The St. Agnes Chorus for Stockpickers

This is a remarkable chorus from eighth grade students of St Agnes:

“Hi, this is Lori. One thing I remember my grandfather telling me is over the last seventy years the market has declined forty times, so an investor has to be willing to be in the market for the long term . . . If I even invest in the market I will be sure to keep the money in.”

“Hi, this is Sarah, I remember my grandmother telling me the story about Sears and how when the first shopping malls were built, Sears was in ninety five percent of them . . . Now when I invest in stock I’ll know to invest in a company that has room to grow.”

“Hi, this is Kim. I remember talking to uncle Tom and he said that while K mart went into the big town, Wal-Mart was doing even better because it went into all the small towns where there was no competition. Yesterday Wal-Mart was sixty dollars and they announced a two-for-one split.”

It is the same story for every individual, family, company, country, those who save and invest for the future will be more prosperous in the future than those who run out and spend all the money they get their hand on. It is not just how much money you make that will determine your future prosperity. It is how much of that money you put to work by investing it. The more you invest, the better of you will be, and the nation will be better of as well, because your money will help create new business and more jobs.

When a company sells shares, it uses the money to open new stores, or build new factories, or upgrade its merchandise, so it can sell more products to more customers and increase its profits. And the company gets bigger and more prosperous, its shares become more valuable, so the investors are rewarded for putting money to such good use. Meanwhile, a company that prospers can afford to give pay raises to its workers. It will also pay more taxes on its increased profits, so the government will have more money to spend on schools, roads, and other projects that benefit society. This whole beneficial chain of events begins when people like you and me invest in a company. And then the nation’s prosperity depends on small companies getting bigger and big companies getting more competitive.

Competition is the key to prosperity and better quality of life. As long as somebody else could come along and make a product better and cheaper, a company couldn’t do a lousy job and expect to get away with it. They were forced to improve their products and keep their prices as low as possible, or they’d lose their customers to a rival. Profitable companies with good management are rewarded in the stock market, because when a company does well, the stock price goes up. In a poorly managed company, the results are mediocre, and the stock price goes down, so bad management is punished. A decline in the stock price makes investors angry, and if they get angry enough, they can pressure the board to kick out the management team and replace them with the new one.

We don’t need the government to decide what the country should make, how many of each item, and who should be allowed to do the manufacturing. The market sorts this out automatically. The “invisible hand” keeps the supply and demand of everything in balance. The “invisible hand” is there to guide the money to the place where it can do the most good. A highly profitable company can attract more investment capital than a less profitable company. With the extra money it gets, the highly profitable company is nourished and made stronger, and it has the resources to expand and grow. The less profitable company has trouble attracting capital, and it may wither and die for lack of financial nourishment. The fittest survive and the weakest go out of business, so no more money is wasted on them. With the weakest out of the way, the money flows to those who can make better use of it.

Great investors don’t own what they don’t understand. They own stocks where results depend on ancient fundamentals: a successful company enters new markets, its earnings rise, and the share price follows along. Or a flowed company turns itself around. The typical big winner on the stock market generally takes three to ten years or more to play out.

The stock price is the least useful information you can track. The stock price is a dangerous delusion. What Mr. Market pays for a stock today or next week doesn’t tell you which company has the best chance to succeed. Invest in companies, not in the stock price. Ignore short-term fluctuations. Predicting the short-term direction of the stock market is futile. The long-term returns from stocks are both relatively predictable and also far superior to the long-term return from bonds.
You have to keep a track of where the future growths coming from and when it’s likely to slow down. Never invest in a company before you’ve done the homework on the company’s earnings prospects, financial condition, competitive position, plan for expansion, and so forth. Visiting stores and testing the products is one of the critical elements of the analyst’s job you should do before you invest into it.

Millions of people should refrain from buying stocks. These are people who have no interest in investigating companies and cringe at the sight of a balance sheet, and who thumb through annual reports only for the pictures. The worst thing you can do is to invest in companies you know nothing about.

People who are no good at picking stocks are the very ones who say that they are “playing the market,” as if it is a game. When you play the market you’re looking for instant gratification without having to do any work. You are seeking the excitement that comes from owing one stock one week, and another the next, or from buying futures and options.

Playing the market is an incredibly damaging past time. Players of the market may spend weeks studying their travel guides in order to carefully map out a trip, but they’ll turn around and invest $10,000 in a company they know nothing about. The whole process is sloppy and ill-conceived. This is a group of chronic losers with a history of play their hunches.

Equity mutual funds are the perfect solution for people who want to own stocks without doing their own research. Investors in equity mutual funds have prospered handsomely in the past, and there is no reason to doubt that they will continue to proper in the future. Even in equity mutual funds that fail to beat the market average, the long-term results are likely to be satisfying. The short-term results are less predictable, which is why you shouldn’t buy equity funds unless you know you can leave the money there for several years and tolerate the ups and downs.

If you are going to invest in a stock, you have to know the story. The story tells you what’s happening inside the company to produce profits in the future – or losses, if it’s a tale or woe. This is why investors get themselves into trouble. They buy a stock without knowing the story, and they track the stock price, because that’s the only detail they understand. When the price goes up, they think the company is in a great shape, but when the price stall or goes down, they got bored or they lose faith, so they sell their shares. Confusing the price with the story is the biggest mistake an investor can make. It causes people to bail out of stocks during crashes and corrections, when the prices are at their lowest, because they think that the companies they own must be in lousy shape, but in reality the company is still in terrific shape. It causes them to miss the chance to buy more shares when the price is low.

In ninety-nine cases out of one hundred where investors are chronic losers, it’s because they don’t have a plan and don’t check the story. They buy at a high price, and then they get impatient or panic and sell at lower price during one of those inevitable periods when stocks are taking a dive. But time makes money. Unless you have the patience and the courage to hold on to the shares during the corrections, you’re an odds-on favorite to become a mediocre investor. It’s not always brainpower that separates good investors from bad, often it’s discipline.

Nobody can predict exactly when a bear (down) market will arrive. But when one does arrive, and the prices of nine out of ten stocks drop in unison, many investors get scared. They hear in TV newscasters using words like “disaster” and “calamity” to describe the situation, and they begin to worry that stock prices will hurtle toward zero and their investment will be wiped out. They decide to rescue what’s left of their money by putting their stocks up for sale, even at loss. They tell themselves that getting something back is better than getting nothing back. It’s at this point that large crowds of people suddenly become short-term investors, in spite of their claims about being long-term investors. They let their emotions get the better of them, and they forget the reason they bought stocks in the first place – to own share in good companies. They go into panic because stock prices are low, and instead of waiting for the prices to come back, they sell at the low price.

An extended bear market (2000- 2002) can test everybody’s patience and unsettle the most experienced investors. No matter how good you are at picking stocks, your stocks will go down, and just when you think the bottom has been reached, they will go down some more. In fifty years of owning stocks you can expect twenty-five corrections (when the market falls 10 percent from their most recent peak), of which eight or nine will turn into bears. It would be nice to be able to get a warning signal, so you could sell your stocks and your mutual funds just before a bear market and then scoop them up later on the cheap price.

