Tag Archives: Investing

Long-Term Investors vs Day Traders

Posted on by

Billionaire “Old School” Investors:

1. Carl Icahn
2. Warren Buffett
3. Charlie Munger
4. Howard Marks
5. Nick Sleep

Billionaire Day Traders:

1.
2.
3.
4.
5.

The second list isn’t blank by accident.

For the purposes of this post:

  • Day trading is buying and selling on small price movements in stocks throughout a trading day, often in intervals of seconds or minutes.
  • Old School (Long-term) investing is buying or selling a company’s stock after long periods of holding an investment and being patient for the right price to intrinsic value proposition.

Return on Invested Capital (ROIC)

Posted on by

Return on invested capital, or ROIC, is a valuable financial ratio. Understanding ROIC and using it to screen for high ROIC stocks is a good way to focus on the highest-quality businesses.

Put simply, return on invested capital (ROIC) is a financial ratio that shows a company’s ability to allocate capital.

A high return on invested capital (ROIC) means investors are realizing strong returns on their investment in a company.

The higher the ROIC, the better a company is investing it’s capital to generate future growth and shareholder value.

For example, let’s say a management team had $1 million dollars to invest, and they could either invest in a new product line, or enhancements to their existing product line. After thinking it over, the Company invests the $1 million in a new product line. One year later, the Company looks back at what they have earned on the new product line, only to find out that it’s a measly $100,000.

As it turns out, if they had invested in the enhancements to their existing product line, they would have earned $500,000 over the same period of time. What does this mean?

Well, there could be more factors at play, but based on this example, the Company’s management team made the wrong decision.

As an investor, you want your management teams making the right decisions and investing in the areas that will generate the highest returns for you as an investor.
The common formula to calculate ROIC is to divide a company’s after-tax net operating profit, by the sum of its debt and equity capital.

Once the ROIC is calculated, it is evaluated against a company’s weighted average cost of capital, commonly referred to as WACC. If a company’s WACC is not immediately available, it can be calculated by taking a weighted average of the cost of a company’s debt and equity.

Cost of debt is calculated by averaging the yield to maturity for a company’s outstanding debt. This is fairly easy to find, as a publicly-traded company must report its debt obligations.

Cost of equity is typically calculated by using the capital asset pricing model, otherwise known as CAPM.

Once the WACC is calculated, it can be compared with the ROIC.

Investors want to see a company’s ROIC exceed its WACC. This indicates the underlying business is successfully investing its capital to generate a profitable return. In this way, the company is creating economic value.

Generally, stocks generating the highest ROIC are doing the best job of allocating their investors’ capital.

By calculating  a company’s return on invested capital, investors can get a better gauge of companies that do the best job investing their capital. Yet, ROIC is by no means the only metric that investors should use to buy stocks.

References:

  1. https://www.suredividend.com/high-roic-stocks/#top
  2. https://www.discoverci.com/stock-scanner/roic-screener

Lessons of Warren Buffett

Posted on by

An understanding of the investing lessons of Warren Buffett.

1. Value investing works. Buy bargains which involve buying assets at a price below the asset’s intrinsic value. Value investing takes time, focus, discipline and patient, and is a hard process to implement and follow. It requires a lot of work to determine the fair value of a particular business. If investors could predict the future directions of the stock market, they would certainly not choose to be value investors. But no one can accurately forecast future prices. Value investing is a safe and successful strategy in all investing environments. The biggest obstacle for a value investor is to remain disciplined and patient in every circumstance the market and life might throw at him. Most people quit value investing and long- term investing for this exact reason: because they lack the discipline and cannot sit through periods of poor performance.

2. Quality matters, in businesses and in people. Better quality businesses are more likely to grow and compound cash flow; low quality businesses often erode and even superior managers, who are difficult to identify, attract, and retain, may not be enough to save them. Always partner with highly capable managers whose interests are aligned with yours.

3. There is no need to overly diversify. Invest like you have a single, lifetime “punch card” with only 20 punches, so make each one count. Look broadly for opportunity, which can be found globally and in unexpected industries and structures.

4. Consistency, discipline and patience are crucial. Most investors are their own worst enemies. Endurance and long-term perspective enables compounding.

