Determining the Intrinsic Value of a Stock

Price is what you pay and value is what you get. 

For example, you pay SGD2.60 for a cup of McDonald's coffee black and SGD1.10 for an equivalent kopi 'O' from a HDB coffeeshop.  Who's to say one cup of coffee is overpriced or underpriced as the value to the drinker differs from one to another?

When it comes to stock investment, the 'flavour' is removed from the equation and you can determine the inherent or intrinsic value of a share in a relatively objective way by using Value Investing.

Here is an overview from Wikipedia:-

"Value investing is an investment paradigm which generally involves buying securities that appear underpriced by some form of fundamental analysis, though it has taken many forms since its inception. It derives from the ideas on investment that Benjamin Graham and David Dodd began teaching at Columbia Business School in 1928 and subsequently developed in their 1934 text Security Analysis. As examples, such securities may be stock in public companies that trade at discounts to book value or tangible book value, have high dividend yields, have low price-to-earning multiples or have low price-to-book ratios.

High-profile proponents of value investing, including Berkshire Hathaway chairman Warren Buffett, have argued that the essence of value investing is buying stocks at less than their intrinsic value. The discount of the market price to the intrinsic value is what Benjamin Graham called the "margin of safety". The intrinsic value is the discounted value of all future distributions.[citation needed] However, the future distributions and the appropriate discount rate can only be assumptions. Graham never recommended using future numbers, only past ones). For the last 25 years, Warren Buffett has taken the value investing concept even further with a focus on "finding an outstanding company at a sensible price" rather than generic companies at a bargain price.

Graham never used the phrase, "value investing" — the term was coined later to help describe his ideas and has resulted in significant misinterpretation of his principles, the foremost being that Graham simply recommended cheap stocks."

As for calculation of intrinsic value, the following YouTube clip provides a good discourse.

Click here for Lesson 21. Warren Buffett Intrinsic Value Calculation - Rule 4 

Invest With Eyes Wide Open

Unlike gambling on a soccer match (think Russia 2018 and make that soccer matches) or a horse-race, you have more leeway to make a sound investment by learning how to pick a profitable stock.

Photo by Roberto Nickson (@g) on Unsplash

To understand the elephant-anatomy of a share, you can invest with eyes opened wide by using a four-step formula which The Fifth Person has called The Investment Quadrant comprising the following four components:

1. Business Quadrant

2. Management Quadrant

3. Financials Quadrant

4. Valuation Quadrant

You will need to look at the Business of your target company (e.g. relative competitiveness, flair with automation/innovation and quality of products) and the industry in which it operates (e.g. sunset industry, environmental impact and future growth prospect). 

The company is only as good as its Management team, particularly, its top management which could determine whether it succeed or fail spectacularly. Horror of horrors even in this time and age, notwithstanding public scrutiny and security-industry watchdogs, there are CEOs and Executive Directors who commit unimaginable (that's how creative they are) white-collar crimes or blatantly neglect their duties and responsibilities.

While the Financials of a company are rudimentary factors for seasoned investor to consider, the rookies would pass by them and go with their gut feelings.

Then, there is Valuation which offers a more clinical research of the intrinsic value of a company through Book Value approach, Equity and Debt approach, Discounted Cash Flow approach, Relative Valuation approach and Option Valuation approach.

Click here for The Investment Quadrant: The 4-step formula to picking the best stock investments.

The Dividend Aristocrats

"The One Strategy That Beats Wall Street" written by James Altucher is one of the best article I have read on shares investment in a long while.

It is solid common sense to win over impatient investors who are raring to make a killing in the stock markets at a fast and furious pace by pouncing on what's hot and throwing caution to the wind.

When it comes to shares investment, what is 'boring' with consistency may well give you a better return on your bucks. So, buckle up on a less Ferrari-like vehicle and look through a windscreen for companies that pay dividends unfailingly.

Photo by Caleb Woods on Unsplash

As Altucher let on, "Dividends are the simplest way to collect a piece of a company’s cash flow. When a company pays a dividend, it shows they’re serious about sharing profits with investors. Every other smart investor I’ve met says the same thing."