Looking at the positive side, a crash is a unique opportunity to buy stocks cheap. People also think it’s dangerous to be invested in stocks during crashes and corrections, but it’s only dangerous if they sell. Buy shares in solid companies with earning power and don’t let go of them without a good reason.

One of the worst mistakes you can make is to switch into and out of stocks or stock mutual funds, hoping to avoid the upcoming correction. It’s also a mistake to sit on your cash and wait for the upcoming correction before you invest in stocks. In trying to time the market to sidestep the bears, people often miss out on the chance to run with the bulls. Putting in a small amount of money every month, or every three months or every six months will remove you from the drama of the bulls/ups and bears/downs. In a correction or a bear market, the shares in your favorite fund will get cheap, so you’ll get more shares, and in a bull market you’ll get less shares for the same amount of money. Over time, the cost will even out and your profits will mount.

If you try to time the market you will invariably find yourself getting out of stocks at the moment they’ve hit bottom and are turning back up, and into stock when they’ve gone up and are turning back down. People think this happens to them because they are unlucky. It happens to them because they are attempting the impossible. Nobody can outsmart the market.

Your best bet is to invest money you can afford to set aside forever, and then leave that money in stocks through thick and thin. You’ll suffer through the bad times, but if you don’t sell any shares, you’ll never take a real loss. By fully invested, you’ll get the full benefit of those magical and unpredictable stretches when stocks make most of their gains. You should hold on your stocks as long as the companies behind them continue to do well.

A stock can be a loser in thirteen weeks, but a big winner in three years, or five years. Or it can be a winner in thirteen weeks but a loser down the road. Stocks that do well in the long run belong to companies that do well in the long run. The key to successful investing is finding successful companies that can grow their earnings over many years to come. If earnings continue to rise, the stock price is destined to go up. Maybe it won’t go up right away, but eventually it will rise. This is a simple strategy: Buy shares in good companies and holding on to them until there is no room for the companies to expand or grow their earnings anymore.

Putting money into stocks is far more profitable than putting it into bonds, certificates of deposit, or money market accounts. The 20th century have been full of bear markets, and in spite of that the results are indisputable: sooner or later, a portfolio of stocks or stock mutual funds will turn out to be a lot more valuable than a portfolio of bonds or CDs (certificates of deposit), or money market funds. History shows that over a long period of time assets will grow faster when they are 100 percent invested in stocks. The retirement account is the perfect place for stocks because the money can sit there and grow for 10 to 30 years.
By sticking with stocks all the time, the odds are six to one in favor that we’ll do better than the people who stick with bonds.

The reason that stocks do better than bonds is as companies grow larger and more profitable, their stockholders share in the increased profits. The dividends are raised. The dividend is such an important factor in the success of many stocks that you could hardly go wrong by making an entire portfolio of companies that have raised their dividends for 10 or 20 years in a row. Moody’s Handbook of Dividend Achievers lists such companies. Here’s a simple way to succeed on Wall Street: buy stocks from the Moody’s list and stick with them as long as they stay on the list. In the Moody’s list 134 of them have an unbroken 20-years record of dividend increases and 362 have a 10-years record.

Some healthy companies that are skimping on their dividend, usually use the money to buy back their own shares. Reducing the supply of shares increases the earnings per share, which eventually reward shareholders. To avoid their shareholder’s double taxation (the government taxes corporate profits and dividends in full rate), many companies have abandoned the dividend in favor of the buyback strategy, which boost the stock price.

This is an important point: You don’t need to make money on every stock you pick. Six out of ten winners in a portfolio can produce a satisfying result. There are no bells that ring when you’ve bought the right stock, and no matter how much you know about a company you can never be certain that it will reward you for investing in it.


This is a chorus that we should all memorize and repeat in the shower, to save ourselves from making mistakes:

· I can lose money in a very short time but it takes a long time to make money in stock market.

· The stock market really isn’t a gamble, as long as I pick good companies that I think will do well, and not just because of the stock price.

· I should not buy a stock because it’s cheap but because I know a lot about it.

· I have to research the company before I put my money into it. I should do my homework.

· I want to see, first that sales and earnings per share are moving forward at an acceptable rate and, second, that I can buy a stock at reasonable price.

· I should invest in several stocks because out of every five I pick one will be very great, one will be really bad, and three will be okay.

· I never fall in love with a stock; I always have an open mind.

· Buying stocks in utility companies is good because it gives me a higher dividend, but I’ll make money in growth stocks.

· Just because a stock go down doesn’t mean it can’t go lower.

· Over the long term, it’s better to buy stocks in small companies.

· I hold no more stocks than I can remain informed on.

· I invest regularly.


It is well to consider the financial strength and debt structure to see if a few bad years would hinder the company’s long-term progress. Understanding the reasons for past sales growth will help us for a good judgment as to the likelihood of past growth rate continuing.

The key to the success in Wall Street is to invest in regular time table, which takes the guesswork out whether the market is headed up or down, and does not allow impulse buying and selling spoil out so many nest eggs. People who invest in stocks regularly, the same amount every month or every two or three months will profit from their self-discipline.

Buy stock in well-managed growth companies with a history of prosperity, and in which earnings are on rise. This is the land of money-bagger, where it’s not unusual to make 10, 20, 30 or even 50 times your original investment in a decade.

If you can manage to find a few triples in your lifetime – stocks that have increased threefold over what you paid for them – you’ll never lack for spending money, no matter how many losers you pick along the way. And once you get the hang of how many losers you pick along the way, you can put more money into the successful companies and reduce your stake in the flops.

You may not triple you money in a stock very often, but you only need a few triples in a lifetime to build up a sizeable fortune. Here’s the math: if you start out with $10,000 and manage to triple it five times, you’ve got $2.4 million, and if you triple it ten times, you’ve got $590 million, and 13 times, you are the richest person in your country.

If you pick stocks in five different growth companies, you often will find that three will perform as expected, one will run into unforeseen trouble and will disappoint you, and the fifth will do better than you could have imagined and will surprised you with a phenomenal return.

The person who never bothers to think about the economy, blithely ignores the condition of the market, and invests on a regular schedule is better off than the person who studies and tries to time his investments, getting into stocks when he feels confident and out of stock when he feels queasy. A successful investor does not let worrying dictate his or her strategy. The best way not to be scared out of stocks is to buy them on regular schedule. And we will have done better with our money than people who move their money in and out of the market, as they feel more and less confident.

People who can’t see their stocks lose 50 percent of their value shouldn’t own stocks or stock funds. Ignore the latest dire predictions of the newscasters. Sell a stock because the company’s fundamentals deteriorate, not because the sky is falling. To benefit from the comebacks, you had to stay invested after any stock market decline.

You can be the world’s greatest expert on balance sheet but without faith you’ll tend to believe the negative headlines. You can put your assets in a good mutual fund, but without faith you’ll sell when you fear the worst, which undoubtedly will be when the prices are lowest.

You should have the faith that as old enterprises lose momentum and disappear, exciting new ones such as ebay, Federal Express, Dell, Microsoft, Intel, etc. will emerge to take their place.

If a stock is down but the fundamentals are positive, it’s best to hold on and even better to buy more. When you sell in desperation, you always sell cheap. If there were a way to avoid the obsession with the latest ups and downs is to check stock prices not very often but only every six months or so, you would be more relaxed.