5. Risk is not the same as volatility; risk results from overpaying or overestimating a company’s prospects. Prices fluctuate more than value; price volatility can drive opportunity. Sacrifice some upside as necessary to protect on the downside.

6. Unprecedented events (or Black Swan events) occur with some regularity, so be prepared.

7. You can make some investment mistakes and still thrive.

8. Holding cash in the absence of opportunity makes sense.

9. Favor substance over form. It doesn’t matter if an investment is public or private, fractional or full ownership, or in debt, preferred shares, or common equity.

10. Candor is essential. It’s important to acknowledge mistakes, act decisively, and learn from them. Good writing clarifies your own thinking and that of your fellow shareholders.

11. To the extent possible, find and retain like-minded shareholders (and for investment managers, investors) to liberate yourself from short-term performance pressures.

12. Do what you love, and you’ll never work a day in your life.

13. “The first rule of investing is to not lose money, the second rule is to never forget the first one,” states Warren Buffett. Loss avoidance must be the cornerstone of your investment philosophy. Investors should not stick to bonds or avoid risks at all, but rather that “an investment portfolio should not be exposed to losses of principal capital over five to ten years”, according to Klarman. This, concentrating on avoiding big losses is the safest way to ensure a profitable investing outcome.

14. Ignore Market Price Fluctuations which are completely unrelated to the value of the investment or asset. When the stock’s market price goes down, the investment may be seen as riskier regardless of its fundamentals. But that’s not risk. Investors should expect prices to fluctuate and should not invest in securities if they cannot tolerate market volatility.

15. Avoid Leverage At All Costs.

References:

  1. https://hollandadvisors.co.uk/wp-content/uploads/2021/03/what-ive-learned-from-warren-buffett-seth-klarman.pdf
  2. https://medium.datadriveninvestor.com/how-seth-klarman-achieved-a-20-annual-return-for-30-years-8cd0f39da208

Warren Buffett’s Investing Top Four

Posted on by

“Don’t look at a stock like it is a ticker symbol with a price that goes up and down on a chart. It’s a slice of a company’s profits far into the future, and that’s how they need to be evaluated.” ~ Warren Buffett, Chairman and CEO, Berkshire Hathaway

Warren Buffett’s philosophy is simple. Buy with a “margin of safety” undervalued companies with strong fundamentals and balance sheet, and then wait. It’s possibly the most boring way to invest in the world. But it’s effective.

For Warren Buffett, deciding what stocks to buy is “simple but not necessarily easy,” according to CNBC Warren Buffett Guide to Investing.

In his Berkshire Hathaway 1977 annual letter to shareholders, he listed four attributes he wanted to see when investing, whether he’s buying the entire company for Berkshire, or just a slice of it as a stock.

1. “One that we can understand…”

When Buffett talks about “understanding” a company, he means he understands how that company will be able to make money far into the future.

He’s often said he didn’t buy shares of what turned out to be very successful tech companies like Google and Microsoft because he didn’t understand them. At the 2000 annual meeting, a skeptical shareholder told Buffett he couldn’t imagine him not understanding something. Buffett responded, “Oh, we understand the product. We understand what it does for people. We just don’t know the economics of it 10 years from now.”

2. “With favorable long-term prospects …”

Buffett often refers to a company’s sustainable competitive advantage, something he calls a “moat.”

“Every business that we look at we think of as an economic castle… And you want the capitalistic system to work in a way that millions of people are out there with capital thinking about ways to take your castle away from you, and appropriate it for their own use. And then the question is, what kind of a moat do you have around that castle that protects it?”

— 2000 BERKSHIRE ANNUAL MEETING

A “moat” consists of things a company does to keep and gain loyal customers, such as low prices, quality products, proprietary technology, and, often, a well- known brand built through years of advertising, such as Coca-Cola. An established company in an industry that has large start-up costs that deter would be competitors can also have a moat.

3. “Operated by honest and competent people …”

“Generally, we like people who are candid. We can usually tell when somebody’s dancing around something, or where their — when the reports are essentially a little dishonest, or biased, or something.

And it’s just a lot easier to operate with people that are candid.

“And we like people who are smart, you know.

