"20-Slot Rule" - This tip from Warren Buffett will help you be more successful at work and in life

STRATEGY

JAMES CLEAR STRATEGY JUL. 21, 2015


Charlie Munger settled into his seat in front of the crowd at the University of Southern California.

It was 1994 and Munger had spent the last 20 years working alongside Warren Buffett as the two men grew Berkshire Hathaway into a billion-dollar corporation.

Today, Munger was delivering a talk to the USC Business School entitled, “A Lesson on Elementary Worldly Wisdom.”

About halfway through his presentation, hidden among many fantastic lessons, Munger discussed a strategy that Warren Buffett had used with great success throughout his career.

Here it is:

When Warren lectures at business schools, he says, “I could improve your ultimate financial welfare by giving you a ticket with only 20 slots in it so that you had 20 punches — representing all the investments that you got to make in a lifetime. And once you’d punched through the card, you couldn’t make any more investments at all.”

He says, “Under those rules, you’d really think carefully about what you did and you’d be forced to load up on what you’d really thought about. So you’d do so much better.”

Again, this is a concept that seems perfectly obvious to me. And to Warren it seems perfectly obvious. But this is one of the very few business classes in the U.S. where anybody will be saying so. It just isn’t the conventional wisdom.

To me, it’s obvious that the winner has to bet very selectively. It’s been obvious to me since very early in life. I don’t know why it’s not obvious to very many other people.

The Underrated Importance of Selective Focus

Warren Buffett’s “20-Slot” Rule isn’t just useful for financial investments, it’s a sound approach for time investments as well. In particular, what struck me about Buffett’s strategy was his idea of “forcing yourself to load up” and go all in on an investment.

The key point is this:

Your odds of success improve when you are forced to direct all of your energy and attention to fewer tasks.

If you want to master a skill — truly master it — you have to be selective with your time. You have to ruthlessly trim away good ideas to make room for great ones. You have to focus on a few essential tasks and ignore the distractions. You have to commit to working through 10 years of silence.

Going All In

If you take a look around, you’ll notice very few people actually go “all in” on a single skill or goal for an extended period of time.

Rather than researching carefully and pouring themselves into a goal for a year or two, most people “dip their toes in the water” and chase a new diet, a new college major, a new exercise routine, a new side business idea, or a new career path for a few weeks or months before jumping onto the next new thing.

In my experience, so few people display the persistence to practice one thing for an extended period of time that you can actually become very good in many areas — maybe even world-class — with just one year of focused work. If you view your life as a 20-slot punchcard and each slot is a period of focused work for a year or two, then you can see how you can enjoy significant returns on your invested time simply by going all in on a few things.

My point here is that everyone is holding a “life punchcard” and, if we are considering how many things we can master in a lifetime, there aren’t many slots on that card. You only get so many punches during your time on this little planet. Unlike financial investments, your 20 “life slots” are going to get punched whether you like it or not. The time will pass either way.

Don’t waste your next slot. Think carefully, make a decision, and go all in. Don’t just kind of go for it. Go all in. Your final results are merely a reflection of your prior commitment.


Read more at http://www.businessinsider.my/this-tip-from-warren-buffett-will-help-you-be-more-successful-at-work-and-in-life-2015-7/#5fqKjIQ1ghhmJRpw.99

Richard Branson explains his 4 rules for making difficult decisions

STRATEGY

In the summer of 2012, the British government informed Virgin Trains that it had lost the bid to retain the operating rights to the UK’s West Coast rail franchise. Virgin Trains had been running the £7 billion ($10.9 billion) franchise for 15 years, expanding the line and growing its annual passenger numbers from 13 million to 30 million.

Richard Branson, chairman of Virgin Train’s parent company the Virgin Group, writes in his book “The Virgin Way” that he was “stunned and baffled” that he could have lost the bid to the company FirstGroup.

He decided to stay quiet for awhile, meeting with lawyers and advisors to see if Virgin had actually been beaten fairly. Everyone he spoke with seemed to conclude that FirstGroup’s numbers were unsustainable, meaning the British government had made a mistake in calculations. Regardless, many of his senior team told Branson that he’d only be wasting his time and hurting his image with a lawsuit. But, after carefully weighing the facts, he decided to move forward with it.

A week before he was scheduled to meet the Department for Transport in the UK’s high court, Branson got a phone call from the department’s secretary. The secretary told him that on further review, the department had indeed made grave miscalculations and Virgin had offered the better deal.

Branson considers his decision to sue the government, which ultimately saved his rail business, to be one of the best high-stakes decisions he’s ever made. In his book he highlights four rules that he’s used to make tough decisions like this one throughout his business career, and we’ve described them below.

1. Don’t act on an emotional response.

Branson says he was flabbergasted when he first heard that the Virgin Trains deal had not gone through, but he was experienced enough to know that he should take some time to settle down and collect data instead of letting his feelings take control of him.

Had he made a statement to the press out of frustration or demanded to sue the British government solely out of instinct rather than fact, he would have increased the likelihood of having his case dismissed and appearing reckless.

It’s just as bad to act on a positive emotion, he says. Give decisions you’re considering enough time to lose the influence of your first impressions.

2. Find as many downsides to an idea as possible.

Branson carefully considers everything that could go wrong before he goes forward with a decision.

