Thursday, March 30, 2006

more is not more

The CIA on investing

So with all their resources, and with all the time they put into valuing these companies, why aren't the "professionals" producing more accurate results? A 1973 report written by analyst Richards J. Heuer at the CIA (yes, that CIA) suggests one answer. In this study, several of the people who set the odds on horse races were tested to determine whether having more information resulted in their making better predictions on race winners. Given 88 pieces of data to choose from, the "handicappers," as they're called, were told to choose the five bits of information they considered most important (e.g., the horse's win/loss record, the jockey's record, the length of the race, and so on).They were then asked to place bets on a race based on their preferred data and to state how confident they were of their predictions.

In part two of the test, researchers doubled the amount of data given to the handicappers. They got their "preferred five" pieces of data, plus five more statistics that they considered of lesser importance. Bets were again placed. Confidence was re-measured. This test was repeated with 20 and then with 40 statistics to work from.

The researchers then analyzed the results and concluded that the handicappers' accuracy did not improve as they were given more and more data. In fact, several handicappers got worse the more data they were fed. But while the accuracy of their predictions didn't increase with the amount of information they had to work with -- their confidence in those predictions did. This despite the fact that, by their own admission, the extra data was not as useful to them as the original "preferred five" pieces of information.

Wednesday, March 29, 2006

Ingvar Kamprad

IKEA founder Ingvar Kamprad is the fourth-richest man in the world, trailing only Bill Gates, U.S. investor Warren Buffett and Mexican industrialist Carlos Slim Helu. Kamprad, whose fortune is estimated at roughly $28 billion, turns 80 in March and is considered eccentric by many critics. Why? Simply because he's frugal. Kamprad drives a 15-year-old Volvo, flies economy coach and tells his IKEA employees to write on both sides of the paper. And he doesn't apologize for any of it.

Monday, March 27, 2006

Growth Investing (Rule Breakers ads)

[8/4/06] David Gardner is due.

[3/26/06] Break the Investing Rules

[12/18/05] In a round-about way, Rich Smith says to invest in great businesses. [actually an "ad" for the Motley Fool Stock Advisor]

[12/6/05] Like George Costanza, Rule Breakers have the courage to do the opposite, and occasionally they profit hugely from the risk.

[10/30/05] David Gardner's six signs of a potential Rule Breaker

[7/27/05] rule number 3 for the growth investor

sign no. 4 - good management and smart backing

Pop Quiz

Shane Frederick, an assistant professor at MIT, has developed a 90-second test that seems to predict whether you will be good at things like managing money. The test, dubbed a Cognitive Reflection Test, or CRT, consists of three questions

(1) A bat and a ball cost $1.10 in total. The bat costs $1 more than the ball. How much does the ball cost?

(2) If it takes five machine five minutes to make five widgets, how long would it take 100 machines to make 100 widgets?

(3) In a lake, there is a patch of lily pads. Every day, the patch doubles in size. If it takes 48 days for the patch to cover the entire lake, how long would it take for the patch to cover half of the lake?

-- Roger Lowenstein, SmartMoney Magazine, April 2006

[6/16/06] the answers

Thursday, March 23, 2006

anchoring (and investment psychology)

[3/23/06] Stephen Ellis discusses common biases investors struggle with.

[6/14/05] What goes up doesn't necessarily have to come down. And vice-versa.

The conventional wisdom among the pundits is to avoid the common person's pitfall of anchoring. In other words, don't be trapped by your past and wait to get that price you could have gotten.

But to me, that is exactly what you should be doing [assuming the story haven't drastically changed for the company - a hefty assumption]. According to the anchoring model, people won't sell until they get their price. So with the absence of selling pressure, the path of little resistance will lead back to that level.

Ritholtz admits that technical analysis is based on that concept (see also Terry Odean's articles somewhere on the net) of anchoring. I think his intent was to deride technical analysis. But I took it the other way.

[6/15/05] Are you normal about money?

[8/19/05] the pain of a financial loss is more than twice as intense as the pleasure of an equivalent gain

[6/15/05] More on investing and psychology

Wednesday, March 22, 2006

Balance Sheet Powerhouses

John Dorfman's "Balance Sheet Powerhouses"

To be a Balance Sheet Powerhouse, a stock must meet six standards:

* A market value of $1 billion or more.

* Long-term debt of $200 million or less.

* $300 million or more in cash or near-cash.

* Total debt less than 10 percent of stockholders' equity.

* A current ratio (current assets divided by current

* liabilities) of 2-to-1 or more.

* Earnings of at least 10 cents a share in the latest fiscal year.

Being on the Powerhouse list is an honor, but not necessarily a stock recommendation. In many cases, the excellence of the companies is already reflected in the stock price. Since 2001, the stocks on the Balance Sheet Powerhouse list have returned an average of 10 percent in the 12 months after their listing. That beat the average return on the Standard & Poor's 500, which has been 3.9 percent. Still, I wouldn't call it a spectacular result.

Most years, I have recommended a few of the Balance Sheet Powerhouses that, in addition to financial strength, have stocks that are fairly cheap. The average annual return on my recommended stocks has been 31 percent.

