Choosing a Stock Is Like Voting With Your Money

With the age of the internet and online trading, it is interesting to see how much of the dialogue around investing is about math and ROI and whether a company chart implies a reason to buy or sell.  I am often lost when discussions veer into technical aspects of a stocks valuation, such as PE ratios, and such.  I’m sure it is important and relevant, but I don’t have a PhD in finance, and I don’t want one.

What is often lost in the articles I read is what the company is about.  For a lot of folks, this is not important because short term trades can generate quicker gains.  If you are day trading, the stock is only part of a mathematical game, with little interest to the business behind the stock ticker.  But I am now less interested in playing that game.  Instead, I want to learn about what the company is doing to make the world a better place with their product.  I want to know what makes them an outlier to their competition.  In this way, I want to treat my money as if I was making an important vote in the future of my world, supporting the success of companies I want to support.

This sounds ridiculous in the context of financial planning.  The stock market is known to be a cold and hard place where the human soul is corrupted in a world of greed.  There is no place seemingly, for anything warm and fuzzy.  But this paradigm works, and in fact, has a proven ROI.  Sharon Allen writes in this article in Forbes that the world’s most ethical companies had a growth rate of more than double the S&P 500 over the past 5 years (the article is written in 2009).  This makes total sense to me.  Employees want to work in an environment that holds ethics as a strong pillar to their corporate culture.  And a highly engaged work force is shown to deliver higher ROI for investors, as described by Reese Haydon in this article.  I don’t often see much written about how a company is a good investment because they ranked high on a Hewitt engagement survey, and yet, this would be a powerful indicator on whether to invest in a company for the long term.

Another key component to my vote is around the product or service the company provides.  For me, I adopt Peter Lynch’s advice around the layman’s market research getting “one up on wallstreet”.  I tend to invest in the companies I interact with that I like.  I make a voting decision every day with my money on which companies I like when I consume their products or services.  When I have many good experiences repeatedly, they are a good candidate for an investment.  I know, for instance, that McDonald’s Restaurants is tireless in their pursuit of employee engagement and product excellence.  They are a natural choice for investment for me.  Google continues to innovate and I use many of their software products so I am constantly plugged into their work, so again, a natural choice.

No where in my decision to buy Google or McDonald’s is there any mention on charts, or PE multiples.  Of course, it is important to know the financial health of a stock, and how pricey the stock might be at a given time, and their growth prospects.  But, these might only help inform timing, and not the decision to invest.

I take my money personally, and hence I want to invest with a personal commitment to companies I want to be successful.  True, if you can time the market on it’s ups and downs, you might do better, but for me, it’s better to vote like it counts for something.

http://www.forbes.com/2009/07/21/business-culture-corporate-citizenship-leadership-ethics.html

http://www.decision-wise.com/blog/2013/06/10/show-me-the-money-the-roi-of-employee-engagement/

Building a SMART Portfolio

The objective for any portfolio or investment is to maximize returns.  With imperfect knowledge, we must put some guidelines in place to help keep us on track.  I decided to use the SMART objective methodology to craft my strategy.  A SMART objective, (see here for wikipedia) is SIMPLE, MEASURABLE, ATTAINABLE, RELEVANT, and TIMEBOUND.  

Simple (KISS)

This is the first criteria, and it might be the most important one.  It also has a lot of applications to what we are talking about, since not only must the goal be simple, but also the methods you use to achieve it. It is incredibly easy to make your portfolio complicated.  Keeping it simple is important, because otherwise you can get lost.  Believe me in this, because I got a bit lost once.  But now I’m found, and a little poorer for it.

So what does simple look like?  Since we are talking about making the goal simple, a goal for retirement could be to have enough saved so that you have enough to live on when you retire and are no longer making an income.  What does this look like?  This needs to be defined, and most people have no idea what their number is.  I actually do not know what mine is as I write this.  This means my portfolio does not have a proper goal, which is a problem.  How will I know if I have met my goal if I don’t have a target?  Not good.  A future blog article, for sure.

Re-evaluating your portfolio against this goal on an annual basis takes little time, but is critical.  This is a task that is as important as paying your mortgage, or taking out the garbage.  Yet, I don’t know anyone that talks about it, which likely means that most people don’t do this (including me).  Your financial planner would do this for you if you have one, but really this is a critical task that you need to understand yourself.  I’m only in my 30’s, so retirement is a ways off… but I need to do this as well because at some point I will have to sell my high risk stocks, and move the money into low risk stocks.  And then at some point I will have to sell my low risk stocks, and move it into bonds or cash or something even lower risk, like a loan to family (joke joke!).  The process of this evaluation is a good discipline to do each year.