Regarding the rail case, Branson’s lawyers initially told him he had a 10% chance of winning a case against the government. But after collecting proof that some numbers in his competitor’s deals were off, he was convinced he had truth and customer support on his side.

“Nothing is perfect, so work hard at uncovering whatever hidden warts the thing might have and by removing them you’ll only make it better still,” he writes.

3. Look at the big picture.

Before he makes a decision, Branson takes a look at how it will affect his other projects in both the short and long term.

“This one may be a ‘too good to miss’ opportunity but how will it affect other projects or priorities and, if now is not the best time to do it, what risks if any are there in putting the thing on hold for an agreed period of time?” he writes. “If you cannot manage this project in addition to another that’s waiting in the wings, which one gets the nod and why?”

Branson’s latest project is Virgin Hotels, which he hopes will take advantage of a booming American hotel market.

With every project he undertakes and manages, he considers how the Virgin brand and his own name will be represented.

4. Protect the downside.

In a LinkedIn blog post from 2014, Branson writes that the best lesson his father ever taught him was to protect the downside; that is, limit possible losses before moving forward with a new business venture.

Branson’s father told him that he would allow him, at age 15, to leave high school and start Student magazine only if he sold £4,000 worth of advertising to cover printing and paper costs.

It’s a strategy he repeated in 1984 when he made a huge leap from the music business into the airline business with Virgin Atlantic. He was only able to convince his business partners at Virgin Records to agree to the deal after he got Boeing to agree to take back Virgin’s one 747 jet after a year if the business wasn’t operating as planned.

These four simple guidelines can become habit, whether you’re about to approach a prospective client or sue the British government.


Read more at http://www.businessinsider.my/how-richard-branson-makes-difficult-decisions-2015-10/#066hEpeUyiL5ofRF.99

Heuristics

Heuristics are simple rules of thumb, developed by humans, which enable them to efficiently make decisions.

Heuristics are essentials; without them it would be impossible to make the decisions required to get through a normal day.

They allow people to cope with information and computation overload and to deal with risk, uncertainty  and ignorance.

Unfortunately, these heuristics can sometimes result in tendencies to do certain things that are dysfunctional.

Everyone must be careful not to fall prey to certain (often dysfunctional) tendencies.

In the context of human activities that were not a part of most of our evolutionary past as a species, such as investing, heuristics can produce one mistake after another.

"Individuals tend to extrapolate heuristics from situations where they make sense to those where they do not."

Heuristics conserve scarce mental and physical resources, but the same process, which is sometimes beneficial, can lead people to harmful systemic errors.

An approach to risk:  Probability of loss X the amount of possible loss  versus Probability of gain X the amount of possible gain.

If the amount of loss is massive even if the probability was small, rationality should overcome psychological denial, optimism, and other negative decision-making tendencies.

The reality is that we all tell ourselves false stories to avoid the truth.

Even if you spend a lot of time studying behavioural economics, you can only improve your skills on the margin.  You will always make mistakes.

If you understand dysfunctions that are caused by behavioural economics phenomena and the other person does not, then you have a potential edge.

The best Graham value investors spend a lot of time thinking about possible sources of dysfunctional decision-making and emotional errors.

Other people's errors create opportunities for the Graham value investor.

"There is a lot of behavioural finance confirming Ben Graham's original judgment." (Professor Bruce Greenwald of Columbia Business School.)

You will need to deal with heuristics like mental accounting, sunk cost, ambiguity, regret and framing, just to name a few in your investing journey.

How smart is Warren Buffett?

"We've seen oil magnates, real estate moguls, shippers and robber barons at the top of the money heap, but Buffett is the first person to get there by picking stocks" [Rothchild, 1995]


1982            Buffett first appeared on the first Forbes list

1992            Reached top position in 1993 with a fortune of $8.2 billion.

2001-2007  Buffett was in second place (after Bill Gates).

2008            Buffett was again in first place with a fortune of $62 billion.

2010-2012   Buffett remained in third place (by that time he ha transferred some of his fortune to a charitable fund)

2013             He was in fourth place.



"Stocks are simple.  All you do is buy shares in a great business for less than the business is intrinsically worth, with management of the highest integrity and ability.  Then you own those shares forever". [Buffett]

The data on Buffett's results are reliable and his performance is very well documented.

"Is this a result of Buffett's application of his methodology, or did it happen by chance?"
"Is it possible to replicate this achievement?"
"What is required for replication?"

The question of whether financial success is achieved by chance or through application of a methodology is the central point of discussion on the rationality and efficiency of financial markets.

Buffett would not have achieved his results without the "right" investment process and without his unique abilities as a business analyst.  But icebergs always have much larger submerged parts.  The true "secrets" may hide there.  Supporting the investment process that he developed is the intellectual foundation (intellectual core) beneath his accomplishment.  

Investment Decisions and Fundamentals of Value

Investment Decision Rules:

Accept all investments with Net Present Value greater than Zero.

Accept all investments with Rates of Return greater than their Opportunity Costs of Capital





@ time 39.00

An example:

You are considering an investment opportunity that costs $100,000 and promises to return 10%.

A comparable investment in the financial market returns 15%.

A bank offers to lend you $100,000 at 8% with no conditions.


Questions:

1.  Do you invest $100,000 in the investment opportunity?

Answer:  NO

2.  What is the investment's cost of capital?

Answer:  15%.


Reasons:

You should invest the $100,000 in the financial market that returns 15%.

