Monday, November 26, 2007

Morningstar Stock Investor: Seven Different Investing Perspectives

Recently, Paul Larson, an equities strategist with Morningstar, described seven ways in which his investment strategy differs from the conventional wisdom and academia ("Seven Different Investing Perspectives"). Mr. Larson definitely uses a long term strategy for investing, which is also my approach. Taking into consideration the views and strategies of a variety of advisors and analysts can be very helpful in shaping your investment strategy. A synopsis of Larson’s "seven investing perspectives" is included below for you to review.

Morningstar Stock Investor: Seven Different Investing Perspectives

1. Focus on the next decade, not the next quarter.

Most Wall Street analysts who publish research for public consumption spend a lot of their energy focusing on near-term tax rates, weekly inventory trends, and so on, which really do not matter in the long term.

The army of analysts on Wall Street serve an exploding number of hedge funds, entities whose investors demand performance - and demand it now - given the exorbitant fees usually being paid. Many hedge funds cannot afford to think about the long term, because if they suffer even a little in the short term, they might not be around for the long term.

Luckily, those willing and able to take a long-term perspective can gain an edge in this short-term-focused world, and that's exactly what I and our analysts do here at Morningstar. We spend a lot of our time thinking about where a company is going to be many years from now, because this is what drives intrinsic value. We try to minimize the short-term noise to pick out the secular trends that will really matter.

2. Price volatility does not equal risk.

If you go to business school, you are likely to be taught that risk in the stock market can be defined as the historical volatility in a stock's price. Risk is usually thought of and measured in terms of beta, a statistical measure that represents a stock's past volatility relative to an index. Frankly, I just do not understand the relevance of beta when thinking about ways I might lose money. Not only is it backward-looking, but its connection to intrinsic business value is tenuous at best.

When thinking about a stock's risk rating, Morningstar analysts do not focus on the past stock price movements of a company. Rather, we focus on the fundamental business factors - competition, litigation, financial leverage, and so on - to try to figure out what sort of margin of safety to apply to a company before buying it.

3. Price volatility is a good thing.

Not only do I think stock price volatility is a silly way to measure risk, but I actually like volatility. When stock prices whip around, it creates more opportunities to buy things when they go on sale. Moreover, volatility can fling stocks well above their intrinsic values, creating selling opportunities.

I think two of the more famous Warren Buffett nuggets of wisdom apply here. (Though Buffett is as mainstream now as he has ever been, he is still seen as a heretic in many academic circles.) According to Buffett, one of the cornerstones of his strategy is, "Be fearful when others are greedy, and greedy when others are fearful." The other Buffett quote that backs up my favorable opinion of volatility is: "Look at market fluctuations as your friend rather than your enemy; profit from folly rather than participate in it."

4. Concentration has its benefits, overdiversity its downfalls.

It seems that whenever I hear financial advisors speak, they are always preaching the benefits of diversity. While I agree every portfolio should have some level of diversity to prevent any single mistake from causing financial doom, I do not think the downside of diversity gets enough attention. Specifically, the wider you spread your portfolio around, the less you will know about any single investment, and the greater the chance you will miss something that is wrong. Call it the risk of ignorance.

In other words, I agree that it is good advice to not put all your eggs in one basket, but do not forget about the risks of trying to carry too many baskets. Or, to use our "fat pitch" metaphor, don't swing at the marginally decent pitches, because then your swings at the truly fat pitches will be diluted.

5. Bottom-up is better than top-down.

There are two basic ways to look at stocks. The first way (and what we do here at Morningstar) is to look at an individual company - its competitive positioning, profitability, growth prospects, and so on - to come up with an intrinsic value estimate for the business. We then compare this fair value estimate with the current stock price to come up with our Morningstar Rating for stocks (the star rating).

The other way is to try to pick out macroeconomic trends and generate investment ideas from these trends. Some examples might include ideas regarding the aging population, interest-rate movements, global-warming regulations, changes in consumer-spending patterns, and so forth. Some investors might choose to overweight or underweight their portfolios in certain sectors based upon their views of some of these trends.

