Sunday, September 8, 2013

The Cautious Investor

"I could improve your ultimate financial welfare by giving you a ticket with only twenty slots in it so that you had twenty punches - representing all the investments that you got to make in a lifetime. And once you'd punched through the card, you couldn't make any more investments at all. Under those rules, you'd really think carefully about what you did, and you'd be forced to load up on what you'd really thought about. So you'd do so much better."
Warren Buffet

If you could only pick 20 different investments over the course of an entire lifetime, what would they be? How would you pick them? How do you make any purchase that is important to you; a car; a house; a stereo system? We look for the highest quality at the lowest cost. Generally speaking, quality increases pretty fast with price until some certain point. Then quality increases more slowly relative to cost. A $6,000 car is going to be a lot better than a $3,000 car. How much better is a $43,000 car when compared to a $40,000 car? Differences in dealer pricing for the same vehicle could be $3,000 in such a case. The same could be said for individual stocks as you study the differences in price earning ratio, dividend payout ratios, and price earnings growth ratio (price earnings ratio÷annual growth). By the way, look for price earnings growth ratios of less than 0.5.

What is quality? Here is the definition presented by Sir John Templeton, the genius of his generation.

“Quality is a company strongly entrenched as the sales leader in a growing market. Quality is a company that’s the technological leader in a field that depends on technical innovation. Quality is a strong management team with a proven track record. Quality is a well-capitalized company that is among the first into a new market. Quality is a well known trusted brand for a high-profit-margin consumer product.”

One of his rules for investors is, “When buying stocks, search for bargains among quality stocks.”

Another rule given by Sir John is similar, “Buy value, not market trends or the economic outlook.”

Do your homework. How do you make a decision when buying a car? I read reports from sources like Consumers Union and I talk to people who have owned the same model I am investigating. I take it for a test drive to determine how it feels. If I were still buying used cars, I would pay a trustworthy mechanic to give the car the once over. Don’t be afraid to pay dispassionate experts who aren’t on commission for their advice. My Certified Public Accountant is a most valuable and trusted resource when making difficult decisions. I pay to buy books by the masters and sometimes for a newsletter to give me some new ideas to investigate. If you have an account with a brokerage firm, you have access to numerous free reports from reputable sources that review most any possible stock purchase or sale from a variety of viewpoints.

Just for my own personal interest, I counted up the number of cars owned by my wife and I over the 39 years of our marriage. The answer is 9.

I think it interesting that Sir John, one of the greatest investors in history, ends his list with the following advice.

Begin With a Prayer:

If you begin with a prayer, you can think more clearly and make fewer mistakes.

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