The financial market provides the investing return standards against which other investments are evaluated.

Financing by the bank loan at 8% was irrelevant to the investment decision.

The investment decision and the financing decision are separate and independent decisions.

After you have made the investment decision, thus:

You are considering an investment opportunity that costs $100,000 and promises to return 10%.

A comparable investment in the financial market returns 15%.

Then you make the financing decision, thus:

A bank offers to lend you $100,000 at 8% with no conditions.

Corporate Finance by Aswath Damodaran - Youtube lectures

Corporate Finance by Aswath Damodaran

https://www.youtube.com/playlist?list=PLJCQlCCSYx7uscvh-nnJ5X3jE9CgSzWfC

Risk Management

Risk refers to the likelihood that your assets will decrease in value.

Risk is unique in that it applies to the probability of losses occurring, and the potential value of those losses.

In finance, risk is considered a type of cost.

All decisions you make have some degree of inherent risk.

Inaction too often has the greatest amount of risk, so rather than becoming paralysed by attempting to avoid all risk, look at it as a type of cost that allows you to calculate whether a financial decision will reap greater benefits that the potential losses and to compare the available options.

There are a variety of different ways to:

• avoid risk,
• reduce risk, or 
• even share risk.

Each of the above has a price.

By calculating the cost-value of specific risks, it becomes possible to determine whether any of the tools available for managing risk are financially viable and are themselves an appropriate risk.

Risk management is a critical part of financial success.

You should explore:

• the different types of financial risk, 
• the ways in which risk is measured and 
• how to effectively manage the amount of risk to which you are exposed.

Additional notes

Ways to avoid risk:  diversification and appropriate use of derivatives

Ways to share risk:  insurance

In the end, the best tool you have available to you in limiting the costs associated with risk is simple due diligence.

• Do your research, make decisions which make sense to you and keep watching so you know when that decision doesn't make sense anymore.
• If someone's credibility is in question, risk mitigation can come in forms as simple as asking for a nonrefundable down-payment, just as banks will sometimes ask for collateral before issuing loans.
• Preparing for losses can be as simple as keeping enough funds available in a liquid form so you can pay your bills until you regain your losses.  
• The duration of your exposure to losses can be shortened by ensuring you always have an exit strategy - before you commit to a decision, develop a way to undo it in a worst-case scenario.

Like most things, you get out of risk management that you put into it, and as the amount of potential risk increases, so should your intolerance for sloppy risk management.

"No risk, no reward." "Higher risk, higher returns."

Risk:  The probability and value of financial loss.

Specific risk:  Risk that is associated with an individual investment.

Old cliche in finance:  "no risk, no reward".

But there is absolutely no reason to think that accepting risk inherently generates financial returns.  

The reality is the opposite:  all other things being equal, higher risk causes you lower financial gain, since the costs you incur as a result of the elevated risk corrode the value of your assets.

All other things being equal between two distinct investment options, if one option has greater risk, then the organisation selling that investment must offer a higher rate of return in order to attract investors.

It is not that the higher risk causes higher returns - it is that investors demand higher returns in order to accept the higher risk.


Various models are used to understand the relationship between risk and returns:

1. CAPM
2. APT
3. Value at Risk
4. Expected Shortfall
5. Ratings by underwriting agencies

Growth Investing

The Conventional definition:  An investor who buys high price-earnings ratio stocks or high price to book ratio stocks.


The Generic definition:  An investor who buys growth companies where the value of growth potential is being underestimated.   


In other words, both value and growth investors want to buy undervalued stocks.

The difference is mostly in where they think they can find bargains and what they view as undervalued (value of the growth assets versus the value of the assets per se.)

If you are a growth investor, you believe that your capability edge lies in estimating the value of the growth assets better than others in the market.

Cyclical losses from economic cycles, time horizon and retirement planning

The value of assets such as stocks and real estate increases on average over the long run.

It also tends to fluctuate in waves - it will go up for a while, then down a little, then up some more and down again.

If you are not careful these waves can make you seasick, metaphorically speaking, of course.

If you watch these cycles happen but aren't aware of how to manage your response, you could find yourself making poor financial decisions as a result or even attempting to retire shortly after a devastating economic collapse, as happened to many people after the 2008 financial collapse.

What are the ways to prevent this from happening?




YOUR TIME HORIZON AND ECONOMIC CYCLES

The main thing to consider is your time horizon - the number of years you have remaining before your planned retirement date.

When you are young and first begin saving for retirement, it is easy to take a lot of risk without worrying about CYCLICAL LOSSES, because you think you will have more than enough time to regain that value.

This is a mistake a lot of people make, as they sell all their investments when the economy crashes, forgetting that economies eventually recover.

A recession is the worst time to sell your investments because you will get the worst possible price for them, for the reason of a national economic cycle rather than anything inherent to the investments themselves.



DON'T CONFUSE ECONOMIC CYCLES WITH TROUBLED INVESTMENTS

It is important, however, that you don't confuse economic cycles with troubled investments.

If your investments are doing poorly in a strong economy, consistently underperform or otherwise give you a reason to believe that the price won't recover, then don't stay on a sinking ship - sell those investments and buy something better.

Losses resulting from economic cycles, such as recessions, will recover; so remain persistent.

After you get some practice and become familiar with these cycles, you can even sell your investments just as they begin and then rebuy them when they lose a lot of their value, maximizing your wealth.

