Archive for March, 2009

Triathlon (The Financial Athlete #115)

March 31, 2009

The triathlon is perhaps the most challenging of all sports. To be very proficient in two of the legs of the three legs (run, swim, bike) and mediocre in the third leg will not do to win.  An athlete must excel in all three legs.

Similarly, an investor should be proficient in analyzing trends on three levels: micro, fundamental, and macro. These trends are uncovered through research.

1. MICRO TREND

This covers developments within the company (or a real estate property). Financial literacy is the primary tool of analysis to determine valuation. Also, look for trends in revenue, earnings, working capital, leverage, and cash flow.

Because a stock may trade irrespective of company performance, technical analysis is not inclusive of the micro trend.

Most of what is written on investing concerns this level, because it is the most concrete. While essential, investors tend to become too myopic on the micro level. Investors must move beyond fixating on numbers to gaze upon a bigger picture.

2. FUNDAMENTAL TREND

“In the beginner’s mind there are many possibilities; in the expert’s mind, there are few.” — Shunryu Suzuki Roshi

Studying fundamental trends, we return to the beginner’s mind which seeks possibilities. We may go so far as to even break cherished rules.

A company riding the crest of a fundamental trend generally finds itself in the favor of the financial marketplace. For this reason, valuations for such a company may be considered relatively high. In a special case where a company has reached milestones on the path toward potentially enormous revenue and earnings, we may make an allowance to pay a premium for the stock.

Consider the investment strategy of venture capitalists. They target small companies believed to be best suited to meet an emerging fundamental trend, which can driven by a new technology or a change in consumer preferences. Most of their picks fail, but these losses are usually outweighed by large gains of the few winners. Remember, venture capitalists are supposed to be the professionals in spotting future winners. I do not recommend to mirror the investing strategy of venture capitalists.

Never be anxious to buy a stock once a fundamental trend has been discovered. Oftentimes, new technologies spring up years before the market is ready to adapt it in large numbers. This may not be due to poor marketing. Users may resist  change in the workflow. Therefore, it is wiser to skip being an “innovator” and wait to be an “early adopter” in the Financial Athlete Adoption Curve. For details on this, review The Adoption Curve.

All stocks in your portfolio need not be supported by a fundamental trend. However, a stock of a company operating counter to a fundamental trend should be sold. Such as company has an outdated business model.

Lastly, there is not necessarily a correlation between out-of-favor industries in the financial marketplace and companies whose business models are outdated. A smart contrarian strategy is to  gravitate toward the best-of-breed in an out-of-favor industry in the financial marketplace if and only if the business model is not threatened and customer demand remains intact.

3. MACRO TREND

Invest contrary to a market spellbound by “irrational exuberance” (coined by Alan Greenspan) and irrational pessimism. A market bubble in asset prices precedes an economic contraction, and a massive sell-off precedes an economic recovery.

To be a contrarian value investor takes patience. Irrational, economic behavior may last several years, as well as a recovery to fair valued prices after capitulation.

Move mountains (The Financial Athlete #114)

March 27, 2009

Here’s another story taken from Lieh-Tzu

‘The Man who tried to move the Mountains’

A ninety-year-old man lived in a valley surrounded by high mountains.

One day, the old man said to his family, “I’m sick and tired of the long hike to get of this valley. Let’s remove the mountains blocking the way.”

“Great idea!” said is his son and grandson, who liked all the old man’s crazy ideas.

“Stupid idea!” said his wife. “Your old body can’t even move a mole hill. How are you going to move mountains?”

Nothing could discourage the stubborn old man. So on the next day, he and his son and grandson and a neighbor’s seven-year-old boy carried shovels and picks on their backs to head for the mountains. From sunrise to sunset they worked every day until winter.

During one of these hardworking days, a wise man from the village came to talk the old man. He said, “You’re too old to pull up weeds in a garden. How are you going to move a mountain?”

The old fool replied, “Even a seven-year old boy understands I don’t have to finish this project. My son and grandson will continue with it. And if they can’t finish, future generations will continue. We will level this mountain even if it takes hundreds of years.”