The problem I see is that there are often too many logical links between the ideas and the actual stock investments. Even if your idea is correct, you could still select the wrong stock for that idea. Another pitfall of looking top-down is forgetting the importance of valuation and paying too much for a stock.

I also do not try to "fill the box" when managing the [stock portfolio]. What I mean by this is deciding on some sort of asset allocation - either by sector or stock style - and then picking stocks to try to fit my target allocation. To me, this is putting the cart before the horse.

What I do instead is look at each stock on a case-by-case basis, and I then let the cards fall where they may with respect to the sectors and styles of my holdings. Only at the extremes might I get worried (such as having more than half a portfolio invested in a single narrow industry).

6. Increased portfolio activity does not create higher returns.

In the real world, the more activity you have in a given area, the greater the return in that area, in general. For example, the more you exercise, the more weight you lose. The more you play golf, the better your swing will get and the lower your handicap will go, and so on. But when trading stocks, the exact opposite is true. In general, the more you trade, the lower your returns will be.

There are the frictional costs of taxes, trading spreads, and commissions that will eat into your capital every time you trade. Of even greater importance in my mind is the amount of thought that goes into each trading decision. It seems that the greater the thought-per-transaction ratio, the better our results should be, all else equal. I spend hours upon hours considering each transaction in the Tortoise and Hare, but spend mere minutes interacting with our broker doing the mechanical transactions, worrying about nickels and dimes. I get the impression that too many investors have this ratio reversed.

7. Focus on value, not price.

It strikes me that many in the market know the price of everything and the value of nothing. I will admit that there are scores of companies for which I know what the stock price has done, but have no clue about the value of the underlying business. But before I invest in something, there is no way I would put a single penny in without having some idea what the underlying business is worth. Knowing price without knowing value means knowing nothing.

I recently was asked if I had in place any stop-loss orders for positions in the Tortoise and Hare. The answer is a resounding "no." Making decisions based on historical prices makes no sense to me. Moreover, assuming that the intrinsic value of a business is unchanged, when its stock price goes down, that is the time to get more excited and consider buying more, not time to cut bait.

Of course, the key phrase is "assuming the intrinsic value of a business is unchanged." We are continually questioning our theses and projections for the companies we cover, always digging deeper for pieces of confirming or contradictory evidence. These fundamental factors - not stock prices or ideas about future market sentiment - are what drive our fair value estimates.

John Kaighn

Jersey Benefits Advisors

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Friday, November 23, 2007

How Much Should I Save Per Paycheck to Reach My Retirement Goals?

Here is another investment blog I've read recently by Hank, and I thought I'd include it, because he makes some good points about how important compounding is for young investors. The younger you are when you start saving, the larger the nest egg will be when you reach retirement age. Here is Hank's post:

This question is another tricky one because it depends on who is asking it. If you’re 18 and asking this question, well, I’d say you’re starting off right by asking, and if you are putting away 10% - even if you’re only making $20,000 per year, you’re saving $2,000/year and in 50 years you’d be sitting on about $2,500,000 at 10% (yes, that is 2 MILLION off someone that makes $20,000 per year). You’d have put in $100,000 and interest would have accounted for the other $2,400,000 of it. Ridiculous how compoud interest works, eh?

If you bump it to 15%, you’d be investing $150,000 and your egg would be almost 66% larger at $3,800,000! Obviously this is taking some big assumptions, being that you’re going to continue making $20,000 for the next 50 years (which I hope you’d get a raise in there at some point), the return will be 10% (this can go up and down, but it’s a safe figure to estimate by, as another tangent, if your return is 15%, and investing $2,000 per year, you’re looking at almost $16,000,000), and it isn’t taking into account inflation (usually around 3% which would peg that 16MIL down to about 4.5MIL). But that’s all you really CAN do with 50 years to play with, however, that’s the big thing, get in early.

If you’re 40 years old and wondering where to start, you’re going to certainly need some catch up against the 18 year old putting in 10%; to match with the 18 year old investing $2000/year, you’re going to need to put in $17,000 per year to hit that 2.5million plateau. Attainable yes, but preferred, probably not. Even at 40 years old and investing $2000/year you’re still going to be looking at $300,000 by 68, which isn’t bad, and is much better than $0.