Another approach is then to sell them again slowly as their price recovers.

This reduces some of the risk associated with the economy's uncertain movements - something which so many people struggle to predict, even experts.

If you know how to ride these cyclical waves in the economy, you can actually use them to your advantage, but even if you just hold onto your investments and wait out the recession, you will regain the value eventually.



FINANCIAL PLANNING NEARING RETIREMENT

These cycles only really pose a risk to people who are getting ready to retire in the middle of one.

This is why you should absolutely manage a shift in the types of investment you hold as you get closer to your retirement.

When you are young, more volatile investments like equity index funds will give you the highest growth rates, even though the price roller coaster may make you dizzy.

As you get closer to your retirement date, the timing of these cycles can be very unfortunate, leaving you with little money to fund your retirement; so over the years you should gradually switch from high-risk to low-risk investments.

This means that you should regularly increase the percentage of your total investments that are allocated to things like low-risk bonds, fixed-rate annuities or even high-yield bank accounts.

That way, by the time you are ready to retire, the fluctuations in the economy will have little influence on the value of your investments.

This process of gradual risk reduction will help to give you the highest returns on your investments, while carefully managing the amount of risk to which you are exposed.

Capital Management in Personal Finance

A simple equation in finance describes your approach to capital management:

Assets = Debt + Equity

Everything you own was funded either by incurring debt or by expending your own resources.

Subtracting all your debt from the total value of your assets shows you how much equity (net wealth) you have accumulated.

The BALANCE of debt and equity you have used to fund the value of your assets is a critical portion of your financial management strategy, known as CAPITAL MANAGEMENT.



Cost of capital

Whether you use debt or equity to fund your asset ownership, there are COSTS OF DEBT and EQUITY involved, known collectively as COST OF CAPITAL.

The cost of debt refers to the amount of interest you will pay over the life of your debt.

Most people don't realise that there is also a cost associated with using your own resources to purchase assets, known as the "cost of equity".

"OPPORTUNITY COST" is the value of the next best option; so if you have the choice between purchasing furniture and keeping your money in a bank account, the opportunity cost of buying the furniture is equal to the amount of interest you would have earned by keeping your money in the account.

This makes most purchases far more expensive than people realise, since each purchase you make not only includes spending money, but also losing any earnings on that money if you hadn't spent it.




Effective capital management

Effective capital management requires you to assess the cheapest sources of both debt and equity being used to fund your assets, and also to find the proper balance of equity and debt so that you choose the cheaper of the two at any given point.

As you come to rely on one more than the other, its costs will start to increase; the more debt you have, the more lenders will start to charge you in interest rates as a result of the shift in your credit report.

If you rely more on equity, you will begin to pull assets which are more valuable, making debt cheaper compared to the money you would be losing by selling your investments.

The goal is to maintain the lowest cost of capital possible, using variations on the core equation:


Cost of capital 
= Cost of Equity + Cost of Debt
= [(E/A)*CE] + [(D/A)*CD]

E= The amount of equity you have
D= The amount of debt you have
A= The total value of your assets (D+E)
CE= The average cost of your equity (the money you would earn o the next best option)
CD= The average cost of your debt (the interest payments you will make)

E/A= weight of source of capital from equity
D/A= weight of source of capital from debt

You can assess whether your debt or equity is costing you more money from the above equation, to help you to determine the proper balance.

If these are not about equal, it is likely you could fund your assets more cheaply.




Are your assets generating returns more than the cost of capital?

Adding the cost of equity to the cost of debt gives you the total cost of capital.

The question remaining is whether your assets, on average, are generating MORE value than they are costing.

If yes, good for you.

If not, keep trying, because  right now you are losing money on your assets.

This equation only gives you a rough idea of your cost of capital, though.

The more precise you can be, even to the point of breaking down each source of debt and equity individually, the more accurate your calculation will be.

Beginner Strategies for Investment

Investment strategies aren't just about picking the best investments you can find, but about picking investments that are more beneficial together than they are on their own.

Here are some basic strategies to build your investments.

The most common strategy is simple diversification of investments.

For bonds, this means staggering your coupon and maturity dates not only to provide consistent income but also so that you can more readily respond to changes in the market, rather than having the entirety of your bond investments tied up at the same time.

For stocks, this means picking high-quality investments which tend to fluctuate in price in opposite directions; as one stock decreases in value in the short run, another should increase, but both should appreciate over the long run.

In the same manner, including global diversification of stock investments can reduce the impact of global trends.

Diversifying into types of investment you have can help you find an appropriate balance of potential gain and risk - maintaining a percentage of your portfolio in stocks or even high-risk investments like speculative stocks or junk bonds and the remainder of your portfolio in low-risk investments.



Options

Many options make use of a combination of stocks and derivatives.

Buying stocks as well as a put option gives you the upside potential of the stock but limits your potential losses by guaranteeing you will be able to resell the stock at the price noted in the option.  So long as your gains exceed the purchase cost of the put option, you will remain "in the black".

If you believe a stock will decrease in price, you can sell it short and then buy a call option, so that if you are wrong you can repurchase the stock at a guaranteed maximum price, putting a limit on the immense risk associated with shorting stock.

Buying both a call and a put option with the same strike price (the price at which you can exercise your option) means that you will make money regardless of which direction the stock moves, so long as the move is large enough that you earn more money than the cost of the options.  This strategy is known as a "straddle".