Stop listening to the professionals! Normal person using the customary three percent of the brain can pick stocks just as well, if not better than the average Wall Street expert. The amateur investors have numerous built-in advantages that if exploited, should result in his or her outperforming the experts, and also the market in general. When you pick your own stocks, you ought to outperform the experts.

An amateur who devotes a small amount of study to companies in an industry he or she knows something about can outperform 95 percent of the paid experts who manage the mutual funds, plus have a fun doing it. Because as individual we are free of a lot of rules that make life difficult for the professionals and our stockpicking methods are much simpler and generally more rewarding than many of the more baroque techniques used by highly paid fund managers. But whatever method you use to pick stocks or stocks mutual funds, your ultimate success or failure will depend on your ability to ignore the worries of the world long enough to allow your investments to succeed. But if you pay attention to the expert’s opinions on the direction of the market and the economy you would have been too scared to own any stocks.

The average person can concentrate on a few good companies, while every fund manager is forced to diversify. By owning too many stocks, they lose this advantage of concentration. It only takes you a handful of winner to make a lifetime of investing worthwhile.

Don’t overestimate the skill and wisdom of professionals. Take advantage of what you already know. The average person is exposed to interesting local companies and products years before the professionals. Having a winning edge will help you making money in stocks. Look for opportunities that haven’t yet been discovered and certified by Wall Street – companies that are “off the radar scope.” So often we struggle to pick a winning stock, when all the while a winning stock has been struggling to pick us.

For example, did the doctors who prescribed Tagamet and Zantac buy shares in SmithKline and Glaxo that produce the products? It’s more likely that the doctors were fully invested in oil stocks. In general, if you polled all the doctors, I’d bet only a small percentage would turn out to be invested in medical stocks, and more would be invested in oil companies; and if you polled the shoe-store owners, more would invested in aerospace than Adidas or Nike, while aerospace engineers are more likely to invest in shoe stocks.

Why it is that stocks like grasses are always greener in somebody else’s pasture I’m not sure. Perhaps winning investment seems so likely as far away as possible, somewhere off in the “great beyond,” just as well imagine that perfect behavior takes place off in heaven and not on earth. Therefore the doctor who understands the ethical drug business inside and out is more comfortable investing in Schlumberger, an oil service company about which he knows nothing; while managers of Schlumberger are likely to own Johnson & Johnson or Nike.

The person with the winning edge is always in a position to outguess the person without a winning edge – who after all will be the best to learn of important changes in a given industry. It seems to me they are competing under unnecessary handicaps. Invest in things you know about. People get incredibly valuable fundamental information from their jobs that may not reach the professionals for months or even years. The professional’s edge is especially helpful in knowing when and when not to buy shares in companies that have been around awhile especially those in the so-called cyclical industries.

If you work in the chemical industry, then you’ll be among the first to realize that demand for polyvinyl chloride is going up, prices are going up, and excess inventories are going down. You will be in position to know that no new competitors have entered the market and no new plants are under construction, and that it takes two to three years to build one. All this means higher profits for existing companies that make the product.

In the same way, if you sell tires, make tires, or distribute tires, you’ve got a winning edge of Goodyear. All along the supply lines of the manufacturing industry, people who make things and sell things encounter numerous stockpicking opportunities. You can imagine how many opportunities must be out there.

There is consumer’s edge that’s helpful in picking out the winners from the newer and smaller fast-growing companies. If you stay half alert, you can pick the spectacular performers right from your place of business or out of the neighborhood shopping mall, and long before Wall Street discovers them – and if you work in the industry, so much better. This is where you will find ten baggers. To get these spectacular returns you had to buy and sell at exactly the right time. The trick is figuring out when they’ll stop growing.

Fast growers can lead exciting lives, and then they burn out, just as humans can. They can’t maintain double-digit growth forever, and sooner or later they exhaust themselves and settle down into the comfortable single digits of sluggards and stalwarts.

A restaurant chain and convenience store that succeeded in one region had an excellent chance of duplicating its success in another. What sells in one town is almost guaranteed to sell in another, as it has with donuts, soft drinks, hamburgers, socks, pants, dresses, gardening tools, yogurt, etc. Usually they have in earnings at 20 to 30 percent a year in the process and they are very easy to understand and it’s easy to monitor their progress. Not only did they grow fast, as fast as the high-tech growth companies, but also they were generally less risky. A high tech company can lose half of its value overnight when a rival unveils a better product, but a chain of donut franchises in New England is not going to lose business when somebody opens a superior donut franchises in Japan.
You can wait for a chain of stores to prove itself in one area, then take its show on the road and prove itself in several different areas before you invest. Employees of the malls have an insiders’ edge, since they see what’s going on every day. Many of the biggest gainers of all time come from the places that millions of consumers visit all the time.

Whenever you’re evaluating a retail enterprise you should always try to look at inventories. When inventories increase beyond normal levels, it is a warning sign that management may be trying to cover up the problem of poor sales.

In retail company or restaurant chain, the growth that propels earnings and the stock price comes mainly from expansion. As long as the same-store sales on the increase which mean the company has not yet saturated the market (these number are shown in annual reports and quarterly reports), the company is not crippled by excessive debt, and it is following its expansion plans as described to shareholders, it’s usually pay to stick with the stock. A decade after Wal-Mart came public it gained 20-fold. If you held the stock for another decade, you would overall have made 250-fold gain.

This is one of the keys to successful investing: focus on the companies, not on stock price. Stock price has its ups and down. If you are prepared to invest in a company, then you ought to be able to explain “why” in a simple language that a fifth grader could understand, and quickly enough so the fifth grader won’t get bored. For example:

I bought “To Bi discount bakery” because the store is always crowded. I myself like the breads they sell. The store has more variety of breads than normal bakery, the breads are very fresh because many customers buy and the breads taste good. The company is 18 months old and has already opened 9 stores. Next year there will be another 3-4 To Bi discount bakeries. The company’s growth is about 30 percent.

I bought “Dialog Semiconductor” because the company develops microchips for mobile/cellular phone industries and sell them to companies like Siemens, Sony-Ericsson, DotTech, Optrex Japan, etc. Everybody like mobile/cellular phone because it’s useful and very practical. I work with this company and see what’s going on everyday. This is a company with a strong balance sheet and favorable prospects. Semiconductor is a cyclical industry but after a strong decline, now there is a sign of rebound. The price is still very cheap.

This is a sort of information that is always available to the people directly or indirectly involved in a business to get a sense of the latest development.

If you invest in the cyclical industries like semiconductor, autos, chemical, and steel industries, it is important to get out at the right time. Cyclicals are like blackjack: stay in the game too long and it’s bound to take back your profit. You can’t hold on to a cyclical stock the way you hold on to a retailer in the midst of expansion.

If you are an insurance professional or technologist you ought to take advantage of this edge, and not blow it by shunning the insurance stocks or semiconductor stocks and buying broadcaster’s stocks or oil stocks or bio technology stocks, the workings on which you are entirely ignorant.