I don’t mean geniuses… And we like people who are focused on the business.” — 1995 BERKSHIRE ANNUAL MEETING

The quality of the business itself, however, takes precedence.

“The really great business is one that doesn’t require good management. I mean, that is a terrific business. And the poor business is one that can only succeed, or even survive, with great management.” — 1996 BERKSHIRE ANNUAL MEETING

4. “Available at a very attractive price.”

“The key to [Benjamin] Graham’s approach to investing is not thinking of stocks as stocks or part of a stock market. Stocks are part of a business. People in this room (Berkshire shareholders) own a piece of a business. If the business does well, they’re going to do all right as long as they don’t pay way too much to join into that business. — 1997 BERKSHIRE ANNUAL MEETING

Buffett’s goal is to buy with a “margin of safety” or when the market price is below a company’s “intrinsic value.” Buffett has said that the margin of safety is the “most important concept in investing.”

“The three most important words in investing are margin of safety…” ~ Warren Buffett

“The intrinsic value of any business, if you could foresee the future perfectly, is the present value of all cash that will be ever distributed for that business between now and judgment day.

“And we’re not perfect at estimating that, obviously.

“But that’s what an investment or a business is all about. You put money in, and you take money out.

“Aesop said, ‘A bird in the hand is worth two in the bush.’ Now, he said that around 600 B.C. or something like that, but that hasn’t been improved on very much by the business professors now.” — 2014 BERKSHIRE ANNUAL MEETING

References:

  1. https://fm.cnbc.com/applications/cnbc.com/resources/editorialfiles/2022/03/22/bwp22links.pdf

Focus, Discipline and Patience are Wealth Building Super Powers!

Federal Reserve Policy and the Stock Market

Posted on by

“Don’t Fight the Fed” is an old market cliché that was very applicable during the longest bull market in US history. It is also very applicable currently as the Fed implemented policies to slow the economy by raising interest rates and selling assets from its balance sheet. ~ Chris Vermeulen, Seeking Alpha

In 1977, the US Congress officially gave the Federal Reserve a multi-part mandate to maximize employment, maintain prices near an acceptable inflation target of around 2%, and moderate long-term interest rates. In general terms, Fed policies are supposed to stimulate the economy when it’s weak and cool it when it’s too hot.

The adage highlights the strong correlation between Federal Reserve policy and the direction of the stock market.

“Don’t Fight the Fed” embodied the sentiment that if the Fed was stimulating the economy with accommodative policies, it made little sense to bet against the market’s bullish trend. Effectively, when the Federal Reserve’s monetary policy is loose, markets tend to move higher, volatility is subdued, and investors’ risk is limited, so it makes sense to stay invested and ride the wave. Why “fight the Fed” by selling stocks when it’s on your side?

The Fed held interest rates near zero and instituted a policy called quantitative easing—where it bought mortgage-backed securities and U.S. Treasuries to increase the money supply in hopes of spurring lending and capital investment.

When the Federal Reserve is on a mission to slow the economy down in order to tap down inflation, technology and growth stocks are generally hurt as the cost of capital and borrowing money increases. Thus, the old adage, “Don’t fight the Fed” becomes an important one for investors to abide.

With inflation being persistent in the U.S., Fed officials have taken a new monetary stance that is far less appealing for investors.

The Fed is in Quantitative Tightening mode and has raised interest rates and sold assets from its balance sheet. This calendar year, the Fed has raised interest rates four times and has begun shrinking its balance sheet after years of quantitative easing pushed its holdings to nearly $9 trillion. Its intent is to cool the economy and reduce inflation.

The adage, “Don’t fight the Fed”, is a warning to avoid stocks, or at least to take a more conservative approach to investing.

As a result, investors should take a more cautious approach in this tightening environment and prioritize defensive stocks with pristine balance sheets and steady revenue growth that can survive inflationary pressure.

Inflationary economies tend to punish unprofitable technology and growth companies, despite their potential. Without profits or cash flow, it’s simply too hard to improve quarter over quarter at a time when money becomes more expensive to borrow.

