Friday, March 16, 2007

The best investment strategy

When I say I’m a value investor, people often look at me as though I’m crazy. I just know how to stack the odds in my favor and bet really big when the odds are totally in my favor. In value investing, it is the easiest and most simple trick around – to whack big when prices are low and wait for it to rise. As to how long I’ll wait, I’ll wait indefinitely. And I thoroughly believe that everyone should include value stocks as a significant part of their investment portfolio.

Value usually doesn’t lead to quick returns and that’s why patience is a virtue here. But over the long term, it blows all other strategies away by a huge margin, and it does so with less volatility and personal stress if one is the kind of person who worries about their net-worth by looking at the price tickers every other day. Think of it in this way. If you invest $1000 and you are sure the investment is worth $1200 in a year time, what difference does it makes between now to a year later even if the investment drops below $1000? If you can control this evil of yours where the daily price ticker means nothing to you, you are a true value investor. It is no coincidence that Warren Buffett is both the best-known value investor and the world’s second-richest person. So following Benjamin Graham’s strategy is the best way in investing. Besides Buffett, direct-disciples of Ben includes Walter Scholoss who over a 28 year period averages a 21% compounded return, Tom Knapp & Ed Anderson who formed the framed investment firm Tweedy Browne which averages 20% return, Bill Ruane, & Charles Brande.

The results can be clearly distinguished in a study by Ibbotson Associates comparing the performance of value stocks, growth stocks, and the S&P 500 from 1968 to 2002. The returns from S&P 500, growth stocks, and value stocks averaged 6.5%, 8%, and 11% respectively. An initial investment of $1000 will be worth $8471, $13,520 and $34,630 in 2002.

Investors focused on value finished with twice as much cash as the growthies, and four times as much as the plain-vanilla indexers. That’s the difference between corn beef and steak.

Bearing in mind the study mechanically divided the market into value and growth categories - meaning that each category included both great stocks and complete garbage. Suppose that instead of just buying them all, you focused only on the best and the cheapest. Avoid the worst performers and focus on the best.

That’s what here’s attempting to do which is looking for businesses with the following traits.
Solid financials
Strong competitive position
At least 30% undervalued.
We don't care what sector the stock is – it can range from tech companies to banking although it is best to avoid all tech stocks.. In addition, buying value stock does not mean growth is excluded. In fact, growth is just part of the value equation – growth and value are joined at the hips. So most of what I buy got significant future growth potential. As long as it is cheap, I love to buy.

Such picks can really outperform. Take, for example, IBM in 1993, when upheaval in IBM's hardware business pushed the stock down to multidecade lows. The reports of IBM's death proved premature, and investors from that time are now sitting on returns greater than 600%.
Buffett used a similar strategy with his purchases of Coca-Cola beginning in 1988 at a dividend-adjusted price of around $4. He's since made a 10-bagger on that investment.
These aren't isolated examples. Such opportunities come up again and again to investors who are both patient and alert. I'm thinking of USG in 2000, Walgreen in Sep 2006, and Wal-Mart in 1997, and Altria and General Dynamics in the spring of 2003.

Opportunities like these are out there right now, so make sure you look for them. With the recent upheaval caused by the concern in Sub-prime loans, a good number of other stocks are still trading at what I consider bargain levels, especially for one in particular.

No comments: