, your fund manager can buy into investments that require larger amounts of capital. Sadly, funds vary widely according to the quality of the fund manager, so you will still have to do research to find a fund that fits your investment goals, and has a manager who can deliver choice returns. The upside is that a good mutual fund gives you diversity through a single investment. For more, see our Mutual Fund Basics Tutorial.
15. Take Stock Of Your Options
If you are comfortable trading stocks, there is a way to increase your gains by leveraging your bets on a stock. Options allow investors to speculate on the movement of a stock or to hedge an existing investment by using a call or a put. If you think a stock will shoot up in value, you can purchase a call option at the current price and, if it goes up, you can exercise the option and profit from the difference in prices. The price of purchasing an option is much cheaper than actually purchasing and holding the stock, but using this financial shortcut requires a high risk tolerance. It’s not unusual for the value of an option to whipsaw 30-40% within a single trading day. See our Options Basics Tutorial for more.
16. Get Preferential Treatment
Similar to convertible bonds, preferred stock takes up a middle ground between the risk and rewards of common stock and those of corporate bonds. Preferred stock holders get regular dividend payouts unlike the unpredictable dividends for holders of common stock and, in the case of a bankruptcy, rank just behind corporate bondholders on the payback list. Unfortunately the higher dividend is taxable, so the choice between common and preferred is as much a tax issue as an investment one. The purpose of preferred shares is to produce more income than bonds while only slightly increasing the risks. See A Primer On Preferred Stocks.
17. Become The Landlord
People who balk at the idea of going through a financial statement and shudder at the thoughts of scouring footnotes often make a more difficult investment without a second thought. Buying a house makes you every bit as sophisticated as a qualified investor, especially if you’re the type to check the fixtures and go to the town council for zoning laws. Real estate investing seems more comprehensible to people because buying a house is something everyone has to do at some point in his or her life. With the power of leverage, real estate investing can be an excellent source of income - providing people choose their investment as wisely as they do their own house. See Investing In Real Estate for more.
18. Team Up With The Landlord
If you want to invest in real estate but you don’t want tenants calling you at 3am with a flooding toilet, than REITs might be for you. REITs allow investors to enjoy some of the benefits of investing in real estate - income from rent paid as dividends and some tax benefits - without giving up liquidity or having to learn plumbing in your spare time. REITs come in different types: equity REITs pool investor money and buy properties to rent, mortgage REITs issue mortgages and invest in mortgage backed securities, and hybrid REITs do a bit of both. Depending on what you’re looking for, REITs offer an easy way to diversify into real estate without wielding a pipe wrench. For more, see What Are REITs?
19. Uncle Sam's IOU
Treasuries are essentially the same as munis, but issued by the federal government. The government securities are broken up into three categories: long-term treasury bonds, short-term treasury bills, and medium-term treasury notes. They may vary in the term of investment, but all of them are exempt from state and municipal taxes. Because the U.S. government specifically endorses these investments, they often become the life raft for investors when the market begins to tank. Although the rate of return won’t wow your friends, the low risk of default on treasuries makes them a safe haven in a choppy market. See Asset Allocation Within Fixed Income for more.
20. Who Needs Fund Managers?
A unit investment trust (UIT) is like a mutual fund without a fund manager. The portfolio, be it bonds or stocks, is selected by professionals and then the UIT undergoes a process similar to an IPO where investors buy into the trust. The trust buys-and-holds the securities after the IPO - the portfolio is not actively managed. Shares of the trust can be traded in secondary markets or sold back to the issuer to be resold, but the total of shares issued doesn't change. Usually a UIT remains in operation only for the life of the investments. If there is any uncertainty, as with a stock unit trust, a termination date is set beforehand. In short, UITs provide the diversity of mutual funds without the management risks.
21. Bonds Gone Wild
Zero-coupon bonds are bonds that have been stripped of their coupons. In layman’s terms, this means a brokerage has taken a bond and split it into two parts. One part is the interest payments, or coupons, and the other part is the face value of the bond (the size of the loan it represents). On a $1,000 bond, the face value is simply $1,000. You can buy that bond for less than $1,000, however, because it no longer pays interest. This means you might pay $800 for a bond worth $1,000, but you have to wait until the bond matures to see your $200 profit. Basically, stripping bonds is a way for banks and brokerages to free up credit faster, but investors also benefit from the returns that come from buying theses bonds at a deep discount. To learn more about this, see What is the difference between a zero-coupon bond and a regular bond?