Click here for The One Strategy That Beats Wall Street and meet the so-called Dividend Aristocrats.

To digress, you may be torn between buying a blue-chip share which costs a lot more per unit as opposed to, say, a Real Estate Investment Trust (REIT).

In Singapore context, a bank like DBS Group Holdings Ltd may pay an annual dividend of, say, SGD 1.20. Based on its recent closing price of SGD 28.30, the return on an investment of 1,000 shares costing SGD 28,300.00 would be SGD 1,200.00 (4.24%).

On the other hand, a REIT like Ascott Residence Trust may distribute SGD 0.08 per units per annum and 1,000 units costing SGD 1,110.00 (based on its recent closing price of SGD 1.11) would yield an income of SGD 80.00 (7.20%).

Other things being equal, it would seem that you would be better off with Ascott in the above scenario. 

But, of course, in reality, there is a host of these other factors which could affect the outcome of your investment choice. For example, DBS may have a bigger upside or downside in price movement and Ascott's future performance is subject to a myriad of factors such as competition (or dominance, on the flip-side) and interest rates on its borrowings.

For sure, companies that pay good dividends annually are alive and kicking. The dividends they pay you is like a bird in the hand which is worth two in the bush of non-paying ones. Be sure to include some of these 'aristocrats' in your investment portfolio after doing your usual due diligence of the target companies you have in mind.

Rich Man, Poor Man by Richard Russell (1924 - 2015)

Financial insights on making money by Richard Russell:

"Making money entails a lot more than predicting which way the stock or bond markets are heading or trying to figure which stock or fund will double over the next few years. 

For the great majority of investors, making money requires a plan, self-discipline and desire. I say, "for the great majority of people" because if you're a Steven Spielberg or a Bill Gates you don't have to know about the Dow or the markets or about yields or price/earnings ratios. You're a phenomenon in your own field, and you're going to make big money as a by-product of your talent and ability. But this kind of genius is rare. 

For the average investor, you and me, we're not geniuses so we have to have a financial plan. In view of this, I offer below a few items that we must be aware of if we are serious about making money."  

If you are interested, please refer to:

http://dowtheoryletters.com/Content_Free/2494.aspx  , 

                                                                                and read "Rich Man, Poor Man" by Richard Russell which contains four rules for making money summarised as follow:

Rule 1: Compounding (learn how an investment of $14,000 can outstrip an investment of $80,000 through the power of compounding)

Rule 2: Don't Lose Money (avoid losing money as it can drain off what you are earning or hope to earn)

Rule 3: Rich Man, Poor Man (do not be pressured to "make money" or "do something"; do not overpay; wait till outstanding values are available)

Rule 4: Values (look for investment which offers safety, attractive return and likelihood of appreciating)

  

Disclaimer: Please note that the above blurb is for general information only and does not constitute any form of investment advice, recommendation or offer to buy, sell or issue, or invest in any securities or fund or managed account or subscribe for any product or service.

How to Evaluate Shares The Main Street Way

As at 31 December 2014 the price of 1 Berkshire Hathaway Inc. share stood at USD226,000.00 and it reflects well on the financial acument of its legendary founder, Warren Buffett. For a man who has made his massive fortune through investing in shares of companies, he has understandably a huge following. He is also admired by like-minded wealthy individuals for his philanthropy.

How did he do it? Mind you, he started young with ventures such as buying coca-cola in six-packs and selling them individually for a profit as well as hiring the other kids in the neighbourhood to expand his newspaper distribution network. He also read annual reports of companies and made his foray into the stock market. Later, he honed his investment skills by emulating the investment stategies promulgated by Benjamin Graham (the father of Value investing) and Philip fisher (the father of Growth investing).

So, how does Warren Buffett evaluate shares? First, he examines the business of the company instead of just looking at its price on Wall Street. He had been quoted saying that: "to many on Wall Street, both companies and stocks are seen only as raw materials for trades," and "I never attempt to make money on the stock market. I buy on the assumption that they would close the next day and not reopen it for five years. As far as you are concerned, the stock market does not exist. Ignore it. Much success can be attributed to inactivity. Most investors cannot resist the temptation to constantly buy and sell."