It is smart to divide your portfolio in two parts: the small to medium-sized growth and cyclical stocks, and the conservative stocks. When the market heads lower, sell the conservative stocks and adds to the others. When the markets pick up, sell some of the winner from the growth stocks whenever a company gets too big and there is no room to grow anymore or if the p/e (price-earning) ratio is too high. Stocks that are priced higher than their earnings lines have a regular habit of moving sideways or falling in price until they are brought back to more reasonable valuations.

During certain periods when emerging growth sector is unpopular with investors, these small stocks get so cheap that the p/e (price/earning) ratio falls to the same level as that of the S&P 500. Clearly it is time to buy emerging growth stocks. In other periods, when small stocks are wildly popular and bid up to unreasonably high levels, the p/e ratio will rise to double as of the S&P 500. This is a huge hint that it’s time to avoid the emerging growth sector and concentrate on the S&P. Once again, to reap the reward from this strategy you have to be patient. The rallies in small stocks can take a couple of years to gather steam, and then several more years to fully develop.

An ideal capital appreciation through investing in relatively attractive common stocks found primarily in five categories:

1. Small and medium-sized growth companies,
2. Companies whose prospects are improving,
3. Depressed cyclicals,
4. High yielding and growing dividend payers, and finally,
5. Companies where the market has overlooked or underestimated the real value of the firm’s assets. There were always undervalued companies to be found somewhere. When stocks in good companies are selling at 3-6 times earning (p/e = 3-6), the stockpicker can hardly lose.


Finding a promising company is only the first step. The next step is doing the research.

If you’re considering a stock on the strength of some specific product that a company makes, the first things to find out is: What effect will the success of the product have on the company’s bottom line?

The size of the company has a great deal to do with what you can expect to get out of stock. Big companies don’t have big stock moves. But sometimes a series of misfortunes will drive a big company into desperate straits, and, as it recovers, the stock will make a big move. But these are extraordinary situations that fall into the category of turnarounds. In the normal course of business, multibillion-dollar enterprises simply cannot grow fast enough to become tenbaggers.

You will do better with the smaller company. Small, aggressive new enterprises can grow 20-30 percent a year. If you choose wisely, this is the land of the 10-to 40-baggers, and even the 200-baggars. With a small portfolio, one or two of these you can make a fortune. A fast-growing company doesn’t necessary have to belong to a fast growing industry. All it needs is the room to expand within a slow-growing industry.

A lot of investors sit around and debate whether a stock is going up, as if the financial muse will give them the answer, instead of checking the company. The ups and down of the market are irrational and entirely unpredictable.

It’s obvious that studying history, psychology, and philosophy was much better preparation for the stock market than, say, studying statistics. People who have been trained to rigidly quantify everything have a big disadvantage. If stockpicking could be quantified, you could rent the nearest Cray computer and make a fortune. But it doesn’t work that way. All the math you need in the stock market, you get in the fourth grade. The success of many stockpickers is that they never went to business school – imagine all the lessons they never had to unlearn. The middle-aged investors who have lived through several kinds of markets may have an advantage over the youngster who hasn’t.

You should not invest like institution. If you invest like an institution, you are doomed to perform like one, which in many cases isn’t very well. You can find terrific opportunities in the neighborhood or at the workplace, months or even years before the news has reached the analysis and the fund managers they advise.

There is no assurance that a major companies won’t become minor, and there is no such thing as a can’t miss blue chip (for an example Ericsson). There are risks whenever you turn. People who succeed in the stock market also accept periodic losses, setbacks, and unexpected occurrences. If seven out of ten of my stocks perform as expected, then I’m delighted. If six out of ten of my stocks perform as expected, then I’m thankful. Six out of ten is all it takes to produce an inevitable record on Wall Street.

Ask yourself: “Do I have the personal qualities it takes to succeed?”
This is the most important question of all. It seems to me the list of qualities ought to include patience, self-reliance, common sense, a tolerance for pain, open-mindedness, detachment, persistence, humility, flexibility, a willingness to admit to mistakes, and the ability to ignore the general panic.

The so-called high-risk categories wasn’t all that risky for those who had continued to monitor the fundamentals. The big winners come from the so-called high-risk categories, but the risk has more to do with the investors than with the categories.

It’s important to be able to make decisions without complete or perfect information. Things are almost never clear on Wall Street, or when they are, then it’s too late to profit from them.

Large number of investors have been most afraid of stocks during the precise periods when stocks have done their best (stocks are cheap), while being least afraid precisely when stocks have done their worst (stocks are overpriced). They are concerned after the market has dropped or the economy has seemed to falter, which keeps them buying good companies at bargain prices. Then after they buy at high prices they get complacent because their stocks are going up. This is precisely the time they ought to be concerned enough to check the fundamentals, but they didn’t. Then finally, when their stocks fall on hard times and the prices fall to below what they paid, they capitulate and sell them in a snit.

Some have fancied themselves as “long-term-investors,” but only until the next big drop or tiny gain, at which point they quickly become short-term-investors and sell out for huge losses or the occasional minuscule profit. It’s easy to panic in this volatile business. The true stockpickers wait for things to cool down and buy stocks that nobody care about, and especially those that make Wall Street yawn. Stand by your stocks as long as the fundamental story of the company doesn’t deteriorate.

There are 60,000 economists in the U.S. alone, many of them employed full-time trying to forecast recessions and interest rates, and if they could do it successfully twice in a row, they’d all be millionaires by now. Predicting the economy is futile. Practical economists are economists after your own heart.

I don’t believe in predicting markets. I believe in buying great companies – especially that are under valued and/or under appreciated. You’re looking for situation where the value of the assets per share exceeds the price per share of stock. In such delightful instances you can truly buy a great deal of something for nothing.

Some people wait for bells to go off, to signal the end of a recession or the beginning of an exciting new bull market. The trouble is the bells never go off. Remember, things are never clear until it’s too late. Small investor tend to be pessimistic and optimistic at precisely the wrong times, so it’s self-defeating to try to invest in a good markets (stocks are expensive) and get out of bad ones (stocks are cheap). Usually there are four stages you can observe:

1. In the first stage of an upward market – one that has been down awhile and that nobody expects to raise again – people aren’t talking about stock. When ten people gather together they would rather talk about going to dentist, about plaque than about stocks, it’s likely that the market is about to turn up.

2. In the stage two, the market’s up 15 percent from stage one, but few are paying attention.

3. In the stage three with the market up 30 percent from the stage one, a crowd of interest people ignores the dentist and their talk circles around “which stocks to buy.” Everybody has put money into one issue or another, and they’re all discussing what’s happened.

4. In stage four, a crowd of interest people will tell you which stocks you should buy. Even the dentist has three or four tips, and in the next few days if you look up his recommendations in the newspaper and they’ve all gone up. When neighbors tell you what to buy and then you wish you had taken their advice, it’s sure sign that the market has reached a top of its saturation and is due for a tumble. During such period stocks were grossly overpriced, you need to sell everything and park your money in the money market account or pension fund and wait for things to cool down.

In overpriced market stocks are hitting new highs every day and soon you will find a beaten-down market in a recession. In a beaten-down market there are bargains everywhere you look as it happened in 2000 to 2002. But in an overpriced market as it happened in the late 1990s it’s hard to find anything worth buying.