22. Conclusion: Divide and Conquer
While putting all the eggs in one basket has worked for exceptional stock pickers, real estate investors and other specialists, most people benefit from diversifying their portfolios away from a single type of investment. It is extremely unlikely that you'll own all of these investments at the same time, but a well-diversified portfolio doesn't need to have everything, but rather a mix that suits your investing needs. As your needs change, so will your tools. You may find that stocks are for your salad days while treasury bonds and annuities keep you warm in old age. That's why it's important to be aware of what's out there already and what new financial tools are being created - even if they're not the proper investment for you right now, they may be in the future.
http://investopedia.com/slide-show/investments-build-portfolio/
Saturday 29 August 2009
Cash in a Clunker
Stock has moved up higher by 50% the last few months. Many who cashed out of the market during the downturn are paralysed. Some termed them as "paralysed investors".
However, cash is a clunker. Cash is earning nothing and its value is eroded by inflation. Also, the US dollar has fallen 20% in value relative to most other currencies. Moreover, when one is using one's cash savings, one is effectively dipping into or spending your capital.
There is always uncertainties in the market. Should you get in now? Why? You might be missing on more upsides. Should you get out now? Why? You might the miss a sell off, after all the market has risen 50% over the recent months. Perhaps, should you be selling out on some of your stocks? Why? To lock in some gains on stocks that have risen above "intrinsic" value.
Few months ago, shares were being sold at WHOLESALE PRICES. Now they are selling at RETAIL PRICES. Effectively, those "paralysed investors" who will be entering the market at this time are paying retail prices for their shares. How then can they re-employ some capitals into stocks? How can they get back into stocks?
Stay with high quality high dividend yield stocks which are likely to grow their dividend over time. Then start an investment program to buy into these on a systematic basis over time, for example, over the next 10 months. This is akin to cost averaging. As long as you stay with high quality high dividend yield stocks, even if the market were to have another sell down, these stocks should be quite resilient and the selldown may even be a good opportunity to buy at cheaper prices. More importantly, is by having an investment program in place, one can regain one's confidence to invest back into stocks; getting out of cash which is earning next to nothing at present.
The market is unpredictable. The less productive question to ask of oneself is "Is the market going down tomorrow?". The more productive and appropriate question is "Where will the market be in 3 or 5 years from today?"
However, cash is a clunker. Cash is earning nothing and its value is eroded by inflation. Also, the US dollar has fallen 20% in value relative to most other currencies. Moreover, when one is using one's cash savings, one is effectively dipping into or spending your capital.
There is always uncertainties in the market. Should you get in now? Why? You might be missing on more upsides. Should you get out now? Why? You might the miss a sell off, after all the market has risen 50% over the recent months. Perhaps, should you be selling out on some of your stocks? Why? To lock in some gains on stocks that have risen above "intrinsic" value.
Few months ago, shares were being sold at WHOLESALE PRICES. Now they are selling at RETAIL PRICES. Effectively, those "paralysed investors" who will be entering the market at this time are paying retail prices for their shares. How then can they re-employ some capitals into stocks? How can they get back into stocks?
Stay with high quality high dividend yield stocks which are likely to grow their dividend over time. Then start an investment program to buy into these on a systematic basis over time, for example, over the next 10 months. This is akin to cost averaging. As long as you stay with high quality high dividend yield stocks, even if the market were to have another sell down, these stocks should be quite resilient and the selldown may even be a good opportunity to buy at cheaper prices. More importantly, is by having an investment program in place, one can regain one's confidence to invest back into stocks; getting out of cash which is earning next to nothing at present.
The market is unpredictable. The less productive question to ask of oneself is "Is the market going down tomorrow?". The more productive and appropriate question is "Where will the market be in 3 or 5 years from today?"
Friday 28 August 2009
Maybank: After writedowns, time to log profits
After writedowns, time to log profits
By Adeline Paul Raj
Published: 2009/08/27
With the issue of impairment charges settled, Malayan Banking management's focus for the current fiscal year would be earnings deliverance, says an analyst with AmResearch
MALAYAN Banking Bhd (Maybank) (1155), the country's top lender, must focus on delivering earnings at its newly-acquired banks, particularly Bank Internasional Indonesia (BII), now that it has gotten the issue of impairment charges out of the way, analysts said.
The issue of how much impairment charges Maybank would have had to make, particularly for BII, had been one of the biggest things weighing the stock in recent months.
In the end, the charges - which is the difference between what it paid for the banks and their actual fair value - came in within, albeit at the higher end of, analysts' expectations.
Maybank had decided to "bite the bullet" by taking a huge RM1.97 billion impairment charge for its investments in BII and MCB Bank in Pakistan.