References:

  1. https://www.fortunebuilders.com/best-stocks-to-buy/
  2. https://fortune.com/2022/09/14/dont-fight-the-fed-new-meaning-inflation-economy-dan-niles-satori-fund/amp/
  3. https://seekingalpha.com/article/4544537-dont-fight-the-fed

Intrinsic Value

Posted on by

“Every investment is the present value of all future free cash flow.” Everything Money

Cash flow refers to the net amount of cash and cash equivalents that comes in and goes out of a company. Businesses take in money from sales as revenues and spend money on expenses. Cash received represents inflows, while money spent represents outflows.

“Intrinsic value can be defined simply as the discounted value of cash that can be taken out of a business during its remaining lifetime. “ ~ Warren Buffett

A company’s ability to create value for shareholders is fundamentally determined by its ability to generate positive cash flows or, more specifically, to maximize long-term free cash flow (FCF). FCF represents the cash a company generates after accounting for cash outflows to support operations and maintain its capital assets.

Intrinsic value is defined as the discounted present value of all future cash flow of a business.

The only reason to lay out money for an investment now is to get more money later.  When you invest in a bond, its very easy to see the future cash flow and the terminal value of a bond, its printed on the certificate.

When you invest in a stock,

Investing in any financial asset involves laying out cash now in order to get cash later out of the investment.  And investing in a business, can the business deliver enough cash to you (the owner) soon enough that it makes sense to buy it as its current market value?

How much am I willing to pay for a business, considering it makes $24B in cash flow per year, and is growing at 10% annually.

Once we determine the business intrinsic value, we compare that number to the business’ current market capitalization.  Market cap is the product of the total shares outstanding and the current market stock price.

  • Market cap is higher than intrinsic value = overvalued
  • Market cap is lower than intrinsic value = undervalued

Discounted Free Cash Flow since one dollar today is worth more thant $1 in five years due to opportunity costs and lost of purchasing power of that dollar.

  • Step 1:  Find the current free cash flow – Free cash flow is the amount of money left over for the owners of the business, after factoring in cash outflows that support its operations and maintain its capital assets. The ideal FCF for valuation would equal Operating Cash Flow minu Maintenance CapEx
  • Step 2:  Grow the current free cash flow out 10 years in the future – the growth rate used will have a big impact on the final intrinsic value calculation. Check historical growth rate for cash flow and industry growth rate for cash flow.  Or, look at trend and future capital investments.
  • Step 3:  Add a terminal value – what you can sell the business for in 10 years.  Use FCF multiple.
  • Step 4:  Discount all future cash flows to present value at a rate of 12% to 15%
  • Step 5:  Add together all future cash flows to find intrinsic value
  • Step 6:  Add a margin of safety (of 20% to 30%)

In the current market environment, most companies will be trading above the intrinsic value.

References:

  1. https://www.investopedia.com/terms/f/freecashflow.asp

Warren Buffett: Morgan Housel’s Viewpoint

Posted on by

“Compounding doesn’t rely on earning big returns. Merely good returns sustained uninterrupted for the longest period of time—especially in times of chaos and havoc—will always win.” ― Morgan Housel, The Psychology of Money: Timeless lessons on wealth, greed, and happiness

More than 2,000 books are dedicated to how Warren Buffett built his fortune. Many of them are wonderful. But few pay enough attention to the simplest fact:

Buffett’s fortune isn’t due to just being a good investor, but being a good investor since he was literally a child, writes Morgan Housel in his seminal book, The Psychology of Money: Timeless lessons on wealth, greed, and happiness.

Warren Buffett’s estimated net worth is $110 billion as of November 2022. Of that, $109.2 billion was accumulated after his 50th birthday. $107.5 billion came after he qualified for Social Security, in his mid-60s. Warren Buffett is a phenomenal investor.

But you miss a key point if you attach all of his success to investing acumen. The real key to his success is that he’s been a phenomenal investor for three quarters of a century.

Had he started investing in his 30s and retired in his 60s, few people would have ever heard of him. Consider a little thought experiment. Buffett began serious investing when he was 10 years old. By the time he was 30 he had a net worth of $1 million, or $9.3 million adjusted for inflation.16

What if he was a more normal person, spending his teens and 20s exploring the world and finding his passion, and by age 30 his net worth was, say, $25,000? And let’s say he still went on to earn the extraordinary annual investment returns he’s been able to generate (22% annually), but quit investing and retired at age 60 to play golf and spend time with his grandkids. What would a rough estimate of his net worth be today? Not $110 billion. $11.9 million. 99.9% less than his actual net worth.