In a strategy known as a "collar", you buy a stock and sell a call option on the stock , so that if the price of the stock increase, the option buyer will likely exercise their option; this creates limited upside potential, but the money from the sale of the call option can be used to fund a put option, so that you eliminate the cost of the option.  The result is that you create both a "floor" and a "cap" (a maximum amount of loss and gain, respectively), functioning as a collar that limits the amount of movement in the stock price.

The strategies available to you are varied and numerous.  As you get more practice using them, you can expand to develop multi-step strategies.




[Diversification:  The act of investing in several different investments to reduce the potential value of loss if a single investment fails.

Buying a call option gives you the choice to purchase a given volume of something at a specified price, so long as you do so before the maturity date.

Buying a put option gives you the choice to sell a given volume of something at a specified price.

Regardless of what happens to the market price, the seller of the option is obligated to participate in the exchange if the buyer decides to exercise the option.]

Valuation methods

Even the best investing strategies won't help you if you don't understand the value of the investments you are making.

Without assessing the future potential of your investments, you are simply gambling by letting probability take over.

It is in the nature of investment valuation that the calculations of their value are mathematical.


Return on Investment (ROI)

This is the end result of how much money you make or lose on an investment.

ROI = (P - C) / C

P= current market price at which you sold the investment
C = cost of the investment - the price you paid for it.


Present Value

Present value is the value that an investment with known future value has at the present time.

PV = FV / [(1+r)^t]

FV= amount of money you will receive at the end of the investment's life
r= the rate of return you are earning on the investment during that time
t= the amount of time that passes (in years) between now and the end of the investment's life.

This is an extremely common calculation with bonds, since bonds are sold at the discounted rate (the present value), and you must estimate whether the market price of the bond is above or below the present value to determine whether the price is worth it.


Net Present Value (NPV)

Net present value is the sum of present values on an investment that generates multiple cash flows.

When calculating NPV, calculate the present values of each payment you will receive, and then add them together.



ABSOLUTE AND RELATIVE MODELS

The value of fixed-rate investments is easy because you have certainty regarding what you will earn.

The problems come when you start estimating the value of variable-rate investments, like stocks or derivatives.

There are many complicated methods of calculating variable-rate investments, but they fall into three categories:

Absolute
Relative, and
Hybrid


Absolute models

Liquidation value or intrinsic value

Absolute models are the most popular among investors who look for the intrinsic value of an investment, rather than attempting to benefit by trading on movements in the market.

Such models include calculations of the liquidation value of the company, often adjusted for growth over the next few years.

In other words, you start with what the company would be worth if you simply sold everything it has for the cash, then subtract the debt.

Of course, the value of companies changes over time, and the market price of stocks is often based on the future earning potential of the company, rather than its current earnings.

So, estimates of liquidation value start with the current liquidation value and then increase that value by a percentage consistent with their average past growth, or by some other estimate of their future growth.


Dividend Discount Model  (DDM)

For investors who prefer investments that yield dividends, the DDM is popular.

DDM is calculated by working out the NPV of future dividends.

If you estimate that dividends will grow over that period, simply subtract the growth rate from the rate of return in the NPV calculation.

NPV = Dividend / (R - g)

R= discount rate
g= growth rate

For dividend investors, if the NPV of the dividends is lower than the current market price per share of the stock, the stock is undervalued, making it a great deal.


Relative Models

Relative models are popular among traders, who invest based on short-term movements in the market because they allow them to compare the performance of various options.

Common tools in performing these comparative assessments use the financial statements of a company and include:

Price to earnings ratio (P/E)

This functions as an indicator of the price you are paying for the profits a company will earn for you, either as dividends or through the investment of retained earnings.

Return on equity (ROE) = Net Income / Shareholder Equity

This indicates the amount of money a company makes using the money shareholders have invested in the company.

Operating margin = Operating Income / Net Sales

This indicates how efficiently a company is operating.


These indicators are not calculations of company value, but indicators of the comparative performance of companies in which one might invest.



Hybrids

Absolute and relative models are combined to create hybrids that attempt to estimate the value of a stock by combining the intrinsic value of the company with how well it performs compared to other potential investments.

Dynamics of Housing Market Cycles

http://jasss.soc.surrey.ac.uk/17/1/19.html

The Emotional Roller Coaster of the Trader

Various emotions are experienced as a trader holds onto a ticker through the various stages.

Stage 1 – Accumulation. Stock is quiet, trading sideways and without a lot of volatility. Most everyone ignores the stock because it has no sizzle. Insiders hold large blocks of stock and quietly gear up for the distribution.

Stage 2 – Breakout. Volume jumps up, psychological barriers are broken. Insiders begin to tell their friends of upcoming significant fundamental change. Pros take notice and buy the stock on the coat tails of the well informed. The public ignores it because they have not read about the company in the paper yet. It must be a scam.

Stage 3 – Uptrend. As a larger audience learns of the company and its promise, more buying comes in to the stock and it begins to climb. Pros begin to sell, but slowly. Average investor begins to buy.

Stage 4 – Pullback. The stock has gone up too fast, and some profit taking arrives. The jumpy investor who got the entry timing right but lacks confidence in his or her decision sells the stock with a small profit, and smiles in the mirror. The Pro holds on, Average Investor looks through the newspaper to find justification for ownership of the shares.