In an overvalued market stocks are very risky. Buying a stock that overpriced even the purchase of Sony and Heinz can result in huge losses and wasted opportunities. In the late 1990s billions of uninformed dollars chased overpriced stocks and soon disappeared as result.

The way you know when the market is overvalued is when you can’t find a single company that’s reasonably priced or that meets your criteria for investment. At this time you cannot find any stocks worth owning. You can look over hundreds of individual companies and found no one you could buy on fundamental merits.

You should see the latest correction not as a disaster but as an opportunity to acquire more shares at low prices. Reevaluate the portfolio; find new positions or building up the old ones. The best stock to buy may be the one you already own. This is how great fortunes are made over time.

Bargains are the holy grail of true stockpickers. The latest correction was the end of the civilization only for some stockpickers who owned share on margin – i.e., they borrowed money from the bank or brokerage houses to buy them. These people saw their portfolios wiped out when the bank sold their shares, often at rock-bottom prices, to pay off the loans. It was the first time I truly understood the risks of buying on margin.

There is no shame in losing money on a stock. Every stockpicker does it. What is shameful is to hold on to a stock, or, worse, to buy more of it, when the fundamentals are deteriorating. That’s why to follow the fundamentals, the story of the companies, in a regular basis such as every 6 months is very important.

If a company is solvent, its bond will be worth 100 cents on the dollar. So when the bonds sell for only 20 cents, the bond market is trying to tell us something. The bond market is dominated by conservative investors who keep rather close tabs on a company’s ability to repay the principal. Since bonds come before stocks in the lineup of claimants on the company’s assets, you can be sure that when bonds sell for next to nothing, the stock will be worth even less. Before you invest in a low-priced stock in a shaky company, hoping for its rebound, look at what’s been happening to the price of the bonds.

Stockpicking is both an art and a science, but too much of either is a dangerous thing. A person infatuated with measurement, who only has his head and stuck in the sand of the balance sheets, is not likely to succeed. If you could tell the fortune from the balance sheet, the mathematicians and accountants would be the richest people in the world by now.

On the other hand, stockpicking as an art can be equally unrewarding. By art, I mean the realm of feeling/intuition and right brain in which the artistic type prefers to do well. As far as the artist is concerned, finding a winning investment is a matter of having a knack and following a hunch. People with a knack make money; people without always lose.

A pile of stockpicking software isn’t worth a damn if you haven’t done your basic homework on the companies. Searching for companies is liking looking for grubs under rock: if you turn over 10 rocks you’ll likely find one grub; if you turn over 20 rocks you’ll find two.

The part time stockpicker doesn’t have to find 50 or 100 winning stocks. It only takes a couple of big winners in a decade to make the effort worthwhile. The smallest investor can follow the “Rule of Five” and limit the portfolio to five issues. If just one of those is a 10-bagger and the other four combined going nowhere, you’ve tripled your money.

The common practice of buying, selling, and forgetting a long string of companies is not likely to succeed. Yet many people continue to do this. If they didn’t lose money on it by selling too late, then they lose money on it by selling too soon. We have to learn to think of investments not as disconnected events, which need to be rechecked from time to time for new twists and turns in the plots. Unless the company is bankrupt, the story is never over. A stock you might have owned 10 years ago, or 5 years ago, or 2 years ago, might be worth buying again. Just because the stock is cheaper than before is no reason to buy it, and just because it’s more expensive is no reason to sell.

Because of the variety of calamities that can befall a company, we need to protect our investment by paying attention to the company’s progress. No matter how powerful a company may be today, it won’t stay on top forever.

A fast growing company can rarely achieve more than a 25 percent growth rate, and a 40 percent growth rate is a rarity. Such frenetic progress cannot long be sustained, and companies that grow too fast tend to be self-destructive – too many new people, too many new customers, too many new products. Lack of planning, lack of accounting, lack of systems, and lack of hiring constraints create friction. Problem surface – with customers, with cash flow, with schedules, etc.

Lookout for great companies in lousy industries. You usually find companies that are undervalued in sectors or industries that are out of favor. A great industry that’s growing fast, such as high tech industries, attracts too much attention and too many competitions. When an industry gets too popular, nobody makes money there anymore.

In a lousy industry, one that growing slowly if at all, the weak will drop out and the survivors will get a bigger share of the market. A company that can capture an ever-increasing share of a stagnant market is a lot of better off than one that has to struggle to protect a dwindling share of an exiting market. In high tech industries competition is always chasing you and only the paranoids survive.

The greatest companies in lousy industries share certain characteristics. They are low-cost operators, and penny-pinchers in the executive suite. They have modest boardroom, reasonable executive salaries. They avoid going into debt. They reject corporate caste system. Their workers are well paid and have a stake in the companies’ future. They find niches, parts of the market that many companies have overlooked. They grow fast – faster than many companies in the fashionable fast growth industries.

Southwest Airlines was the lowest-cost operator in airline industry. One way to judge a company frugality is to visit their headquarters. The fact that a company you put your money in has a big building doesn’t mean that the people in it are smart, but it does mean that you’ve helped pay for the building. Southwest Airlines operated for 18 years out of a home office in Dallas. Herb Keheler set the tone for Southwest’s esprit. Pay raises for the higher-ups were limited to the same percentage the work force got. The annual get together was a chili cookout. As its competitors falter, Southwest is fully prepared to take advantage, which is usually happen to a great company in a lousy industry. The point is that a survivor of a lousy industry can reverse its fortunes very quickly once competitors have disappeared.

Another example of lousy industry is the steel industry. Bethlehem Steel’s CEO summed up the company’s problems in 1983 by blaming imports: “Our first, second, and third problems are imports” Ken Iverson and his crew at Nucor considered the same challenge from imports as blessings, a stroke of good fortune. “Aren’t we lucky; steel is heavy, and they have to ship it all the way across the ocean, giving us a huge advantage!” Iverson saw the first, second, and third problems facing the steel industry not to be imports, but management. He even went so far as to speak out publicly against government protection against imports, telling a stunned gathering of fellow steel executives in 1977 that the real problems facing the steel industry lay in the fact that management had failed to keep pace with innovation.

The purpose of a compensation system should not be to get the right behaviors from the wrong people, but to get the right people on the bus in the first place, and to keep them there.
Nucor built its entire system on the idea that you can teach farmers how to make steel, but you can’t teach a farmer work ethic to people who don’t have it in the first place. So instead of setting up mills in traditional steel towns, it located its plants in places full of real farmers who go to bed early, rise at dawn, and get right to work without fanfare.
“Gotta milk the cows” and “Gonna plow the north forty before noon” translated easily into
“Gotta roll some sheet steel” and “Gonna cast forty tons before lunch.”
Nucor rejected people who do not share this work ethic, generating as high as 50 percent turnover in the first year of a plant, followed by very low turnover as the right people settled in for the long haul.

“We have the hardest working steel workers in the world,” said one Nucor executive. “We hire five, work them like ten, and pay them like eight.” The Nucor system did not aim to turn lazy people into hard workers, but to create an environment where hardworking people would thrive and lazy workers would either jump or get thrown away off the bus. Nucor rejected the old adage that people are your most important asset. In a good-to-great transformation, people are not your most important asset. The right people are.