Effectively all of Warren Buffett’s financial success can be tied to the financial base he built in his pubescent years and the longevity he maintained in his geriatric years. If you had invested $10,000 with Warren Buffett in 1966, today you would have over $160 million! That same $10,000 invested in the S&P would be $140,000.

Buffett’s skill is investing, but his secret is time. That’s how compounding works. Think of this another way. Buffett is considered by many to be the most famous and successful investor in history. But he’s not necessarily the greatest—at least not when measured by average annual returns.

“Doing well with money isn’t necessarily about what you know. It’s about how you behave. And behavior is hard to teach, even to really smart people.” ~ Morgan Housel

References:

  1. Morgan Housel, The Psychology of Money: Timeless lessons on wealth, greed, and happiness., Harriman House, September 8, 2020.
  2. https://www.goodreads.com/work/quotes/65374007-the-psychology-of-money
  3. https://www.celebritynetworth.com/richest-businessmen/richest-billionaires/warren-buffett-net-worth/

Small Cap Investing

Posted on by

A focus on finding small cap companies with great fundamentals and big growth prospects.

A small-cap stock is a stock of a publicly-traded company whose market capitalization ranges from $300 million to approximately $2 billion, explains Corporate Finance Institute. The word “cap” in this term refers to a company’s market capitalization.

Savvy investors cannot afford to overlook small-cap growth companies. Although, there are several pros and cons of investing in small-cap stocks that must be considered.

Small-cap companies, in general, tend not to get the same kind of publicity as their large-cap siblings. They aren’t going to lead a segment on CNBC or the home page of the Wall Street Journal on a daily basis.

With smaller market capitalizations, small-cap companies tend to fly under the radar.

The Rise of Small-Cap Stocks

Reasons that people may invest in small-cap companies are capital appreciation — they think the stock price will go up and dividends — where the company pays you to hold it.

But some of these are solid companies and excellent small-cap stocks to buy.

Small-cap equities are more sensitive to the economy (inflation, rising interest rates and dollar strength), so a robust economic rebound would favor them.

Small-cap stocks are popular among investors because of their potential for providing better returns in the long term relative to their large-cap peers.

The advantages of investing in small-cap stocks are:

1. Growth potential – Relative to bigger companies, small-cap companies show significantly higher growth potential. For small-cap companies, it is easier to grow significantly their operational and financial base than is the case for most large-cap stocks.

Picking the right small-cap stock can turn into a profitable investment.

2. High probability of inefficiencies in the market – Information about the small-cap stocks is harder to find compared to large and mid-cap companies. Analysts typically give little attention to these companies; thus, there is a high probability of improper pricing of small-cap stocks. This situation creates vast opportunities for investors to leverage the inefficiencies in market pricing and earn a great return on their investments.

3. Financial institutions do not push prices up – Financial institutions, including mutual and hedge funds, should comply with certain regulations that do not allow them to invest heavily in small-cap stocks. For this reason, it is unlikely that the stock price will be artificially pushed up because of large investments from major financial institutions.

Nevertheless, there are some disadvantages of investing in small-cap stocks:

1. High risk – Investing in small-cap stocks involves higher risk. First, small-cap companies may have an unreliable and faulty business model which can result in company’s management not being able to adjust the business model, and can result in poor operational and financial results. And, small-cap companies usually have less access to new capital and new sources of financing. Due to this reason, it is more likely that the company will not be able to bridge gaps in its cash flows or expand the business because of the inability to undertake the necessary investments.

2. Low liquidity – Small-cap stocks are less liquid than their large counterparts. Low liquidity results in the potential unavailability of the stock at a good price to purchase or it may be difficult to sell the stocks at a favorable price. Low liquidity also adds to the overall risk of the stock.

3. Time-consuming – Investing in small-cap stocks can be a time-consuming activity. Due to the under-coverage of small-cap stocks by financial media, institutions and analysts, the amount of available research on small-cap companies is usually limited.