Stage 5 – Resumption of the Uptrend. The pull back is short lived, and the stock bounces and continues higher. The wannabe regrets the sell, but provides self counsel on the merit of making a profit, albeit a small one. The Pro might sell a little bit more, but still holds the majority of the original position. The Average Investor is getting excited now, and thinks about what could have been if only he had bought when he first noticed the stock.

Stage 6 – Exhaustion of the Uptrend. The media takes notice, and communicates the company’s merits to the masses. The masses buy the stock, and it goes up sharply with strong volume. The Pros sell with enthusiasm. The Average Investor owns it now, and is telling everyone who will listen. The wannabe Pro jumps back on, after all, he was smart enough to buy it when the trend started, so he knows the stock well. Will hope make it go higher?

Stage 7 – Gravity Works. Pro selling begins to weigh on the uptrend, and the stock fails to go higher despite high volumes. The stock starts to go down instead of up, and the Pro is almost sold out. The Average Investor continues to cheer lead, hoping to rally support. The wannabe ignores what the market is telling him, taking a loss is too painful to consider. The company is featured on the cover of a magazine.

Stage 8 – The Second Guess. The stock bounces and starts to go back up. The wannabe Pro averages down while the Average Investor gets back to advising friends of his stock picking acumen. Pros sell their remaining holdings and begin to look for another deal to play, or perhaps start short selling the stock.

Stage 9 – Out of Gas. The bounce is a fake out, and the stock moves lower again. The public own this stock, and they have no more power to buy. The Pro are making money on the short sales now, but are despised by the masses. Calls for short selling to be made illegal are made by the Average Investor, after all, the short sellers are the demons causing the sell off.

Stage 10 – Dead Cat Bounce. The Average Investor and the wannabe Pro have no pain tolerance left, and finally sell for a big loss. The short selling Pros are the only buyers to take the share off their hands, and provide the needed liquidity. The stock bounces, and some short term traders make a quick profit. The Average Investor either swears to never buy a stock again, or tells lively stories over drinks about the one that could have been.

Stage 11 – Post Mortem. Pros have forgot about the stock and are considering carpet samples for their new home in Florida. Average Investor continues to follow the company and buys loads of cheap stock to try and overcome the regrettable loss.

The stock market is mean. You can be a good analyst, but if you can’t overcome the psychological traps of trading, you will do what the crowd does. To be successful, you have be one step ahead of the crowd, and trade with unemotional discipline. There are strategies to take advantage of each stage of the marketcycle that can be applied just by looking at a stock chart. They just require a bit of knowledge.


https://toohightoolo.wordpress.com/tag/lifecycle/

The complex relationship between stock market cycle and the economic cycle

The above depicts the economic life cycle for various business industries. 

The stock market reacts ahead of the economic cycle.

The idea is that our economy goes through periods of growth and decline as products, services, and business occur that spark consumer spending or lack thereof.

The eleven basic industries are annotated and noted as to where most successful in the economic cycle.

Donald Yacktman: "Viewing Stocks as Bonds"

Investment Philosophy

1. Good businesses that dominate their industry
2. Shareholder-oriented management
3. Low purchase price

A good business may contain one or more of the following:

• High market share in principal product and/or service lines
• High cash return on tangible assets
• Relatively low capital requirements allowing a business to generate cash while growing
• Short customer repurchase cycles and long product cycles
• Unique franchise characteristics

   

                                                   High Cyclicality          Low Cyclicality

Low Capital Intensity                  Media                        Consumer Staples

High Capital Intensity                 Capital Goods           Utilities

Secular growth, not cyclical growth preferred.

Published on 30 Jul 2015

Drawing on his four decades of experience, Don Yacktman identifies the three key characteristics of value stocks. In this talk, he shares his investment philosophy along with the lessons he has learned from the markets and from life.

About the speaker:

Don Yacktman is Partner and Portfolio Manager of Yacktman Asset Management. He began his career at Yacktman founding the company as its President, Portfolio Manager, and Chief Investment Officer. Since founding the company Don has been awarded the 1994 “Portfolio Manager of the Year” by Mutual Fund Letter. Don has also been nominated by Morningstar as Fund Manager of the Decade in 2009, and finalist for Morningstar’s Domestic-Stock Manager of the Year award in 2011, and “Portfolio Manager of the Year” in 1991. Don holds an MBA with distinction from Harvard University.

Replicating Walter Schloss' Investment Technique

Picking Stocks like Peter Lynch

8 Rules for Picking Perfect Value Stocks

Tim Melvin's 8 Rules

1.  Book value matters
2.  Buy maximum pessimism
3.  Do not do what everyone else is doing
4.  Margin of safety is critical
5.  Scale into stocks (Double down at liquidation value)
6.  React; don't predict
7.  Patience is Profitable
8.  Do not play just because the casino is open

Valuation: Four Lessons to Take Away

Published on 17 Feb 2015

The tools and practice of valuation is intimidating to most laymen, who assume that they do not have the skills and the capability to value companies. In this talk, I propose to lay out four simple propositions about valuation. 

The first is that valuation is not an extension of accounting, insofar as it is not about recording the past but forecasting the future. 

The second is that valuation is not just modeling, where people put numbers into Excel spreadsheets and pump out values. A good valuation requires a narrative that binds the numbers together. 

The third is that valuing an asset or business is very different from pricing that asset or business, a difference that is often blurred in practice. 