That's Buffett-speak; he knows the businesses that he has invested in comprehensively -- their competitive advantage or moat, their debt-equity ratio, profitability and so forth. For the rest of us, we simply cannot take this piece of advice to ignore the stock market altogether in isolation of other factors affecting the company and/or Wall Street.

Next, he looks at the management or people who directs the company. A management team that is strong, cohesive and resourceful with a proven track record would augur well for the future growth and profitability of the company, ceteris paribus. Suffice to say, a company is only as great as its operators.

Then, he seeks to take advantage of market irrationality. He understands that share prices are determined by demand and supply which, in turn, are irrationally driven by fear and greed. (So much for the Efficient Market Hypothesis taught in classrooms.)

Buffett would look at the intrinsic value and growth potential of a company under his radar and buy when the market undervalues it.

In gist, Buffett's investment philosophy are summed up in the following two rules:

1. Don't lose capital; and

2. Don't forget rule number 1.

And, his simplified investment principles are summed as follows:

a) Know what you own;

b) Research before you buy;

c) Own a business, not a stock;

d) Make a total of only twenty lifetime investments; and

e) Make one decision to own a stock and be a long-term owner.

Bibliography

- Warren Buffett Wealth by Robert P. Miles

- Secrets of Millionaire Investors by Adam Khoo & Conrad Alvin Lim

The Role of Your Investment Attitude by Jason Swanson

Many people often wonder why some make it in the stock market and some don't. They sometimes sigh and say, "They have all the luck, that's why." True enough, luck can be a factor in one's success or failure in the stock market. As most experts will allow, trading at the stock market is very similar to gambling. They both involve a great deal of risk. But unlike gambling, success or failure in the stock market is not solely dependent on luck. It has much to do with two things information and attitude.

Information has much to do with success or failure at the stock market. First of all, information makes stock trading more than just guesswork. Analyzing trends can help investors make educated guesses regarding their investments. 

One important aspect that often goes unnoticed is the proper attitude investors must have towards investing. Too often, investors fall prey to the wrong type of attitude in investing. This leads to wrong decisions, and impulsive buying or selling. What are these attitudes, and how should they be avoided? 

1. Many Investors Exhibit an Impatient Manner
Unfortunately, many investors get into the mix just because they are under the impression that they could get rich overnight as result of a few investments. This is so far from the truth. In fact, successful portfolios are built over time.  Stocks take time to mature and appreciate. If the investor never realizes this, he or she might be looking to make a quick buck. And when he or she is unable to, he or she may become discouraged or may sell his or her shares for a lower price. 

2. Many Investors Look to Take the Risk to Be Overnight Millionaires
Warren Buffet, the Wall Street Tycoon has this advice for investors: don't bet all your marbles on stocks that seem to be skyrocketing today. They could crash tomorrow. Buffet confides that he has always built his empire over stocks that were stable and exhibited continued growth over the years. He says that these stocks are preferable to volatile stocks that could crash anytime.

Other investors fail to diversify their portfolios. Depending on how much risk one is willing to take, an investor should divide his or her portfolio into low-risk, medium-risk, and high-risk categories, and invest in such stocks. Some people are too risky and put their heads on the guillotine with high risk investments. Others will not risk their necks on any investments. One should choose an attitude that is just right for his or her risk tolerance.



Article Source: http://www.articlesphere.com/Article/The-Role-of-Your-Investment-Attitude/207247

Top Tip for Novice Investor by Goh Eng Yeow

"I agree fully with US financial portal Motley Fool for placing this tip right at the top of its advice to novice investors: Dollar-cost average for your entire life and you'll beat almost everyone who doesn't. What this means is to invest the same sum in the stock every month or even consider buying more of it when the market is down and less when it is up. Over the long term, this will ensure that you buy low and sell high. Of course, this advice applies only if you are buying into stocks whose earning capabilities have been proven beyond the benefit of a doubt over the years."

[Source: The Sunday Times, 4 May 2014, page 37]

Goh Eng Yeow is a Senior Correspondent with The Straits Times and the author of "Small Change: Investment Made Simple".

Click here for a review of Small Change: Investment Made Simple