Keeping your portfolio simple to meet your goal is also important, so you can easily track your progress (ie: MEASURABLE).  Keep the number of accounts you hold small if you can.  I have three government registered accounts which are tax favourable and support retirement.  I also have two non-registered accounts for trading in Canada or the US respectively.

You may also consider keeping the number of equities you hold small.  This will make it easier to track each company on how they are performing.  Simplest case, you can just hold an index to the S&P 500.  Indexes are good, and diversified, and are pretty much the same as mutual funds, without the MER.  You could also buy a single company stock straight up and hold it, but there are associated risks with putting all your eggs in one basket, and I would never advocate this over the long term.

Measurable

Measurable is pretty easy to understand, since you need to be able to measure your progress to your goal.  Mint.com is a great tool to use which I use, since it tracks your overall net worth across all your holdings, including real estate.  For stocks, there are lots of online portfolio management options like Google, Yahoo, or StockRover.  I have started to manage all my investing in MS Excel manually.

Attainable

Wouldn’t we all want to be a millionaire?  Well, most of us will have to be in order to survive at our current lifestyle.  Maybe the old expression now is, “wouldn’t we all want to be a billionaire”?  While this is a great goal, I know for me it is not attainable based on what I like to do with my life.  I’m not driven by money, I only want enough to be able to live comfortably.  While I haven’t calculated my magic number yet, it will probably be around $2 million so I can survive comfortably and support my family.

Even if $1 million is a crazy goal for you, never underestimate the power of goal setting.  It is the single most important activity to achieving success.  By having a clear number to work towards and measure yourself against, you will likely surprise yourself.  So, push for a higher number and see what happens over a couple decades.  Studies have shown this.

Relevant / Realistic

I see a lot of sites say the R is Realistic in SMART, but I always think that’s the same as Attainable.  Relevant, however, is pretty important.  Your goal has to be relevant to you, otherwise you won’t believe in it, you won’t care, and you will not have a good investment performance as a result.  I tend to select companies that are relevant to me in one way or another.  I like the idea of solar power, for instance, so I have purchased SPWR which aligns to my interest in this industry.  Many companies publish details on their impacts to their communities, their charitable contributions, etc. to entice shareholders interested in investing in ethical businesses.

Time-Bound

Retirement age is usually a fairly well-defined number for most people.  Having a date for when you must meet your objective will help guide your investment decisions.  If you have X dollars now in savings / investments and you need Y, then you must invest the difference between now and your deadline, minus the difference in terms of the gains you can expect to make.  This starts to get math heavy, so you may want to speak with a bank about it.  They are usually pretty good with helping on this stuff.

There you have it.  The SMART methodology for investing.  When I look at investing in a new company, I will reference the methodology outlined here as a component of my new investing discipline.  I hope you found it useful.

Trading Stocks: short term and leveraged pt 2

My last post last week was about trading a stock based on short intervals and “market insanity”.  I set a trade at a sell point that would allow me to break even based on the incurred costs associated with the trade, and the test was to see how long it would take for me to make my money back from the market.

I chose TELUS Corporation (T.TO) as my stock of choice.  My choice of stock actually was a poor one, since a key principle with this method is to pick a very stable stock.  While telco is normally very stable, Verizon is threatening to compete in Canada, which has had direct consequences to the TELUS stock.  The stock is down, and could go down much more if Verizon does come into the country.

That being said, despite this risk, the strategy still paid out.  My SELL order was executed this morning when the market pushed the Telus shares to my sell point of 32.20.  I made my initial investment back, plus 35$ more to cover the extra costs associated with the trade.

I made this purchase on Aug 22, and sold 6 calendar days later (4 business days), on Aug 28.

What is the learning from this exercise?  If you are new to trading, you can learn that with a disciplined analysis, you can minimize the fear associated with trading stocks on the market.  I didn’t lose my shirt here, and my money was only tied up a week.  I had a clear exit point where I earned the money that I wanted to earn.  This is a key element to short term trading that I like (but very different with holding something long term).  By setting the sell point, you know where you will exit to claim the money you want, and thereby avoid the perils of greed preventing you from selling when perhaps you should.

I doubled my money once on a stock, and waited for it to triple.  I still hold it, where it is now worth about 10% what I paid for it after it crashed.  You are never behind if you sell at a profit, but people fear missing out on the big win.

I’m going to continue this strategy during the course of this blog, and summarize the results in another page.  Until then, happy trading!

Trading Stocks: Short Term and Leveraged

On a previous post, I talked about trading for short term intervals, taking advantage of the micro-swings in a stock.  It’s time to get started.  I have $5,000 CAD that I am going to put into the market, which has been borrowed from a Line of Credit (LOC).