Central to the Nucor concept was the idea of aligning worker interests with management and shareholder interests through an egalitarian meritocracy largely devoid of class distinctions. Nucor addresses the point that your status and authority in Nucor come from your leadership capabilities, not your position. If you don’t like it – if you really feel you need that class distinction – well, then, Nucor is just not the right place for you.

Ken Iverson dreamed of building a great company, but refused to begin with the answer for how to get there. Instead, he played the role of Socratic moderator in a series of raging debates.
“We established an ongoing series of general manager meetings, and my role was more as a mediator,” commented Iverson, “They were chaos. We would stay there for hours, ironing the issues, until we came to something . . .. Argue and debate, then sell the nuclear business; argue and debate, then focus on steel joists, argue and debate, then invest in mini-mill; argue and debate, then build a second mini-mill, and so forth. Nearly all the Nucor executives described a climate of debate, wherein the company’s strategy evolved through many agonizing arguments and fights. In fact, the process was more like a heated scientific debate, with people engaged in a search for the best answers.

Nucor made its mark in the ferociously price competitive steel industry with the denominator profit per ton of finished steel. The driving force in its economic engine was a combination of a strong-work-ethic culture and the application of advanced manufacturing technology.

The primary factors during Nucor’s transition from good to great company, said Ken Iverson, were the consistency of the company, and their ability to project its philosophies throughout the whole organization, enabled by their lack of layers and bureaucracy. Nucor’s executives emphasized these factors as critical ones for their success:

– Getting people with a farmer work ethic on the bus,
– Getting the right people in key management positions,
– The simple structure and lack of bureaucracy,
– The relentless performance culture that increases profit per ton finished steel.

Technology was part of the Nucor equation, but secondary part. One Nucor executive summed up, “Twenty percent of our success is the new technology that we embrace, eighty percent is in the culture of our company.” Mediocrity results first and foremost from management failure (unenlightened and ineffective management), not technological failure. 1$ invested in Nucor beat 1 $ invested in Bethlehem Steel by over 200 times.

Getting the story on a company is a lot easier if you understand its basic business. If it is a choice between owning stock in a fine and high tech company with excellent management in a highly competitive and complex industry, or a humdrum company with mediocre management in a simple-minded industry with no competition, I’d take the latter. For one thing, it’s easier to follow. During a lifetime of eating donuts or buying tires, you’ve developed a feel for the product line that we’ll never have with biotechnology or software industries.

“Any idiot can run this company” is one characteristic of the perfect company, the kind of stock you should dream about. These are favorable attributes of the company we should invest in:
1. It sounds dull or even better ridiculous. Pep Boys, Manny, Moe, Lucky Duck, Dialog, is the most promising name. It’s better than dull, it’s ridiculous. Who wants to put money into a company that sounds like these? Until Wall Street realizes how profitable they are, by then it’s up tenfold already.

As often as a dull name in a good company keeps early buyers away, a flashy name in a mediocre company attracts investors and gives them a false sense of security. As long as it has “advance,” “leading,” “micro,” or something which is not understandable or something with mystifying acronym, people will fall in love with it.

2. It does something dull. A company with a boring name and also does something boring. It’s a plus. Both together is terrific. Both together is guaranteed to keep analysts away. Seven Oaks, the company that processes coupons you hand in at the grocery stores had stocks which sneaked up from $4 to $33. If a company with terrific earnings and a strong balance sheet also does dull things, it gives you a lot of time to purchase the stock at a discount. Then when it becomes trendy and overpriced, you can sell your shares to the trend-followers.

3. It does something disagreeable. Better than boring alone is a stock that’s boring and disgusting at the same time. Something that makes people shrug, retch, or turn away in disgust is ideal. Take Safety-Kleen. Safety-Kleen hasn’t rested on the spoils of greasy auto parts. It has since branched out into restaurant grease traps and other sorts of messes. What analysts would want to write about this, and what portfolio manager would want to have this on his buy list? There aren’t many, which is precisely what’s endearing about Safety-Kleen. This is a company that has had unbroken run of increased earnings. Profits have gone up every quarter, and so has the stock.

4. Spin-offs of division or parts of companies into separate, freestanding entities – such as Safety-Kleen out of Rawshide or Toys “R” Us out of Interstate Department Stores or Dialog out of Temic or Baby Bells companies that were created in the break-up of IT&T – often result in outstandingly lucrative investments. Large companies do not want to spin off divisions and then see those spin-offs get into trouble, because that would bring embarrassing publicity that would reflect back on the parents company. Therefore the spin-offs normally have strong balance sheets and are well prepared to succeed as independent entities. And once these companies are granted their independence, the new management, free to runs it own show, can cut cost and take creative measures that improve the near and long-term earnings.

5. The institution don’t own it and the analysts don’t follow it. It is equally enthusiastic about once-popular stocks the professionals have abandoned, as many abandoned companies just before they began to rebound.

6. The rumors abound: It’s involved with toxic waste and/or mafia. It’s hardly to think of a more perfectly industry than waste management. Instead of the usual blue cotton-down shirts, the management team were wearing polo shirts that said “Solid Waste.” Who would put on shirts like that, unless it was the Solid Waste team? These are the kind of executives you dream about. Waste Management, Inc. was up about a hundredfold.

7. There is something depressing about it. As an example is Service Corporation International (SCI). SCI does burials. They pioneered the pre-need policy, a layaway plan that enables people to pay off their funeral service and the casket right now while they still can afford it, so their families don’t have to pay for it later. Even the cost has doubled or tripled by the time they required a funeral service, they’re locked in the old prices. That’s a great deal for the family of the deceased, and even greater deal for the company. The company gets the money from its pre-need sales and the cash just keeps on compounding. If they sell $50 million worth of these policies each year, it will add up to billions by the time they’ve had all the funerals.

8. It’s no growth industry. Many people prefer to invest in high growth industry, where there is a lot of sound and fury. If you follow the crowd then you will only get the average results of the crowd and sometimes it can be dangerous. Smart investors would likely prefer to invest in a low growth industry like plastic knives and forks, but usually only if they can’t find no-growth industry like funerals. That’s where the biggest winners are developed.

There is no thrilling about a high-growth industry, except watching the stocks go down. In all exciting high-growth industries you can see numerous major and minor companies unerringly failed to prosper for long. That’s because for every single product in a hot industry, there are a thousand of MIT graduates trying to figure out how to make them better and cheaper. This doesn’t happen to bottle caps, coupon clipping services, oil-drum retrieval, or motel chains.

In a no growth industry, especially one that’s boring and upsets people, there’s no problem with competition. They don’t have to protect their flanks from potential rivals because nobody else is going to be interested. This gives them the leeway to continue to grow, to gain market share, as SCI has done with burials.

9. It’s got a niche. Always look for niches. The perfect companies would have to have one. Drug and chemical companies have niches – products that no one else allows to make. It took years for SmithKline to get the patent for Tagamet. Once a patent is approved, all the rival companies with their billions in research dollars can’t invade the territory.