The wise man argued no more and left.

Several years passed by and the old man and the others kept on digging. The mountain spirits grew worried. They feared the mountain would be leveled sometime in the distant future. They reported the story to the lords of heaven, who were impressed with the determination and patience of the old man. The very next night the lords of heaven sent two giants to move the mountains, one to the east and other to the south. By morning, everyone in the village was shocked to see the mountains no longer blocked their way out of the valley.

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Elite athletes inspire us. In the realm of imagination, they move mountains because they live out our childhood dreams. As adults, we admire them for their determination to harness a gifted, natural ability toward perfection of a craft.

While financial freedom should be the first goal of the investor, the ultimate goal of the investor should be to move mountains. These are not the mountains of the imagination. These are the mountains blocking development in the lives of others. Financial resources enable the investor to be an agent of change to make the world a better place.

Dare to move mountains!

“Each of us comes to life with fists closed, set for aggressiveness & acquisition. But when we abandon life our hands are open; there is nothing on earth that we need, nothing the soul can take with it.”

– Bishop Fulton J. Sheen

Always a student (The Financial Athlete #113)

March 23, 2009

Here’s a story taken from Lieh-Tzu

‘The Questions of a Child’

Two children were arguing in a marketplace. Confucius was listening.

One child said, “The sun is nearer when rising and gets farther away at noon. I know this because things look bigger when they are closer and smaller when they are farther away.”

The other child said, “No, the sun is nearer at noon because it is hotter. I know this because things are hotter when closer and cooler when farther away.”

The children then asked Confucius, “Wise and learned sir, please tell us when the sun is nearer?”

Confucius replied, “I do not know.”

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The vastness of the unknown supersedes the knowledge of all masters. For this reason, a true master always remains a student. Only with humility can this be done.

Boundaries (The Financial Athlete #112)

March 22, 2009

Everyone knows it takes discipline to be successful in sports and investing. Why then is it so difficult for people to be self-disciplined? Some fear discipline as being too harsh, military like. Others worry that to become disciplined, a free spirit is surrendered. Neither should be true. Simply honor sensible boundaries. These are not walls of a virtual prison. Sensible boundaries free you from distress. Like high walls of an old city, these boundaries offer protection. If an investor lacks discipline, the market gladly takes all her money.

Some boundaries for an investor of individual stocks to consider:

1) Limit an investment in one stock to a maximum of 10% of your portfolio.
2) Scale-in purchases of shares (never all at once).
3) Only invest in profitable and dominant companies.
4) Only invest money you do not need for 5 years (from Jim Cramer).
5) When you are up 50%, take some profit by selling at least 25% of your shares.
6) Prepare a watch list and wait for reasonable valuations before buying.
7) Allocate 2/3 (or more) of your portfolio of stocks in companies that pay dividends.
8) Insist on a strong Balance Sheet and Cash Flow Statement.
9) When your investment thesis fails, sell unless a new and viable one evolves.
10) Hold shares under the condition of on-going and objective due diligence.

“If you’re poor and you do something stupid, you’re nuts. If you’re rich and do something stupid, you’re eccentric.” – Bobby Heenan

The all around athlete (The Financial Athlete #110)

March 18, 2009

A complete exercise regimen trains for good posture, flexibility, balance, strength and endurance. To cross-train is one solution improve upon these five facets of exercise. Those who are too pressed for time to cross train should practice yoga. Yoga addresses all the five facets. Swimming is another standout exercise as it increases flexibility, strength, and endurance.

Interestingly, the five facets of exercise apply to the greatest attributes of an all around Financial Athlete.

THE ALL AROUND FINANCIAL ATHLETE


1. CORRECT FINANCIAL POSTURE

Stand with a correct financial posture and you will not find yourself forced to sell valuable assets at fire sale prices. Always be prepared for the worst of times. Reserve cash and protect much of  it from inflation (TIPS, for example). The typical mistake of the positive thinking investor to prepare for the best possible scenario and dismiss the worst possible scenario.

A reserve of cash also leverages your negotiating power in illiquid markets. Bargains are commonplace when times are hard.