The rate for the LOC is pretty favourable, at 3.5%.  Monthly interest on $5k each month will therefore be $14.58.  My trading fees are fairly low at $9.99 a trade, which means that each buy and sell are costing me an additional $20.  Therefore, if I do one trade in a month, I must earn at least $35 for this buy / sell to come out ahead.

Let’s pause on that for a moment to consider the risks.  This is important if you are new to stock trading, and have no doubt heard how terrible an idea buying stocks short term on borrowed money is.  In the span of an entire month, if I bought at the beginning of the month, I have 4 weeks to be able to hit my sell point where the market value is only $35 higher than when I bought in order to break even.

Now, if you are new, or fairly young, then likely some of these numbers I’m quoting are out of your reach.  I happen to now enjoy some favourable rates from the bank due to some of the assets I have built up over time.  This means that perhaps your LOC interest rate might be more around 6 or 7%, or possibly higher.  Also, you may not have as favourable a fee in terms of cost per trade.  I used to pay $29 a trade, so don’t feel sad if that is you.  There are alternatives out there as well that offer cheaper rates which you might want to consider, instead of the big banks.  My friends in the US used to pay $6 a trade with eTrade, and I think they still do.  I envy my US friends sometimes.

Ok, now the first trade I’m going to make will be to simply break even, and see how long it takes for me to complete the trade in real time.  I’m going to go back to my original stock purchase for this test, TELUS Corporation, T.TO on the TSX.

The current price of T.TO at the time of this writing is 31.96, which means I can get about 156 shares of it with $5k.  Since I don’t want to make an odd-lot purchase, I will round down to a nice number of 150 shares.

[ … Trade being executed … ]

With the trade executed and 150 shares now in my account, now I will put in a sell order at a limit price such that I break even.  With my 150 shares, I need to make an additional $35 bucks, so with some simply division: $35 / 150 is $0.24.  This means that my 150 shares need to earn me an additional $0.24 per share to break even, which gives me my sell price: 31.96 + 0.24 is 32.20.  You will notice that I round up whenever required to ensure I land on the favourable side of the math.

[… Trade Order being entered …]

Ok, my sell price is entered in with a future expiry date of mid-september, approximately 4 weeks from today, at a limit price of 32.20.  I will report back when my sell order executes, and then we’ll do it again, with some higher expectations!

 

Short term trading and market insanity

In a previous blog, I wrote about using a leveraged strategy for short term trading. This is a quick article on how to best choose the stocks for this. In the strategy, we want to take advantage of the short up and down swings of a primarily stable stock. We aren’t looking for a fast mover here (in either direction).

Part of the success of this strategy relies on a principle that I call “market insanity”. There is a fundamental level of insanity in how the market values a stock that is irrespective of the actual value or fundamentals of a company. I know this from watching the value of my employer’s stock each day. It goes up and down every day, based on no news from our company on how we are doing. In fact, the value of the stock is very much influenced by many other companies, across many other sectors, across other markets or exchanges, in many other countries.

While these external factors influence the stock up or down, the average price in the long term tends to remain true to the fundamentals of the company. This is the mean around which the price will fluctuate. How news from Japan’s energy industry impacts Canada’s telecom industry is a mystery to me. However, because we know that it does, as does every other piece of news in the market, we can take advantage of this fact when the price deviates from the mean.

Market insanity will drive any stock up and down. The bigger the company, the smaller the ticks. The smaller the company, or the riskier the business, the greater the volatility you will see in the price swings.  Although, if the company is niche or small enough, it might be shielded from these external forces.  My preference for this strategy is to pick a stock conservatively, like telco or bank. The reason for this is the fundamentals never change. Everyone always needs a bank or a phone, and these sectors don’t change too much. That way you won’t likely get caught with your pants down by some bad news and get stuck with a loss based on fundamentals. If the stock does go way down, like during the financial crisis or some bad news about the company, you know that you have the option to hold because eventually the fundamentals will true up the price eventually.

Some good choices:
Verizon
TELUS
TD bank
McDonald’s
Coca cola
Etc.

There’s also a stock that I watch that is more volatile, FRC, which has larger swings, tho maybe not a good one for the ethical investor since it’s a fracking company. Smaller company and a riskier sector that I don’t really understand well. But short term and leveraged doesn’t really require intimate knowledge of a company’s fundamentals. You aren’t looking for long term, but more about how market insanity drives the price around a mean. But, stocks like FRC can get you trapped with a loss if you’re not careful.

Price of the stock is also a consideration, although really not a huge consideration. Really we re only looking for % changes around the mean. You then buy enough stock to achieve the gain you want.