The fourth is that luck plays a disproportionate role in whether you make money off your valuations. Put differently, you can do everything right and still walk away with nothing or worse at the end.

About the Author
I view myself, first and foremost, as a teacher. I do teach valuation and corporate finance not only to MBAs at Stern but to anyone who will listen (on iTunes U, online and on YouTube). I love to write books, teaching material and blog posts. After 30 years of teaching finance, I still find it fascinating as an interplay of economics, psychology and number crunching.

Q&A starts @ 56 minutes of the video.

As an investor, you will believe price will ultimately moves to value.

Price can deviate from value for an extended period.

It is all a matter of perception, like pricing a painting by Picasso.

Sometimes it takes so long to happen, there is no point in waiting especially for a trader.

It is almost a given if you are an investor, you have a longer time horizon.

An interesting answer by the Professor to a question at 60 minutes of the video.  

"Investing takes work.  If you don't have the time, don't over reach.  You don't get rich through investing.  You get rich by doing whatever you are doing. Investing is about preserving what you made elsewhere and growing it."

Here’s what Warren Buffett said how he got so rich

Here’s what Warren Buffett said when Tony Robbins asked him how he got so rich

NOV. 16, 2015, 1:30 AM

Billionaire Warren Buffett hasn’t always been as incredibly rich as he is today — in fact, 99% of his wealth was earned after his 50th birthday. Everyone has to start somewhere, even the wealthiest, most successful people.

The investing legend has been slowly building his fortune over the years, and today, the 85-year-old billionaire is one of the richest men in the world, with an estimated net worth of over $60 billion.

How did he come to earn such a mind-blowing amount of money?

Motivational speaker and author of “MONEY: Master The Game,” Tony Robbins, decided to ask him.

“I asked Warren Buffett — I said, ‘What made you the wealthiest man in the world?’” he tells entrepreneur and business coach Lewis Howes in an episode of his podcast,”The School of Greatness.”

“And he smiled at me and said, ‘Three things: Living in America for the great opportunities, having good genes so I lived a long time, and compound interest.”

Buffett has always been an advocate of keeping things simple and focusing on the long-term — that’s why he recommends low-cost index funds. 

One of the keys to Buffett’s wealth is simply time — 60 plus years of smart investing has allowed him to reap the benefits of compound interest.

Compound interest is when the interest earned on your investments earns interest itself — it’s what causes wealth to rapidly snowball, and in Buffett’s case, snowball to billions and billions of dollars.

Read more at http://www.businessinsider.my/how-warren-buffett-got-rich-2015-11/#S8a8PGvZDpxjKKZC.99

What does P/E mean? Future P/E is the Key

P/E ratio or price earnings ratio of a stock refers to the market multiplier.

P/E ratio is calculated by dividing the current market price of a stock by the previous year's earnings per share.

Generally, a low P/E would mean that a stock is selling at a relatively low price compared to its earnings.

A high P/E would indicate that a stock's price is high and may not be much of a bargain.

The P/E of one successful company may be very different from that of another successful company if the two companies are in different industries.

High-tech companies with big growth and high earnings generally sell at much higher P/Es than low-tech or mature companies where growth has stabilized.

Some stocks can sell at very high prices even when the companies have no earnings.  The high prices reflect the market's expectation for high earnings in the future.


Future P/E is the Key

A knowledgeable investor recognizes that the current P/E is not as important as the future P/E.  

The investor wants to invest in a company that has a strong financial future, that is, invest into its earnings potential..

In order for the P/E ratio to be helpful to the investor, much more information about the company may be needed.

Generally, the investor will compare a company's ratios for the current year with that of previous years to measure the growth of the company.

The investor will also compare the company's ratios with those of other companies in the same industry.

Great, good and gruesome businesses of Warren Buffett (Capital Allocation and Savings Accounts)

Buffett compares his three different types of great, good and gruesome businesses to "savings accounts."  


The great business is like an account that 

• pays an extraordinarily high interest rate 
• that will rise as the years pass.

A good one 

• pays an attractive rate of interest 
• that will be earned also on deposits that are added.

The gruesome account 

• both pays an inadequate interest rate and 
• requires you to keep adding money at those disappointing returns.

Read also:

The Great, Good and Gruesome Businesses of Buffett

The Three Gs of Buffett: Great, Good and Gruesome

There is no price low enough to make a poor quality company a good investment.

Be a stock picker: Buy GREAT companies and hold for the long term until their fundamentals change

Layoffs in Malaysian banks a symptom of slowing regional economy

BY BOO SU-LYN

Jayant Menon, a lead economist at the Asian Development Bank said banks would need to undertake cost-cutting measures due to slowing economic growth in the region. — Picture by Saw Siow Feng
KUALA LUMPUR, Nov 1 — The recent string of restructuring by several banks in Malaysia is due to an unexpectedly bigger impact from slowing economic growth in the region amid falling government revenues, analysts have said.

Asian Development Bank lead economist (trade and regional cooperation) Jayant Menon said the sluggish economy in the region, chiefly in China but with a larger than expected effect on its trading partners such as Malaysia, would affect many sectors of the economy, including services like banking.

“With dwindling government revenues following the oil and commodity price decline, the government-linked banks can no longer expect large subsidies to weather the slowdown, and will need to undertake cost-cutting measures, such as retrenchments, to remain competitive,” Jayant told Malay Mail Online.