2. FINANCIAL FLEXIBILITY

It is not the strongest of the species that survives, nor the most intelligent, but the one most responsive to change.
– Charles Darwin

On one end of the spectum is the risk averse man who strives for perfection and fears failure. On the opposite end of the spectrum is the man who thrives on risk and heeds no lessons learned from mistakes. Both lack flexibility.

To be responsive to change, be mindful of trends on 3 levels: macroeconomic, fundamental, and micro (company for a stock and local area for real estate).

To paraphrase Charles Darwin’s quote above: It is not strongest of the investors that survives, nor the most intelligent, but the one most responsive to change.

For more on Financial Flexibility, review ‘Be like Water’.

3. FINANCIAL BALANCE

Build multiple streams of income by diversifying into different asset classes (commercial real estate, residential real estate, bonds, stocks, commodities, etc.)

In selecting stocks, balance qualitative and quantitative aspects of an investment. For more on this review On Balance.

4. FINANCIAL STRENGTH

True financial strength is not measured in piles of money. It is measured in financial freedom. An old widow with a paid off mortgage and monthly income exceeding expenses has more financial freedom than a tycoon constantly preoccupied (oppressed) with his portfolio.

For more on financial freedom review Pole vault your way to financial freedom.

5. FINANCIAL ENDURANCE

Allow compound annual growth rate to work in your favor. Ignore the fast track to riches. For more on financial endurance review A sport of endurance.


Consider the consequences (The Financial Athlete #109)

March 8, 2009

“Before enlightenment, chop wood, carry water. After enlightenment, chop wood, carry water.” This is an old Zen saying. To me it means 2 things: 1) Be humble to do ordinary activities even after achieving an ultimate goal, 2) Do activities with consciousness….an awareness of movement, of feeling, and of the consequences of the action.

The common man does not adequately consider the consequences for even the biggest decisions of his life. An intense desire for personal gain blinds him to the harm his decision causes. The professional athlete who injects steroids to chase records sacrifices his long-term health. The investor who profits from depleting forests scars the earth. To rationalize “If I don’t do it, someone else will” is no excuse.

Profiteering impoverishes life, but true investing transcends personal profit. The purest form of investing is an act of love. It enriches the lives of others and can endure for generations.

No one is remembered for how much money they made. They are remembered for the difference they made. To make a difference is the ultimate challenge for the investor to fulfill.

Acknowledgements (The Financial Athlete #108)

March 8, 2009

This book would not be possible without the teachers who impressed upon me throughout my life, both inside and outside a classroom.

Special thanks to my parents and to my tennis instructor, who partially inspired the idea for this book by showing how “the tennis court is a microcosm of life.” And to my childhood hero, Bruce Lee, who was the first person I became aware of who connected the movement of the body to a philosophy of living.

Lastly, thank you, the readers of this blog.

Note: The Financial Athlete will be made available as an ebook and in paperback. The text will be presented in a coherent order.

Best foot forward (The Financial Athlete #107)

March 2, 2009

The first 5 minutes in the 1st Quarter and the last 5 minutes of the 4th Quarter of a basketball game are my favorite segments to watch. Obviously, the last 5 minutes of the 4th Quarter are more critical since this determines the winner of the game. However, in the first 5 minutes of the game we get a sense of who is hungrier to win. These starting moments of the game show the importance of putting “our best foot forward”.

What does it mean for an investor to put his best foot forward? It means to pass up on many investing opportunities until you are very satisfied with your choice predicated on thorough due diligence. Before I purchased my first home, I had viewed over one hundred other houses. I was not prepared to buy a home until it met my three criteria: Do I love this home to live in? Can I get a good return if I rent it? Does the home have many desirable features, making it easier to sell?

Some investors are too eager to trade cash for tangible assets or securities. Cash should not be perceived as a “hot potato” except in a time of hyperinflation. For an investor who fears inflation, he would be better off to set aside a substantial portion of his cash into TIPS (Treasury Inflation Protection Securities), instead of hastily investing that money in securities or real estate.

Always move with your best foot forward, or you may find yourself stumbling.