This pushed the group into the red in its final quarter, and re-duced earnings for the full year ended June 30 2009 to just RM692 million, its lowest annual profit in a decade.
With that issue out of the way, AmResearch upgraded its call on Maybank's stock to a "hold" from "sell" previously, and raised the target price to RM7.10 from RM4.60.
"With the issue of impairment charges settled, management's focus for (the current fiscal year) would be earnings deliverance," its banking analyst Fiona Leong said in a research note yesterday.
The stock's share price performance, however, is likely to track the FTSE Bursa Malaysia KLCI index until there is a firm uptrend in operating profits, she added.
She expects Maybank's net profit to rise 18 per cent to RM2.56 billion in the current year and RM2.83 billion in the next. This is after factoring in better-than-expected non-interest income from the treasury operations and capital market-related businesses.
Analysts, however, expect Maybank's return-on-equity (ROE), a measure of how well its re-invested earnings are used to generate additional earnings, to be "sub-par" over the next two to three years following its expen-sive acquisitions.
They said the management had indicated that it would take a few years before ROE, which stood at just 10 per cent last year, could go back up to pre-acquisition levels of about 14 per cent.
The bank is targeting an ROE of 11 per cent for the current year.
Analysts are also concerned that the group may have to do more cleaning up of its loan books, particularly for BII, in the current year. It already set aside large loan loss provisions of about RM1.7 billion last year compared with RM810 million previously.
"In view of its sub-par ROEs and relatively long gestation period for expensive overseas acquisitions to start contributing meaningfully, we prefer Public Bank and Bumiputra-Commerce for cheaper valuations and comparatively higher ROEs among the larger banks," OSK Research's analyst Keith Wee said.
OSK maintained its "neutral" call on the stock, but raised the target price to RM6.20 from RM5.15.
Maybank closed at RM6.47 yesterday, five sen lower than the previous day.
By Adeline Paul Raj
Published: 2009/08/27
With the issue of impairment charges settled, Malayan Banking management's focus for the current fiscal year would be earnings deliverance, says an analyst with AmResearch
MALAYAN Banking Bhd (Maybank) (1155), the country's top lender, must focus on delivering earnings at its newly-acquired banks, particularly Bank Internasional Indonesia (BII), now that it has gotten the issue of impairment charges out of the way, analysts said.
The issue of how much impairment charges Maybank would have had to make, particularly for BII, had been one of the biggest things weighing the stock in recent months.
In the end, the charges - which is the difference between what it paid for the banks and their actual fair value - came in within, albeit at the higher end of, analysts' expectations.
Maybank had decided to "bite the bullet" by taking a huge RM1.97 billion impairment charge for its investments in BII and MCB Bank in Pakistan.
This pushed the group into the red in its final quarter, and re-duced earnings for the full year ended June 30 2009 to just RM692 million, its lowest annual profit in a decade.
With that issue out of the way, AmResearch upgraded its call on Maybank's stock to a "hold" from "sell" previously, and raised the target price to RM7.10 from RM4.60.
"With the issue of impairment charges settled, management's focus for (the current fiscal year) would be earnings deliverance," its banking analyst Fiona Leong said in a research note yesterday.
The stock's share price performance, however, is likely to track the FTSE Bursa Malaysia KLCI index until there is a firm uptrend in operating profits, she added.
She expects Maybank's net profit to rise 18 per cent to RM2.56 billion in the current year and RM2.83 billion in the next. This is after factoring in better-than-expected non-interest income from the treasury operations and capital market-related businesses.
Analysts, however, expect Maybank's return-on-equity (ROE), a measure of how well its re-invested earnings are used to generate additional earnings, to be "sub-par" over the next two to three years following its expen-sive acquisitions.
They said the management had indicated that it would take a few years before ROE, which stood at just 10 per cent last year, could go back up to pre-acquisition levels of about 14 per cent.
The bank is targeting an ROE of 11 per cent for the current year.
Analysts are also concerned that the group may have to do more cleaning up of its loan books, particularly for BII, in the current year. It already set aside large loan loss provisions of about RM1.7 billion last year compared with RM810 million previously.
"In view of its sub-par ROEs and relatively long gestation period for expensive overseas acquisitions to start contributing meaningfully, we prefer Public Bank and Bumiputra-Commerce for cheaper valuations and comparatively higher ROEs among the larger banks," OSK Research's analyst Keith Wee said.
OSK maintained its "neutral" call on the stock, but raised the target price to RM6.20 from RM5.15.
Maybank closed at RM6.47 yesterday, five sen lower than the previous day.
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