Monday, October 31, 2011

Acknowledgements On A First Anniversary


I posted the first blog on Wall Street Smarts on November 1, 2010.  I have been gratified by the more than 2200 visits to this site in the past year by people in the following countries (alphabetical order):

Albania                                     Argentina                            Australia
Bangladesh                              Belgium                               Brazil
Canada                                    China                                  Croatia
Czech Republic                        Estonia                                Fiji
Finland                                     France                                Georgia
Germany                                  Greece                               Hong Kong
Hungary                                    India                                   Indonesia
Ireland                                      Italy                                     Japan
Latvia                                       Lithuania                             Malaysia
Mexico                                     Moldova                               Morocco
Netherlands                             New Zealand                        Pakistan
Philippines                               Poland                                 Portugal
Romania                                  Russia                                 Singapore
Slovenia                                  South Africa                         South Korea
Spain                                       Sweden                                Switzerland
Taiwan                                     Thailand                               Turkey
Ukraine                                    United Arab Emirates           United Kingdom
United States                           US Virgin Islands                  Yemen

An unexpected opportunity grew out of this endeavor.  I now share some of the blog material on WUWM, 89.7 FM, which is my local National Public Radio station, as a volunteer contributor on Lake Effect, a local morning program.

Heartfelt thanks to all of you for supporting my blog.  We will pick up from the last post next Monday.

Monday, October 24, 2011

Who The Hell Are You? (1)


Although I would probably be laughed at by most serious cinema critics, I like Arnold Schwarzenegger movies.  Arnold is best known for the Terminator trilogy in which he is a relentless robot from the future; however, in one of his lesser known roles, he played a special ops commando battling an alien in the 1987 sci-fi movie, Predator.  At the end of the movie, he, of course, has defeated the grotesque alien.  Standing over the dying creature, he asks it, "Who the hell are you?"  The extraterrestrial, with its last dying breath, looks at him and repeats the question back to him.  Schwarzenegger's character survives the subsequent explosion and lives to fight another day.

You should ask yourself that very same question with respect to your investment strategy.  In your forays into the stock market, are you an investor, a speculator or a gambler?  Philip Carrett, Benjamin Graham and Al Frank each discuss these distinctions in their books.

I posted the following excerpt in my April 4th blog, but it is worth repeating.  Philip Carrett viewed investors, speculators and gamblers on a continuum.  In his book, The Art  of Speculation, he distinguished between them as follows:

"Your articles deal with speculative investments rather than with speculation." said an astute observer of both fields of activity when he had read the greater part of this book in serial form.  To this charge the writer was forced to plead guilty.  After all, it is by no means easy to draw the line between investment and speculation, between speculation and gambling.  If one is to discuss the topic of speculation and perhaps induce some readers to attempt it who might otherwise have left speculation alone, it is much more helpful to the average reader, much less dangerous to the reader who might misinterpret what he reads, to discuss the sort of speculation which is on the borderland of investment than the more dangerous and less useful type of speculation which borders on gambling. *

Mr. Carrett believed the difference between investment and speculation was the investor's motive.  Was the investor looking for quick profit (speculation) or for long term appreciation (investment)?   

Benjamin Graham was strict in his distinction between investment and speculation.  In the opening paragraphs of The Intelligent Investor, he said:

An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return.  Operations not meeting these requirements are speculative. **

He did concede that there could be intelligent speculation as well as intelligent investment; however, he did not waiver from the differences he saw between the two forms of market operation.

Next week marks the first year of this blog, so there will be a special post.  In two weeks, we will see how Al Frank distinguished between investing and speculating.

* Quote from the edition of The Art of Speculation by Philip L. Carret published in 1995 by Fraser Publishing Company.

** Quote from the revised edition of The Intelligent Investor by Benjamin Graham published in 2003 by HarperCollins Publishers.

Comments are always welcome.

Monday, October 17, 2011

Fundamental Analysis - The Gold Miners


You may recall my blog, Gold Mining, Hang Gliding and Power Walking.  We started exploring fundamental analysis, gold mining, in April of this year.  We have looked at Philip Carrett's work, The Art of Speculation; Benjamin Graham's classic, The Intelligent Investor; Al Frank's book, Al Frank's New Prudent Speculator; Philip Fisher's Common Stocks and Uncommon Profits, among others.  If you consider how many financial characteristics they all mentioned, you can probably come up with a fundamental formula for your own investment strategy.  Here are some of the consensus ideas:

1.  Buy companies, not stocks.  They all agreed that investing should be conducted in a business like manner; based on financial facts, not emotion.