Bloomberg TV Malaysia reported on Tuesday that Hong Leong Bank Bhd announced its mutual separation scheme on October 21, following other banks like CIMB Group Holdings Bhd, RHB Capital Bhd and Affin Bank Bhd that had laid off workers.

Government-linked CIMB Group Holdings reportedly cut 11.1 per cent of its total workforce earlier this year, or 3,599 employees, while RHB Banking Group reportedly said last September that there was no specific target on the number of staff that RHB Capital would retrench.

RAM’s co-head of financial institution ratings Wong Yin Ching noted that some Malaysian banks have embarked on merger and acquisition exercises over the last few years that have resulted in a bigger workforce, besides relying more on technology.

“Hence, as banks pursue greater cost efficiency in this increasingly competitive environment, we have seen various measures being implemented to reduce their workforce.

“These have been undertaken with greater urgency now given the softer earnings outlook in this more challenging economic environment with slower loan growth and continued margin compression,” Wong said.

Maybank Investment Bank group chief economist Suhaimi Ilias also pointed to the mergers and acquisitions in the banking sector that have led to excess staff, like at CIMB Investment Bank following the Royal Bank of Scotland (RBS) Asia Pacific acquisition, as well as the RHB-OSK and Affin-Hwang mergers.

“Amid pressure on interest income and intense competition for fee-based income, banks have to manage their costs-income ratio (CIR) and boost revenue per worker as well as overall productivity.

“The future of banking is also changing as information and communication technology play increasing role in the provision of services,” Suhaimi said.

- See more at: http://www.themalaymailonline.com/malaysia/article/layoffs-in-malaysian-banks-a-symptom-of-slowing-regional-economy-analy#sthash.51WHcbVH.dpuf

Why buy growth?

Why are investors obsessed with growth?  

The answer is straightforward.

More than anything else, growth drives sustainable increases in earnings and cash flow.

And these factors determine a company's real worth and hence, its stock price.



What is growth?

When we talk about growth, we are basically talking about a company selling more goods ands services this year than it did last year, and expecting to sell even more the following year.

Increasing sales aren't the only way for a company to grow the bottom line.

It could, for a while at least, cut expenses and "do more with less."

It could buy back its own stock and decrease the denominator used in the earnings per share calculation (as long as this amount outweighs the loss of interest income from the money used to repurchase the share).

But there is only so much fat to trim, and if a company is going to see its profits - and ultimately its stock price rise over the long term, it must grow the top line.  



Why buy growth?

With the right principles and patience, you can hope to identify companies that are likely to turn a high growth rate - or an anticipated high growth rate - into a sustainable force to drive future cash flow for a long time, thus giving you a huge payoff for your diligence and effort.

Rapid growth can lead to big returns .... or painful mistakes. Be knowledgeable.

Growth is a strategy in which stock pickers may have a better chance of success.

Buying growth with a broad-brushed index approach is a formula for underperformance, but some smart choices can lead to outperformance.


Value companies

A good value investment will rise in price because the market will eventually take notice of it - either because people become more widely aware of its performance or because they recognise that its problems are being corrected.

As the market corrects its earlier impressions, the stock rises, sometimes dramatically.

If it is to continue to rise, however, the company has to do more than show it is worthy of recognition.  It has to perform ... and grow.

Some "value" investments actually have great growth potential, while many will at best turn in tepid growth even if all goes well.


Growth companies

The best growth companies, however, will achieve phenomenal expansion.

And the very best can keep it up for years, letting you grow wealth while deferring taxes.

That kind of long-term, high growth is what creates 20-baggers an even 100-baggers.

A single investment like that can transform your portfolio - your whole financial future, in fact.

And you are unlikely to find such a company without identifying extraordinary growth potential.

These businesses aren't just looking to succeed in an established industry.  They want to shake things up.



Two Catches

1.  Rapid growth usually doesn't last long.

Some companies mange to grow sales at an exponential rate (over 100%) for a year, maybe even several.  But maintaining that pace eventually becomes impossible.

If they are successful, companies naturally mature to a state of slow growth.

They evolve into the kind of large, steady companies that offer steady, but usually not large, returns.

Using a growth strategy means finding companies that can sustain extraordinary growth longer than the market realises and expects, either because you have caught it early in its growth cycle, or because it has such strong structural advantages that it maintains a dominant position in its industry.


2.  The market tries to anticipate the future.

You may have heard about companies being "priced" for future events, including an expectation that future earnings will be a lot better than the ones you see today.

Sometimes predictions are too rosy; sometimes they underestimate what a company can do.

When they are too optimistic, high-priced stocks crash down to earth.

When they are too cautious, an "expensive" stock can keep rising sometimes for years.

We want to find the latter.




Comments:

If you own equal amount of ten stocks and one drops 50%, your portfolio goes down 5%.

If you own equal amount of ten stocks and one goes up 500%, your whole portfolio increases in value by 50%.  From just ONE stock.

You can apply that logic on whatever scale you like - a concentrated portfolio of just a few stocks or a less-volatile portfolio of 100 stocks.

With diligence, patience and the right approach, you will find stocks that go up 500% or more.

Of course, you will also pick some that go down 90%.

But is it not true that value stocks beat growth stocks?  Yes, they do  ... broadly speaking.  Unless, that is, you pick the right growth companies.

These rapid growth companies are a part of your broader approach to wealth creation.

An Exclusive Interview with Professor Aswath Damodaran