So, to summarize, selection of the stock should be a conservative one whose fundamentals (and hence the average of its share price) won’t change too much. We then take advantage of market fluctuations for the small gains. Sectors like big consumer based industries, telco, or banking are good choices because not a lot happens very often.

My First Foray into Stocks: Short Term and Leveraged

It was about 2010 when I first started trading stocks directly.  I started to watch TELUS Communications Inc. closely as a good conservative choice.  There was a period of time over several months where I watched the price (around 35$) go up about 1$, and then down 1$, over each week. I started wondering what would happen if I bought when it was down, and then sell it each week after when it was back up. While each transaction would be a small gain, the aggregation of these gains would be significant.

I set out to get started. I went to my local bank branch and signed up for an online discount trading account. I also arranged for a line of credit to be opened, which would provide me with the money I needed to invest. The bank was generous and set me up with $35k in credit. The LOC was necessary because this was to be a pet project, and I did not want to use my own money to commit to this experiment. I got a favourable rate at 5.5%.

After about a month of getting the details sorted out, i was set up to go. It was an exciting thing to try out. Like in Rich Dad, Poor Dad, a big hurdle for me was getting over the fear of losing money. I bought 100 shares of TELUS Communications Inc. (TSE: T.A) by drawing money from my line of credit (LOC). When my purchase went through, I put a sell order in that was good for a future date at a higher price. About three days later, the stock price climbed to my sell order price limit, and the sell order was executed, and I made $100.

During that period of time I was absolutely terrified that I would somehow, magically, lose all the money I had invested. I watched google’s finance page almost the entire day, watching the stock tick up and down over time, as if this amount of attention constituted some sort of risk mitigation. When the stock sold it was such a relief and also very exhilarating. Somehow I had made money out of nothing.

I did this for a few more times, each time getting more bold. Since I was drawing from an LOC, I would take at first $5k, then $10k, and then even up to $20k. As I bought and sold each time with larger amounts, it took a much smaller price swing for me to make $100. Of course, the risk was that the stock might tank and then I would not hit my price limit. The biggest challenge or risk, however, was my own greed. Soon 100$ was not enough. Since I used limit orders to auto sell when my price point was hit, I would lose out on the bigger gains because I would sell too early. I stopped using limits so I could hold the stock longer through the larger upswings. But I also found that I would end up being invested in a stock longer and consequently incur more interest charges, and also get hit with bigger downswings.

The lesson is that when you have a strategy for an investment, you must stick to it. It is incredibly easy to change your strategy mid-stream, with less optimal results. It takes guts to fight back the fear, but also the equally strong monster of greed. The fear of missing out on a big payout is in many ways far stronger than the fear of losing. You need to keep a level head and play it by the numbers.

Next blog I will document more on the strategy I outlined here and put some of the numbers together on how it can pay you pretty decently on a fairly flat stock with market fluctuations around a mean.

Building Assets: Rich Dad

I think it was around 2010 when I read Rich Dad, Poor Dad, by Robert T. Kiyosaki. This was an amazing book to read! It’s three years later, and I recall two main points among the many chapters.

1) Fear of losing money is a major anchor to wealth (and happiness)

2) Assets pay you, and expenses cost you: the house where you live is an expense

The fear of losing money is a major impediment for most people. It is a risky thing to put it all on the line. I myself have been steeling myself for this, and even now, I am afraid to take a leap of faith to quit my job and try and work for myself. All the while, I am a firm believer in myself to earn good money with the skills I have all on my own.

In Robert’s book, he has an amazing parable of himself as a boy, learning from the Rich Dad about the emotional attachment to money. The one about himself as a boy at the convenience store, cleaning the floors. He figures out how to take discarded comics and create a library with them, earning a lot of money in the process. If you have a creative mind and are open to possibilities, you can create wealth. Money, fundamentally, is an abstract concept.

The other point that I enjoyed a lot is the counter-intuitive one about your house being a net expense. Assets pay you, expenses cost you. In order to live in your house, you must pay money into it. You pay into your mortgage and you pay bills and you pay to maintain the property. Nowhere in this equation do you see the house paying you back. Which makes sense. Everyone has to pay to live, because living is not free.

I have seen several people, including people close to me, buy a property to live in it because they didn’t want to waste their money on rent. This is a false comfort, because in fact they signed up for a significantly larger expense than simply renting. Without a significant downpayment, most homeowners pay a significant amount to the bank in interest. There are strata fees, taxes, maintenance, etc. Home ownership is a major expense.

My goal is to not necessarily be a Rich Dad, but instead balance my cash flows so my assets pay me the same value as my expenses.