A good rule of thumb I’ve read is 10% minimum, and 15-25% preferred of your salary should go to retirement. But that, of course is an estimate and should vary depending on your age - I’d say a better breakdown would be:
18-30 years old - 10-15% of your salary
30-40 years old - 12-18% of your salary
40-50 years old - 18-25% of your salary
50+ - 25% or more of your salary

Again, they’re estimates based on a lot of generalization, but the big key is start stuffing something, even if it’s not much. It’s amazing what time can do to the almighty $.

Author: hank

John Kaighn

Jersey Benefits Advisors

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Wednesday, November 21, 2007

The Desolate Wilderness and the Fair Land

I usually write the bulk of the material that appears on my blog, but every now and then I feature other authors who have a flair for great writing. This is a piece that is an annual ritual in a national publication that corresponds with the Thanksgiving Holiday season. It does a nice job of reminding the reader of the reasons to be thankful and to whom we owe that gratitude. I hope you enjoy it

The Desolate Wilderness

Here beginneth the chronicle of those memorable circumstances of the year 1620,as recorded by Nathaniel Morton, keeper of the records of Plymouth Colony, based on the account of William Bradford, sometime governor thereof:

So they left that goodly and pleasant city of Leyden, which had been their resting place for above eleven years, but they knew that they were pilgrims and strangers here below, and looked not much on these things, but lifted up their eyes to Heaven, their dearest country, where God hath prepared for them a city (Heb. XI, 16), and
therein quieted their spirits. When they came to Delfs-Haven they found the ship and all things ready, and such of their friends as could not come with them followed after them, and sundry came from Amsterdam to see them shipt, and to take their leaves of them. One night was spent with little sleep with' the most, but with friendly entertainment and Christian discourse, and other real expressions of true Christian love.

The next day they went on board, and their friends with them, where truly doleful was the sight of that sad and mournful parting, to hear what sighs and sobs and prayers did sound amongst them; what tears did gush from every eye, and pithy speeches pierced each other's heart, that sundry of the Dutch strangers. that stood on the Key as spectators could not refrain from tears. But the tide (which stays for no man) calling them away, that were thus loath to depart, their Reverend Pastor, falling down on his knees, and they all with him, with watery cheeks commended them with the most fervent prayers unto the Lord and His blessing; and then with mutual embraces and many tearsthey took their I leaves one of another, which proved to be the last leave to many of them.

Being now passed the vast ocean, and a sea of troubles before them in expectations,
they had now no friends to welcome, them, no inns to entertain or refresh them, no houses, or much less towns, to repair unto tb seek for succour; and for the season
it was winter, and they that know the winters of the country know them to be sharp and violent, subject to cruel and fierce storms, dangerous to travel to known places, much more to search unknown coasts. Besides, what could they see but a hideous and desolate wilderness, full of wilde beasts and wilde men? and what multitudes of them there were, they then knew not: for which way soever they turned their eyes (save upward to Heaven) they could have but little solace or content in respect of any outward object; for summer being ended, all things stand in appearance with a weatherbeaten face, and the whole country, full of woods and thickets, represented a wild and savage hew. If they looked behind them, there was a mighty ocean which they had passed, and was now as a main bar or gulph to separate them from all the civil parts of the world.

And This Fair Land

Anyone whose labors take him into the far reaches of the country, as ours lately have done, is bound to mark how the years have made the land grow fruitful. This is indeed a big country, a rich country, in a way no array of figures can measure and so
in a way past belief of those who have not seen it. Even those who journey through its Northeastern complex, into the Southern lands, across the central plains and to its Western slopes can only glimpse a measure of the bounty of America.

And a traveler cannot but be struck on his journey by the thought that this country, one day, can be even greater. America, though many know it not, is one of the great underdeveloped countries of the world; what it reaches for exceeds by far what it has grasped.

So the visitor returns thankful for much of what he has seen, and, in spite of everything, an optimist about what his country might be. Yet the visitor, if he is to make an honest report, must also note the air of unease that
hangs everywhere.

For the traveler, as travelers have been always, is as much questioned as questioning. And for all the abundance he sees, he finds the questions put to him ask where men may repair for succor from the troubles that beset them.