Moreover, small cap technology and all small cap stocks are discounted to a great degree by investors in a rising interest rate environment, purely due to the fact that they have the bulk of potential earnings and cash flow far out into the future. The higher long-term rates are, the less those future earnings and cash flow are worth. This goes for virtually all unprofitable growth tech stocks.

Essentially, small-cap stocks may provide investors with an opportunity to earn a substantial return on their investments. However, this type of investing should be approached with caution as small-cap stocks are often risky and volatile.

References:

  1. https://investorplace.com/2022/11/7-excellent-small-cap-stocks-to-buy-before-this-year-ends/
  2. https://corporatefinanceinstitute.com/resources/wealth-management/small-cap-stock/
  3. https://news.yahoo.com/10-best-small-cap-stocks-140302020.html

Best Investment Advice by Brian Feroldi

Posted on by

  1. Don’t sell too early. Let your winner run and experience the magic compound growth over the long term.
  2. Capital is precious and limited, buy high-quality, avoid garbage. Doing nothing is almost always the best investing strategy and tactic. Valuing and researching great companies is also extremely important.
  3. Sometimes, the best stock you can buy is the one you already own. Add to your winners and not your losers. Winners tend to keep on winning.
  4. Your biggest edges as a retail investor are focus, discipline and patience, don’t waste it.
  5. Get comfortable doing nothing. Doing nothing is almost always the best investing strategy and tactic. It’s really hard to get comfortable doing nothing, but you have to get comfortable doing nothing. Valuing and researching great companies is also extremely important.
  6. Know what metrics to look at, and when to look at them, and when to ignore them. Study the business cycle. Know what valuation metrics matter, when they matter and when they don’t.
  7. Personal finances come first. Make sure you have an emergency fund, because life happens.
  8. You’re going to be wrong a lot. Get comfortable with that. If you buy ten stocks, six will be losers, three will be market beaters and one will perform extraordinarily.
  9. Find an investing buddy, or rather don’t invest alone. Get involved in a good community of investors. Find like-minded people. The Internet makes that so much easier.
  10. Watch the business and not the market price of the stock. What really matter in the long-term is the company’s fundamentals.

References:

  1. https://www.fool.com/investing/2021/03/20/top-10-investing-lessons-for-our-younger-selves/

Inflation Hits Disney’s Magic Kingdom…Ticket Prices Increase

Posted on by

Walt Disney World is raising the range of prices for some of its single-day, single-park tickets at Magic Kingdom, Epcot, and Hollywood Studios in Orlando, FL ~ Janet H. Cho

Families will have to splurge more for their Walt Disney World vacations starting December 8, 2022, because some single-day, single-park ticket prices at Disney’s Magic Kingdom, Epcot, and Hollywood Studios in Orlando could cost as much as $189 a person during the nine-day peak period around Christmas and New Year’s Day.

  • Single-day ticket prices to Disney’s Magic Kingdom Park are increasing to between $124 and $189 a person. The $189 ticket price is specifically for that peak holiday season around Christmas and the new year, and not all year, the Disney spokesperson told Barron’s.
  • Single-day tickets to Disney’s Animal Kingdom are staying at the current $109 to $159 range for visitors ages 10 and up.
  • Single-day tickets to Epcot are increasing to a range of $114 to $179; and
  • Single-day tickets to Hollywood Studios are increasing to $124 to $179.
  • Instead of the current system, which lets visitors make their theme park reservations only after buying their tickets, the new single-day tickets automatically include theme park reservations. The price of the Park Hopper option that lets people visit a second park the same day for $65 more is also changing.

What’s Next: Except for renewals by current annual pass holders, Disney has paused new sales of all but its Pixie Dust annual passes, available to FL residents only, which are staying at $399 a person. It is raising the price of its other annual passes, including the Incredi-Pass, which is going up to $1,399.

Under a separate program, discounted multiday tickets for active or retired members of the U.S. military, their families and friends, are increasing by $20 to $369 plus tax a person for the five-day ticket package plus Park Hopper, or $349 plus tax a person for the four-day package.

Disney also added more blackout dates when military tickets aren’t eligible, including around Christmas and New Year’s this year, and around spring break and Thanksgiving next year.

References:

  1. https://www.barrons.com/articles/disney-visits-will-cost-more-in-florida-51668627930