Insider Comments...
or, a Tutorial for Investment Success
We are asked all the time by clients, and at seminars in which we
participate, how does one really make money in the market? After being
involved with the stock markets for about 35 years we have lived long
enough to have seen the cycles. We know what works on Wall Street and
what doesn’t. Let’s take the time to explore the world of
making money. First of all, you do not have to be a professional
investor, which is what we are, to make money investing in stocks, but
you just can’t play at it either. Making better than average
profits in stocks is serious business, and you’d better be serious
about it.
If you work with traditional stock brokers who help you buy and
sell in exchange for a commission, we believe you will be in trouble
with that approach. Your broker’s goals are NOT aligned with your
goals. Whether you profit or lose money in the trade, your broker gets
paid his commission so he is without incentive to look out for your
success. Brokers are paid regardless of the outcome of your trade and
that’s YOUR PROBLEM.
You have the further problem that most research generated by
brokerage firms doesn’t work. For years we have talked about the
inequity of asking research analysts to give their honest opinions
about stocks they cover when their firms simultaneously maintain
investment banking relationships with companies covered by the
research analysts. In this environment its tough to nearly impossible
for an analyst to go negative on a stock.
Plus, research analysts are notorious for going with the HERD. They
have a “herd mentality” in fact. This means they want
company when they recommend a stock; they never want to be alone in a
recommendation. If a stock is covered by 15 or 20 analysts and no one
has a buy recommendation on the stock, it’s an emotional
impossibility for the analyst to stand out there all alone and say, “I
love this stock!” Most analysts will wait for the group, and
waiting can cost you the investor a great deal of money in this
business.
The herd mentality also gives you this: analysts issuing buy
recommendations as stocks are starting to trade near their tops.
Mathematically, you must realize that most money is made by buying
stocks near their bottoms, not their tops. This is why we call
ourselves StocksAtBottom.com. We prefer to buy stocks that are trading
near their bottoms to insure that when these selections do turn,
extraordinary profits are made.
Do Not Be Satisfied With Mediocre Profits
Today, there
is close to $7 trillion dollars invested in mutual funds. This is up
from $400 billion in 1980, a little over two decades ago. This money
is seeking one thing and one thing only: PERFORMANCE. Mutual funds are
about the search for performance, but there are several problems
inherent in the search for mutual fund performance. Let’s look at
a few:
- · Try reading their documents! We read these documents all
the time. They are about as clear as MUD. Do you think that’s
an accident? Absolutely not, it’s intentional. They want you to
be confused. Confusion is the objective with mutual fund literature.
· Everything is short-term The average stock-based mutual
fund in the United States holds a stock approximately eight
months. This means that some stocks are held for shorter periods
and some longer, but very few for a year. THIS MEANS EVERYTHING
YOU MAKE IS SUBJECT TO SHORT-TERM CAPITAL-GAINS TAXATION RULES!
Unless you are investing through a tax-exempt plan of some kind,
you will be taxed at ordinary rates. Who needs that? The whole
purpose of investing is to obtain capital gain treatment, which
currently is 15%. Why pay rates approaching 40% taxation?
· They lie about their returns You think not? Mutual funds
advertise and tell you, for example, that if you invested $10,000
with them in 1990, you would have $100,000 today for a compounded
growth rate of X percent. They are completely leaving out the tax
implications. What, you don’t pay taxes on stock market
profits? Sure you do! The taxes will have to be paid annually, so
if you are using the profits from the mutual fund account to pay
the tax liability, you can take that percentage of return the
mutual fund is promising you and kiss it goodbye.
· When management changes, you will never know It’s
true, and at the same time, unbelievable. You invest in a fund
that has a compounded return of 22% for the last five years. They
never tell you that the guy who generated the 22% left to start an
index fund three months ago.
What About Money Managers? Can money managers make
you money? It’s a valid question and the answer is yes, but just
try to find the right one. It’s very difficult to find good money
managers, and more importantly, money managers that can consistently
perform. In the end it’s about consistency.
You don’t want to get involved with a money manager just as he’s
peaking in his performance in an otherwise up and down career. And, by
the way, has he changed his investment style or does his style work in
retracing markets or down markets? You need to know the answers to
these questions.
Good money managers are out there however, and if you happen to run
into a great one, tell us about him or her. Our favorite money manager
story is about our friend Brad and his father, Clint. It was 1959 and
Clint was a commercial real estate salesman in New York City. He had a
small office on Fifth Avenue in a walk-up building. His friend Duran
came in one day and said, “Clint, I want you to meet a money
manager and give him $100,000 of your money to invest.” Remember,
this was $100,000 in 1959. The money manager was sitting in the alcove
outside Clint’s immediate office. Clint told Duran to get rid of
the guy. “Why would I want to meet some guy named Warren Buffett ?”
This was near the beginning of Buffett ’s incredible run as
a money manager when he obtained a 29% compounded rate of return for
about 15 years. So much for money managers and picking the right one,
or missing the right one.
Certified Financial Planners: Are They An Answer?
CFP’s
are very good at what they do. The problem is, you are not aware of
the conflicts of interest they may have. For example, they tell you to
buy $2 million dollars of term insurance and they fail to tell you
that they have a sweetheart arrangement with the insurance agent that
they put you in touch with. They may put you in touch with a hedge
fund to manage your money and again, you are unaware that the
financial advisor has a financial arrangement with the money manager.