His countrymen cannot forget the savage face of war. Too often they have been asked to fight in strange and distant places, for no clear purpose they could see and for no accomplishment they can measure. Their spirits are not quieted by the thought that the good and pleasant bounty' that surrounds them can be destroyed in an instant by a single bomb. Yet they find no escape, for their survival and comfort now depend on unpredictable strangers in far off corners of the globe.

How can they turn from melancholy when at home they see young arrayed against old,
black against white, neighbor against neighbor, so that they stand in peril of social discord. Or not despair when they see that the cities and countryside are in need of repair, yet find themselves threatened by scarcities of the resources
that sustain their way of life. Or when, in the face of these challenges, they turn for leadership to men in high places-only to find those men as frail as any others.

So sometimes the traveler is asked whence will come their succor. What is to preserve their abundance, or even their civility? How can they pass on to their children a nation as strong and free as the one they inherited from their forefathers? How is their country to endure these cruel storms that beset it from without and from within?

Of course the stranger cannot quiet their spirits. For it is true that everywhere men turn their eyes today much of the world has a truly wild and savage hue. Noman, if he be truthful, can say that the specter of war is banished. Nor can he say that when men or communities are put upon their own resources they are sure of solace; nor be sure that men of diverse kinds and diverse views can live peaceably together
in a time of troubles.

But we can all remind ourselves that the richness of this country was not born in the resources of the earth, though they be plentiful, but in the men that took its measure. For that reminder is everywhere in the cities, towns, farms, roads,
factories, homes, hospitals, schools that spread everywhere over that wilderness.

We can remind ourselves that for all our socialdiscord we yet remain the longest enduring society of free men governing themselves without benefit of kings or dictators. Being so, we are the marvel and the mystery of the world, for that enduring liberty is no less a blessing than the abundance of the earth.

And we might remind ourselves also, that if those men setting out from Delftshaven had been daunted by the troubles they saw around them, then we could not this autumn be thankful for a fair land.

These editorials have appeared annually in the Wall Street Journal since 1961.

John Kaighn

Jersey Benefits Advisors

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Friday, November 16, 2007

Black Friday Looms Large

As we head into the final weekend before Thanksgiving, poised for Black Friday and all of its ramifications, a bewildering array of terms are bombarding investors from various sources on a daily basis. Cutting through all of the clutter can be a daunting task as we try to ascertain the direction of the US economy. Terms like recession, credit crunch, housing debacle, inflation and that scourge of the 1970's know as stagflation are on the lips of many journalists, commentators and economists as this very mature expansion plods along midway through the 4th quarter of 2007.

Meanwhile, the race for the White House is in high gear, while Congress drags its feet searching for a solution to fix the Alternate Minimum Tax trap before it ensnares too many middle class voters this year. Gold is at an all time high, home values are imploding, food prices are soaring, the dollar is getting pummelled and oil prices are significantly higher now than in January, although at just under $94 a barrel, the surge toward $100 a barrel oil seems to have abated somewhat. Whether this is a peak in a commodity bubble, or a plateau before another another leg up is anyone's guess at this point. Suffice it to say there are enough things to worry about and that has been evidenced by the volatility of the major indices recently.

At this juncture it is difficult to say with any certainty whether or not the economy will weather the current circumstances and keep growing, so it is probably better to try to keep an eye on the big picture, rather than focus on the day to day sound bites. According to Peter Coy of Business Week, the big picture consists of several indicators which should help us keep a pulse on the direction of the economy through 2008. First of all if unemployment remains under 5%, consumers should be able to continue spending. If inflation stays benign, the Federal reserve will be able to make further rate cuts, if not on December 11, then at some future time if economic growth stalls. The holiday shoppping season is extremely important, and big retailers are already discounting prices. Once again, the consumer is a large player in the retail story and the impact of falling home values could put a damper on spending plans. However, if lower housing prices entice buyers back into the market, then that would be a good thing.