10. People have to keep buying it like drugs, soft drinks, razor blades, or cigarettes.

11. It’s a user of technology. As computers get cheaper the companies that benefit from price war can do its job cheaper and thus increases its own profits.
12. The insiders are buyers. There is no better tip-off to the probable success of a stock than that people in the company are putting their own money into it. When insiders are buying like crazy, you can be certain, at a minimum, the company will not go bankrupt in the next six months or even longer. There is only one reason that insiders buy: They think the stock price is undervalued and will eventually go up.

Long term, there is another important benefit. When management owns stock, then rewarding the shareholders becomes a first priority whereas when management simply collects a paycheck, then increasing salaries becomes a first priority. Since big companies tend to pay bigger salaries to executives, there’s a natural tendency for corporate wage earners to expand the business at any cost, often to the detriments of shareholders. This happens less often when management is heavily invested in shares.

13. The company is buying back shares. If a company has faith in its own future, then why shouldn’t it invest in itself, just as shareholders do? If a company buys back half of its shares and its overall earnings stay the same, the earnings per share have just doubled. Excellent companies never pay a dividend, and they never make unprofitable acquisitions, but by shrinking shares they’ve gotten the maximum impact from the earnings.

If I could avoid a single stock, it would be the hottest stock in the hottest industry, the one that gets the most favorable publicity, the one that every investor hears about in the car pool or on the commuter train – and succumbing to the social pressure, often buys.

To become a $100 billion enterprise, Dot.Com eventually must earn at least $2.5 billion a year. Only 33 U.S. corporations earned more than $2.5 billion in 1999, so for this to happen to Dot.Com, it will have to join the exclusive club of big winners, along with the likes of Microsoft. A rare feat indeed. Companies valued at $500 million today may triumph, while companies valued at $10 billion may not worth a dime.

Hot stocks can go up fast, usually out of sight of any of the known landmarks of value, but since there’s nothing but hope and thin air to support them, they fail just as quickly. If you aren’t clever at selling hot stocks (and the fact that you’ve bought them is a clue that you won’t be), you’ll soon see your profits turn into losses, because when the price falls, it’s not going to fall slowly, or nor is it likely to stop at the level where you jumped on.

Look at the charts at Brokat an internet company which in 16 months went from $3 to $150 back to 0.03$. That’s terrific for the people who said goodbye at $150, but what about people who said hello at $150, when the stock was at its hottest? Where were the earnings, the profits, and the future prospects? This investment had all the underlying security of a roulette spin. If you had to live off the profits from investing in the hottest stocks in each successive hot industry, soon you’d be on welfare.

High growth and hot industries attract a very smart crowd that wants to get into the business. Entrepreneurs and venture capitalists stay awake days and nights trying to figure out how to get into the act as quickly as possible. If you have a can’t-fail idea but no way of protecting it with a patent or a niche, as soon as you succeed, you’ll be warding off the imitators.

Remember what happened to disk driver? The market experts said that this exciting industry would grow at 52 percent a year and they are right, it did. But with thirty to thirty-five rival companies scrambling on the action, there were no profits.

At the beginning of the copy machine in the 1960s, many people assumed that Xerox would keep growing. Many analysts thought so. But then the Japanese got into it, IBM got into it, and Eastman Kodak got into it. Soon there were twenty firms that made nice copy machine. Xerox got frightened and bought unrelated businesses it didn’t know how to run, and the stock lost 84 percent of its value. Several competitors didn’t fare much better. Copying has been a respectable industry for two decades and there’s never been a slowdown in demand, yet the copy machine companies can’t make a decent living.

In contrast negative-growth industries like cigarettes do not attract flocks of competitors. But Philip Morris (Marlboro) has found its niche by expanding its market share worldwide, raising prices, and cutting costs. As a result, year after year Philip Morris has been increasing its earning. Look for companies with niches.

Instead of buying back shares or raising dividend, profitable companies often prefer to blow the money on foolish acquisitions. The dedicated diworseifier seeks out merchandise that is overpriced and completely beyond his or her realm of understanding. There is a strong tendency for companies that are flush with cash and feeling powerful to overpay for acquisitions, expect too much from them. This insures that losses will be maximized. Often billion of dollars are spent on exciting acquisitions and rampant restructuring, then those no longer exciting acquisitions are sold off for less than the original price. The same thing happens to people and their sailboats. Some corporations like some people, just can’t stand prosperity. Would you believe that a few decades back they were growing shrimp at Coke and exploring for oil at Gillette? Loss of focus is what most worries investors when contemplate investing in business that general look outstanding. All too often, we’ve seen value stagnate in the presence of hubris or of boredom that caused the attention of managers to wander.

The great companies at their best followed a simple mantra: “Anything that does not fit with our business concept, we will not do. We will not launch unrelated businesses. We will not make unrelated acquisitions. We will not do unrelated joint ventures. If it doesn’t fit, we don’t do it. Period.”

Synergy is a fancy name for two-plus-two equals five theory of putting together related businesses and making the whole thing work. For example since Marriott already operates hotels and restaurants, it made sense for them to acquire the subsidiary that provides meal service to prisons and colleges. But what would Marriott know about auto or oil? That’s why they didn’t get into it because they are smart.

IPO (Initial Public Offering) of brand-new enterprises are very risky because there’s so little to go on. Four out of five have been long-term disappointments. Waits for earnings. You can get ten baggers in companies that have already proven themselves. It’s never too late not to invest in an unproven enterprise. It’s better to miss the first move in a stock and wait to see if a company’s plans are working out.

IPO of companies that have been spun out of other companies, or in related situations where the new entity actually has a track record have much bigger chance to succeed. These are established businesses already.

What you should ask before you invest is what makes a company valuable and why it will be more valuable tomorrow than it is today. The answer is always comes down to earnings and assets. Especially earnings. Sometimes it takes years for the stock price to catch up to a company’s value, and the down periods last so long that investors begin to doubt that will ever happen. But value always wins out.

The best you can get from current earning is an educated guess whether a stock is fairly priced. You can’t predict the future earnings, but at least you can find out what a company plans to increase its earnings. Then you can check periodically to see if the plans are working out. There are five basic ways a company can increase earnings: reduce costs, raise praises, expand into new market, sell more of its product in the old market, or revitalizes. If you have invested in one company ask yourself:

“What will keep it growing and increases its earnings?”

A healthy portfolio requires a regular checkup-perhaps every six months or so. Even with the blue chips, the big names, the top companies in Fortune 500, the buy and forget strategy can be unproductive and downright dangerous. As a stockpicker, you can’t assume anything. You’ve got to follow the stories:

1) Is the stock price still attractively priced relative to earnings?
2) What’s happening in the company to make the future earnings go up?

Here you can reach one of three conclusion:
1) The story has gotten better, in which case you might want to increase your investment.
2) The story has gotten worse, in which case you can decrease your investment.
3) The story is unchanged, in which case you can either stick to your investment or put the money into another company with more exciting prospects.


Summary

1. Investing is fun, and dangerous if you don’t do any homework. You have to know what you own, and why you own it.

2. If you don’t study any companies, if you don’t do research, you have the same success buying stocks as you do in poker game if you bet without looking at your cards.

3. You can outperform the experts if you use your winning edge by investing in companies or industries you already understand.