Moral: Financial strength plus a cheap stock beats financial strength alone.

This year's picks? ASH, INGR, AEOS

3 Danger Signs

Three things that can capsize a company: excessive debt, rising receivables, ominous inventory.

Jim Cramer and March Madness

John Walters of SI.com corralled Mad Money's magisterial maven, who is nearly as passionate about sports as he is about stocks, long enough to have a little lightning round of our own regarding the rest of the NCAA tourney. Are you ready, Skeedaddy?

Tuesday, March 21, 2006

Google Finance

from CNBC, I hear the Google has launched a financial site. In beta.

The draggable charts with labelled news events is kind of cool.

Monday, March 13, 2006

ROIC

[11/24/12] Question: In reading reviews of stocks from Morningstar's equity analysts, I often see them refer to "return on invested capital" in assessing a company's performance, but I don't really understand what it means. Can you explain?

Answer: Return on invested capital, or ROIC, is one of many metrics for assessing the profitability of a company. In the most basic sense, it represents how efficiently a company is able to use money invested in or loaned to it (capital) to produce profits. ROIC can be a useful tool in comparing the relative profitability of one company with another as well as determining how a company's profitability might have changed over time. For example, if a company's ROIC improved from 10% in its first year to 12% in its second, that means that for every $100 of the company's invested capital, it produced $10 in profit the first year and $12 the next.

[9/30/06] what exactly is ROIC? It is defined as the cash rate of return on capital that a company has invested. It is the true metric to measure the cash-on-cash yield of a company and how effectively it allocates capital.

[3/13/06] Elizabeth Collins explains why she prefers ROIC to ROE and ROA.

Saturday, March 11, 2006

The Joys of Being a Contrarian

[3/10/06] One of the key traits a successful value investor must have is a variant perception. This basically means an investor holds a strong viewpoint that is substantially different from what the market viewpoint holds.

[1/14/06] Whilst the consensus may sometimes be right, it is unlikely you will make money from investing in it. As Keynes put it, investors should "go contrary to the general opinion, on the grounds that if everyone agreed about its merits, the investment is inevitably too dear". So going against the crowd is still likely to be the best recipe for consistently adding value. But where are the big consensus trades now?

Sunday, March 05, 2006

Stock Market Lies

Richard Gibbons examines, from a value perspective, the disinformation that the financial industry pitches at investors every day.

(see also The Cliches of Wall Street)

Saturday, March 04, 2006

Big Money Blunders To Avoid

Sheryl Garrett gives advice on avoiding money blunders related to real estate, college costs, family finances, death and divorce.

sustainable earnings growth

What's the big deal about ROE? Over time, a company's EPS growth will be limited by the returns it can generate on its equity, and how much of that equity it retains.

But that's over time. I seem to see a lot of cases where earnings growth is outstripping ROE, especially in early growth situations. In such cases, I suspect the two will converge closer with earnings growth dropping and ROE increasing.

shooting stars

Since inception at the end of 1986 through 2005, S&P’s top-ranked 5 STARS portfolio posted a cumulative increase of 1,687.8%, versus 415.5% for the S&P 500 (both excluding dividends); last year, the 5 STARS rose 15.0%, compared with 3.0% for the S&P 500.

The following seven five star stocks all rose 25% or more last year, and S&P thinks they will continue their upward climb: AET, XEC, CVD, HOLX, JEC, NBR, VLO.

Just glancing at the numbers, I would probably discard XEC (flat earnings) and HOLX (high p/e of 71).

Friday, March 03, 2006

Invasion of The Stock Hackers

Arriving home from a five-week trip to Belgium and India on Aug. 14, a jet-lagged Korukonda L. Murty picked up his mail – and got the shock of his life. Two monthly statements from online brokerage E*Trade Financial Corp. showed that securities worth $174,000 – the bulk of his and his wife's savings – had vanished. During July 13-26, stocks and mutual funds had been sold, and the proceeds wired out of his account in six transactions of nearly $30,000 apiece. Murty, a 64-year-old nuclear engineering professor at North Carolina State University, could only think it was a mistake. He hadn't sold any stock in months. [via chuck_angels]

Thursday, March 02, 2006

stock splits

A stock split is generally regarded as a non-event since it creates no additional value for the shareholder.

However I received a blurb in my email from 2 for 1: the stock split newsletter saying stocks that have split actually outperform the market (and they will tell you which ones to buy for a modest fee). He cites a study conducted by Dr. David Ikenberry of Rice University which showed that a company's performance after a stock split beat market performance by up to 12% for up to three years after the split was announced.

Newsletter editor Neil Macneale explained his strategy in a Forbes interview.

Wednesday, March 01, 2006

Does Debt Matter?

Tim Hanson looked at the list of the 100 top small caps of the last decade and found no evidence that a company's cash/debt position matters. Some had little debt and some had a lot.

All that shows is that successful companies can handle debt. My question is what about the unsuccessful companies? I would hypothesize that if you divided the companies into two groups by their debt load and followed them for ten years, that the group with less debt would be more successful due to some companies failing to handle their heavy debt load.