Another indicator to watch is the willingness of banks to continue lending. Already standards have been tightened, but if banks cut back further on small and midsized businesses, economic growth could be negatively impacted. Finally, Wall Street's reaction to all of the economic uncertainty will be the focus of quite a bit of attention, because a large drop in the stock market preceded the 2001 recession by a year. At the present time there has been no such drop, but there has been more than one 300 plus swoon lately. Of course 300 points up or down based on a 13,000 point Dow Jones Industrial Average is only 2.3%, just to keep things in perspective!

So my advice for the immediate future is to enjoy your Thanksgiving turkey, focus on the big picture and continue to dollar cost average into your accounts. The volatility provides buying opportunities for those of us who remember that a drop in the stock market is like buying retail items on sale. While painful, recessions are not the end of the world and I certainly do not believe we are by any means teetering on a precipace ready to plunge into the abyss. With the election year politics in full swing, all of the candidates have their own recipe for the salvation of this great land. Thankfully, the founding fathers created a union that has endured much folly by politicians and I think we will survive our current set of circumstances. Maybe this time the bankers will get it right!

John Kaighn

Jersey Benefits Advisors

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Wednesday, November 7, 2007

Free Ways to Advertise Your Business

For many companies and individuals, advertising a new business is a
challenge. Budgeting funds to cover advertising costs can drain away
capital needed for operating expenses, but without advertising many times nobody will know your business exists. If your business has a website, there are several methods you can use to get free advertising.

First of all, create a directory of web sites on a specific topic.
Give people the option of adding the directory to their web site by
linking to it. Put your business advertisement at the top of the
directory's home page. This technique will get lots of people to link
to your web site and give you free advertising.

Secondly, you can use bonus advertising. Do you have a product or service that doesn't sell very well? Offer it as a free bonus for someone else's product or service. Get free advertising by placing your web site or business ad on the product or in the product package.

Another method of free advertising involves your autoresponder. Trade autoresponder ads with other businesses. If both of you send out information with autoresponders just exchange a small classified ad to put at the bottom or top of each other's autoresponder message.

Starting a free tip line can also generate free advertising. Offer a free daily, weekly, or monthly tip recorded on your voice mail or embedded in your email. The tips should be related to your business. Include your ad for your web site or business at the beginning or end of your message.

Finally, you can use content swap as a way to generate free advertising. Exchange content with other web sites and ezines. You could trade articles, top ten lists, etc. Both parties could include a resource box at the end of the content.

John Kaighn

Jersey Benefits Advisors

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Thursday, November 1, 2007

Balancing Upside And Downside Risks

"The Committee judges that, after this, the upside risks to inflation roughly balance the downside risks to growth". With that statement, the Federal Reserve summed up the decision to lower the Federal Funds rate by 1/4 point to 4.50% at the October Federal Open Market Committee Meeting. The Fed figures that rising commodity prices, especially oil, pose as great a risk of igniting inflation as the risk of lower growth of the economy created by the credit crunch and struggling housing market.

The continued downward trend of the dollar, a result of lower interest rates, added to the tension the Fed's decision has created as it walked the tightrope of maintaining employment and growth without increasing the likelihood of a new round of inflation. Data from the Bureau of Labor and Statistics indicated the economy was growing at a higher that expected annual rate of 3.9% in the third quarter, but the purchasing manager's survey showed weak manufacturing data for the month of October. Initially, the market took the Feds move with a bullish move on Wednesday climbing 137 points, but as the reality of the severity of the economic situation became evident, the market subsequently sold off 362 points on Thursday.

A report from the Commerce Department indicated consumers scaled back their spending in September as worries mounted about a worsening housing market and further credit market turmoil. A trade group reported that manufacturing in the U.S. grew in October at the weakest pace since March. This combination of factors led investors to pull back sharply from Wednesday's rally, after the Fed said the economy had weathered the summer's credit crisis.

With the market's growing pessimism about the economy, the Labor Department's report on October jobs creation, scheduled to be released Friday morning, will be taking on even more importance than usual. The combination of no more rate reductions, rising oil prices, continued credit concerns and slower economic growth indicates a need for investors to be cautious in their risk assessment going forward. While I don't see definite indications of recession, caution is always prudent during times of market duress.

John Kaighn

Jersey Benefits Advisors

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