You’ve got to think about these conflicts, folks. After all, it’s
your money we are talking about.
Speaking Of Hedge Funds . . .
Hedge funds are all the
rage today. People have read about these quiet masters of money for
about 20 years now and still they hold an air of mystery. For most
investors they should remain a mystery. With literally trillions of
dollars looking to get into the hedge fund industry today, we are
probably seeing the peaking of the hedge fund industry as we speak.
There are even Funds of Funds where hedge funds are raising money
simply for the purpose of investing in other hedge funds.
We recently had a conversation in New York with Henry Kravis who
runs Kohlberg, Kravis, Roberts, perhaps the finest private equity
players in the country. Kravis, who I first met when he was a partner
in Bear Stearns corporate finance department in the 1970’s, has
amassed a personal fortune of several billion dollars. When he speaks,
you should listen.
He made two points about hedge funds. The first is that he has
personally put money in hedge funds for years, and the results have
been mixed. Now here’s a man in touch with the finest financial
minds in the world and his results are mixed. If he can’t find
the best, how are you going to find the best?
The second point he made was that hedge funds were starting to
invest in private equity transactions which is his business, the
leveraged buy-out business. His point was that hedge funds can’t
possibly compete against private equity funds because of the laws
governing the hedge fund business. By law, hedge funds cannot get too
close to the companies they invest in. Private equity funds spend all
their time getting as close as they can. It’s a handicapped
environment for the hedge funds.
The verdict on hedge funds is being shaped right now. It might take
another year or two, but we believe you are in for quite a downside
ride if you climb on board the hedge fund business now. Whenever a
trend becomes the vogue, returns on that investment trend have to fall
drastically, and that’s just what’s going to happen.
So You Want To Make Money?
What works on Wall Street
is to closely follow a finite number of companies or stocks. You must
really get to know them, and you must ENJOY THE PROCESS. Us, we love
retailing stocks. We have been involved with Home Depot since the day
it went public more than 20 years ago. We go into the stores all the
time. We talk with the clerks and customers. We look at the
facilities. Are they clean? Is there inventory on the floor still in
boxes? What is the nature of the shopping experience? Is it a pleasure
to be there or is it a chore? This is how we found Kohl’s. This
is how we found the GAP before the turnaround. We caught Tommy
Hilfiger at the bottom.
Sometimes we use the scuttlebutt method. Scuttlebutt is when you
don’t talk to the President of the company, but to the guy who is
down on the assembly line putting the product together.
We’ve known a master money manager for 30 years who, decades
ago, went out to visit the STP automotive products company. You might
remember that Andy Granatelli gave his name to this product. Our
friend went out to the factory in Indiana but never stepped foot in
the factory. Instead, he went to the bar across the street at lunch
time and struck up a conversation with the guys who worked on the
floor of the factory. They didn’t talk much at noon, but our
money manager went back at 5 p.m. and met the very same guys coming
off their shift. Now they couldn’t stop talking. After all, they
were old friends by 5. Over beers our money manager friend found out
that the railroad was going to run a line right into the factory
because they couldn’t ship these STP products out fast enough by
truck. The stock was a buy and went from $12 to $65 in under a year.
This is real research. Please learn from this man’s experience.
You can make a killing in the market if you do your homework and do
real research. This means knowing everything you possibly can about
the stock and the industry that you are looking at. We are amazed by
doctors that invest in software companies, but not in medical
companies. We know software developers who buy medical companies but
not software companies. STICK WITH WHAT YOU KNOW, and continue to know
it very well.
There is no substitute for experience and knowledge in the
stock market.
After 35 years we have seen a lot. We know
hundreds of companies well, have seen many fail and many succeed. Some
have had spectacular runs and have made fortunes for our clients and
ourselves. But acquiring this knowledge takes effort. It also takes
wanting to do it. You can’t be CASUAL about the investment
process. Have you ever noticed how kids can memorize the batting
averages for an entire baseball team that they follow? It’s the
same thing with stocks. You have to know the numbers and you have to
track them. You need to know when signs and conditions are
deteriorating or when they are getting better. We call this the
cycles. You need to know the cycles if you are going to be successful.
If you have Warren Buffett ’s temperament and can go
long-term on your investment, you have no idea how much money you can
make. You will have the magic of compounding working to your
advantage. We won’t say much about it here, but if you have an
interest in learning about compounding, go to our website and read the
tutorial under the caption, “The Magic of Compounding”. You
will be simply amazed at what this powerful method can do for you.
Buffett ’s genius is that his brain is hard-wired for
compounding. Buffett drove an old car for decades because he
would rather invest that dollar for 30 years than spend it today on a
new car. In mathematical terminology that’s called the future
value of a dollar.
Conclusion
You can explore all of the above
methodologies in theory or in practice. We have studied them all
through the decades and have learned from each. You can, in fact,
learn from your mistakes if you are open to learning. The problem is
that most people are closed to the learning process. What’s even
worse is that some people are successful with some stocks but ascribe
the success to all the wrong reasons. Then they go out and try to
replicate the process. It doesn’t work that way, never has, never
will. The alternative is to employ a service like ours and let us do
the leg work for you. We will tell you when to buy and when to sell.
Sometimes we even go long-term on our ideas and you get the capital
gains tax treatment (15%) which we think is so important for
investment success. Thank you and good luck with all your investments.
Regards
Your Friends At
StocksAtBottom.com
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