2.  Diversify.  Each author suggested investing in a number of companies.  Al Frank recommended that no one stock should account for more than 5% of an investor's total equity portfolio.  Mathematically, this means that a well rounded portfolio would hold approximately 20 stocks in different industries.

3.  Earnings and dividend growth.  Everyone recommended companies with histories of, at least, three and, preferably, five years of both earnings and dividend growth.  Philip Fisher looked for companies with earnings which exceeded the market's overall earnings growth.  When looking at dividends, the investor must also check the payout ratio, i.e., how much of each dollar of earnings is distributed to shareholders.  A lower percentage indicates that the dividend is safer than the dividend of a company which distributes a large percentage of its earnings to its owners.

4.  Low debt and high return on equity.  When hard times hit, the company with a small percentage of debt in its capital structure has a better chance of weathering the down turn.  Although they do not all agree on an acceptable amount of debt, you get the sense that a company whose capital consisted of 70% equity and 30% debt would be one that these investors would consider a solid investment opportunity.  A return on equity (ROE) of 20% is considered a sign of a good company.

5.  Avoid a high price/earnings (P/E) ratio.  The lower the P/E, the cheaper the stock's earnings.  The P/E measures how much an investor is paying for each dollar of earnings.  David Dreman pointed out that a high ratio is usually an indication that the market crowd has taken over and the price is being bid up based on frenzy, not finances.  Some companies might deserve a low P/E due to poor performance or business prospects; so an investor can not rely solely on this ratio.

6.  Be patient and invest long term.  All of the authors recommended viewing investments as long term commitments.  Warren Buffett said his time line for holding a stock was "forever."  Al Frank cited research that concluded that the volatility of the market is taken out of play if an investor holds his or her stocks for years, not weeks or months.  He referred to this as time diversification.  Each one also counseled investors to maintain patience, ignore market gyrations and stick with their investment strategy.

With this summary, we conclude our study of fundamental analysis.  Reading the books written by these investment greats will provide an individual with the necessary information with which to formulate his or her personal fundamental investment strategy.

Comments are always welcome.  I just published and replied to two recent comments from readers; one of which commented on Stocks and Used Cars.  The other one was a comment on On-Line Brokers:  Stock Screens and Stock Research.

We investigated the "Inner Investor" in earlier blogs.  In the next blog, we will look at a topic related to an investor's personality.

Monday, October 10, 2011

Peter Lynch - Finding Investments At Home


We have discussed finding promising companies using stock screens and stock research reports in the last few blogs.  This is the typical way a fundamental investor would find new investment opportunities.  You could call this the "top down" method, i.e., start with a universe of stocks and whittle the list down to a few companies which meet the investor's financial metrics.  The other method could be described as "bottom up."

Like Philip Fisher before him, Peter Lynch is a growth investor.  Mr. Lynch was the portfolio manager for the Fidelity Magellan mutual fund from May, 1977 to May, 1990.  During his legendary career, he posted market leading returns for his fund investors year after year.  It has been calculated that if someone had invested $10,000 in the Magellan Fund in 1977, by 1987 the money would have grown to $190,000, an enviable return by any calculation.  This outstanding performance resulted in the Fidelity Magellan Fund growing from $20,000,000 when he took over in 1977 to $14,000,000,000 (yes, you read that right - 14 billion dollars) when he retired exactly thirteen years later.  At that point, it was the largest stock mutual fund in the world.

Mr. Lynch wrote his best selling book, One Up On Wall Street, in 1989 with noted financial writer, John Rothchild.  Although a poster boy for Wall Street success, Mr. Lynch tells his readers that individual investors have an advantage over him and other Wall Street professionals.  He opens his book with the following:

This is where the author, a professional investor, promises the reader that for the next 300 pages he'll share the secrets of his success.  But Rule number one, in my book, is: Stop listening to professionals!  Twenty years in this business convinces me that any normal person using the customary three percent of the brain can pick stocks as well, if not better, than the average Wall Street expert.

In an conversational manner, Mr. Lynch writes about the highs and lows of his career and explains why the individual investor can win over the professional investors.  His advice is to look around you and find the companies whose products or services you use or are familiar to you.  News of how well a company's new product or service is doing might not reach Wall Street, in many instances, until well after the company's stock has started to rise as a result. 