4. You can beat the market by ignoring the herd.

5. Behind every stock is a company. Find out what they are doing and how they are doing it. The worst thing you can do is to invest in companies you know nothing about.

6. Often, there is no correlation between the success of a company’s operations and the success of its stock over a few months or even a few years. In the long term, there is 100 percent correlation between the success of the company and the success of its stock. The disparity is the key to making money; it pays to be patient and to own the successful companies.

7. Owning stocks is like having children – don’t get involved with more than you can handle. When you own a piece of a company you must stay in tunes and watch for new development. Recheck the story of the company every 6 months or so.

8. If you can’t find any companies that you think are attractive, put your money in the bank until you discover some. The smallest investor can follow the “Rule of Five” and limit the portfolio to five issues. If just one of those is a 10-bagger and the other four combined going nowhere, you’ve tripled your money.

9. Never invest in a company without understanding its finances. The biggest losses in stocks come from companies with poor balance sheets.

10. Avoid hot stocks in hot industries. Most people gets burned in hot stocks. Great companies in cold, non-growth industries are consistent winners.

11. With promotional companies, you’re better off to wait until they turn a profit before you invest.

12. If you’re thinking about investing in a troubled industry, buy the companies with a staying power (Check the balance sheet!). Also, wait for industry to show signal of revival. It’s senseless to invest in a downtrodden company unless the quest facts tell you that conditions will improve.

13. In every industry the observant amateur can find great companies long before the professionals have discovered them. After professionals found these great companies, they are usually no longer bargain.

14. There are always pleasant surprises to be found in the stock market – companies whose achievements are being overlooked on Wall Street.

15. A stock-market decline is unavoidable but if you are prepared, it can’t hurt you. A decline is a great opportunity to buy the bargains left behind by the herd who are fleeing the storm in panic.

16. If you are susceptible to selling everything in a panic, you ought to avoid stock and stock mutual funds altogether.

17. Ignore the latest dire predictions of the newscasters. Sell a stock because the company’s fundamentals deteriorate, not because the sky is falling.

18. Nobody can predict interest rates and the future direction of the economy. Dismiss all such forecast and concentrate on what’s actually happening to the companies in which you have invested.

19. Time is on your side when you own shares of superior companies. You can afford to be patient – even if you missed Wal-Mart in the first five years, it was still a great stock to own in the next five years.

20. If you have the stomach for stocks but neither time nor the inclination to do the homework, invest in equity mutual funds. Here it’s a good idea to diversify. You should own a few different kinds of funds: growth, value, small companies, large companies, etc. Investing in six of the same kind of fund is not diversification.

21. In the long run, a portfolio of well-chosen stocks or equity mutual funds will always outperform a portfolio of bonds or money-market account. In the long run, a portfolio of poorly chosen stocks won’t outperform the money left under the mattress.

22. The stock market can test your patience, but if you believe in a company and its management team you hold on until your patience is rewarded.

23. Investigate whether the product that’s supposed to enrich the company is a major part of the company’s business.

24. What the growth rate in earnings has been in recent years (the best are 20 to 25 percent). Those 50 percenters usually are found in hot industries, and you know what that means.

25. Moderately fast growers (20 to 25 percent) in non-growth industries are ideal investments.

26. In case of retail company and restaurant chain the company has duplicated its successes in more than one or two towns to prove that expansion will work.

27. The company still has room to grow.

28. Whether the expansion is speeding up (for example, three new motels last year and five new motels this year) or slowing down (five last year and two this year).

29. Few institutions own the stock and only a handful of analysts have ever heard of it.

30. Invest in simple companies with terrific earnings and a strong balance sheet that appear dull, mundane, out of favor, and haven’t caught the fancy of Wall Street.

31. When investing in depressed stocks in troubled companies, seek out the ones with the superior balance sheet and avoid the one with loads of bank debt. A lot of money can be made when a troubled company turns around.

32. Managerial ability is the core of the success of one enterprise but it is quite difficult to assess, therefore based your purchase on the company’s prospects.

33. Carefully consider the price-earnings ratio. As a rule of thumb, a stock should sell at or below its growth rate. It is okay to purchase a company with the grow rate of 20 percent and has p/e ratio at maximum 20. If the stock is grossly overpriced, even if everything else goes right, you won’t make any money.

34. Find a story line to follow as a way of monitoring a company’s progress.

35. Look for company that consistently buy back their own shares.

36. Invest at least as much time and effort in choosing a new stock as you would in choosing a new refrigerator.





Equity funds

Over the last decade, up to 75 percent of the equity funds have been worse than mediocre. It seems illogical that the majority of the fund managers cannot achieve an average result. The causes of this strange phenomenon are not entirely known. One theory is that fund managers are generally lousy stockpickers, so should you forget about picking a managed fund from among the thousands on the market, invest in an index fund or a couple of index funds.

Over 30 years, the managed funds and the indexes are running neck-by-neck, with the managed funds having the slightest edge. All the time and effort that people devote to picking the right fund and the great fund manager, have in most cases led to no advantage. Unless you were fortunate enough to pick one of the few funds that consistently beat the averages.

Diversify means buying several funds of varying styles and philosophies. Our thinking was as follows: markets change and conditions change and one style of manager or one kind of fund will not succeed on all seasons. What applies to stock also applies to mutual funds.

When any fund does poorly, the natural temptation is to want to switch to a better fund. People who succumb to this temptation without considering the kind of fund that failed them are making mistake. They tend to lose patience at precisely the wrong moment, jumping from the value fund to a growth fund just as value is starting to wax and growth is starting to wane.

It’s best to divide your money among three or four types of stock funds (growth, value, emerging growth, etc.) so you will always have some money invested in the most profitable sector of the market.

Emerging growth stocks are much more volatile than their large counterparts, dropping and soaring like sparrow hawks around the stable flight path of buzzards. Obviously, 2004 would have been a good year to add money to emerging growth sector of your portfolio.

During certain periods when emerging growth sector is unpopular with investors, these small stocks get so cheap that the p/e (price/earning) ratio falls to the same level as that of the S&P 500. Clearly it is time to buy emerging growth stocks. In other periods, when small stocks are wildly popular and bid up to unreasonably high levels, the p/e ratio will rise to double as of the S&P 500. This is a huge hint that it’s time to avoid the emerging growth sector and concentrate on the S&P. Once again, to reap the reward from this strategy you have to be patient. The rallies in small stocks can take a couple of years to gather steam, and then several more years to fully develop.

You don’t need to spend a lot of time poring over the fund past performance charts. It’s better to stick with a steady and consistent performer than to move in and out of funds, trying to catch the waves. One excellent source of information on this subject is the Forbes Honor Roll, published in that magazine every September. To make the Forbes list, a fund has to have some history behind it – two bull markets and at least two bear markets. Getting on the Forbes Honor Roll is tough, which is what makes this a good place to shop for funds. One of the best funds, Phoenix Growth has compiled a remarkable record – a compound annual gain of 20.2 percent since 1977.

If you plan to stick with a fund for several years, the 2-5 percent you paid to get into it will prove insignificant. You should not buy a fund because it has a load, nor refuse to buy one for the same reason. Concentrate on solid performers and stick with those. Constantly switching your money from one fund to another is an expensive habit that is harmful to your net worth.