His best example concerns L'eggs.  I do not know if they are still being sold, but L'eggs were panty hose packaged in plastic eggs and displayed on racks in grocery stores in the nineteen seventies.  Mr. Lynch explains that the manufacturer of L'eggs realized that women went to department stores to buy their stockings only once every six weeks.  However, they found that these same women went to the grocery store usually twice a week.  L'eggs remains one of the most successful products of its era.  Mr. Lynch points out that he did not discover this investment opportunity; his wife did.  She told him about the product and he found out that Hanes was the company which came up with this unique selling concept.  He did his research and discovered that the company was financially solid.  His investment in Hanes stock turned into a "sixbagger", Mr. Lynch's term for a stock whose value increased sixfold.

This is what I would call "bottom up" stock research.  Surely there are products or services you buy all the time without thinking about it.  You use the product or service on a regular basis and are a satisfied customer.  Well, maybe there are several million (or billion in this global economy) other folks who agree with you.  You start with a good product or service.  You then identify the manufacturer or service provider and research the company if it is publicly traded.  If the company meets your fundamental investment requirements, buy the stock!

I know an individual who had a bout with cancer several years ago.  Fortunately, his form of cancer was very treatable.  His doctor recommended daily radiation treatments for a couple of weeks.  Every day, he climbed up on a moving table and was run through a radiation machine.  He noticed the brand of radiation machine and checked out the company.  This story has a happy ending.  Both he and the company's stock, which he bought, are doing fine more than seven years on.

One Up On Wall Street has gone through several editions and is still in print.  You will find it to be as entertaining as it is informative.

Comments are always welcome.

Monday, October 3, 2011

S&P's Take on Coca Cola (2)


We will pick up with page four of the the August 27, 2011 Standard & Poors (S&P) report on The Coca Cola Co. (stock symbol - KO).  Let me repeat that I am neither suggesting that you consider this company as an investment nor recommending that its stock is a buy.

Page Four  This page is devoted to the soft drink business, which is referred to as a sub-industry of the Consumer Staples category of business.  Analyst Esther Y. Kwon, CFA discusses the soda business in her Sub-Industry Outlook.  Accompanying her analysis is the Stock Performance for soft drinks, comparing it to Consumer Staples and the S&P 1500 Index, which shows month-end price performances of KO from 2007 through July of 2011.  Below this is data on Coke's peer group, which includes several Coca Cola bottling companies, Dr. Pepper, Pepsico and others.

Page Five  This page contains what is termed S&P Analyst Research Notes and other Company News, which includes reports and announcements about Coke going back to February, 2011.

Page Six  This page is devoted to reports on the way Coca Cola is viewed by the Wall Street analysts who cover the companyThe page starts with a review of Analysts' Recommendations of Buy, Buy/Hold, Hold, Weak Hold and Sell going back to 2009.  It lists the number of analysts covering Coke and its stock price.  The page also contains the Wall Street Consensus Opinion of Buy/Hold and a list of the research companies in addition to S&P offering coverage of Coke.  The page also includes Wall Street Consensus Estimates for earnings for 2011 and 2012.

Page Seven  On this page S&P provides a Glossary of various financial measures contained in the previous pages, including S&P Stars, S&P Core Earnings, its Qualitative Risk Assessment, S&P Quality Rating and more.  This page describes S&P's proprietary modeling systems such as the S&P Fair Value Rank, Fair Value Calculation and Investability Quotient, among others.

Pages Eight, Nine & Ten  These pages contain what could be called the "fine print", S&P's disclosures and disclaimers concerning its report on Coke.

The fundamental investor will find in this report most, if not all, of the investment data and financial statistics on The Coca Cola Co. he or she might need in order to analyze the company.  Based on this information, the individual investor can decide if KO's stock meets the investor's qualifications for a good investment opportunity based on the investor's personal investment strategy.  To make an investment in a stock without reviewing a report such as this one is the same as embarking on a cross country car trip without maps or GPS; in either event, the person ends up lost.

S&P reports, like this one on Coke, provide the individual investor with the same sort of data used by Wall Street analysts.  It goes a long way toward providing a level playing field for individuals when they compete against Wall Street professionals in the market.

Comments are always welcome.