Never lose money

We dislike being wrong and pride is one of the wrong reason for holding on to a losing trade. This is different perspective if you are a long-term investor.

Lose	Returns needed to  break even (%)
-5%	5.26
-10%	11.11
-15%	17.65
-20%	25
-30%	42.86
-40%	67
-50%	100
-60%	150
-70%	233
-80%	400

Investors who have a loss-adverse nature needs to execute a stop-loss rule early. A losing trade makes the fear of loss become unbearable, or an investor is forced to close a position which is leveraged. From a mathematical perspective, the bigger the loss, the higher returns needed to break even.

Bad reasons to own properties

There are lots of reasons to have your own property. You can live in it, it is relatively cheap to borrow money in today's terms, and you are paying your own mortgage instead of helping someone else.

However, there are other reasons why you should not own property.

1. “Property is the sure way to get rich”
Over the last few years because of super low-interest environment, the property price in Singapore has almost doubled. My mom bought her condo at $$520k and it is now priced at S$1,100k. Although I advocate strongly to allocate all the money in shares, I am guilty of owning an expensive piece of property in my context. In 2016, I bought an Executive Apartment (HDB) in Jurong East for $$760k. It is a silly and impulsive decision. I needed the space to accommodate my wife, baby, parents and a maid. I am betting that Jurong East will become the 2nd CBD in many years to come. I do not believe that owning a property is the sure way to get rich but a lot of my friends do. I just hope that it will not depreciate too much and I am able to sell at the same price which I bought at. Properties allow for leverage which is about 80% in Singapore. Leverage can amplify your return as well as your risk. Interest is not going to stay low forever, properties' price is like trees, it will not keep growing and touch the sky. 

2. “Property has rental income”
Collecting rental cheques is nice but there are lots of headaches that come along being a landlord. You need to continue the maintenance of the property, manage the tenant, pay the mortgage, pay for taxes and other expenses. The yields are lower than what you really think. 
Another way to earn a steady monthly income is by investing in dividend paying stocks, bonds or REITs (real estate investment trusts). You have to pay taxes on that income as well, but depending on where you live, it can be a much lower tax bracket than rental income.

There are also no maintenance fees, no late-night clogged-toilet calls to take care of, or “the power went out” texts to disturb you. And it’s a lot easier to sell a stock than it is to sell a rental property. You can often earn higher yields from these investments than from being a landlord.

The best reason to own property today is for diversification – to diversify your income and assets. But owning property isn’t the sure path to riches some claim it to be.

Investors' Most Common Behavorial Biases

Status Quo Bias

The investors been in a comfort zone will not be willing to do anything to change their present situation. For example, investors are willing to put their excess cash into a saving account and not willing to use them to invest in stocks and bonds as this results in a change to their present situation.

Status Quo Bias not only apply to investors, it can affect analysts as well. When there is new information in the market, the analysts need to re-evaluate their previous coverage which is tedious and takes time and effort. They will rather remain status quo which is the easy way out.

Framing

The investors did not have sufficient information, their vision is clouded and restricted. This framing will not allow the investors to have a helicopter view of the investing landscape. The investors will not be able to look for substitute products and obtain other information.

Investors tend to assess a product based on short-term investment period and did not analyse how long this situation will last and whether there are better alternatives. Investors tend to have home biasedness which is a view that local products are better than the rest of the world. For instance, a local investor will have a larger composition of Singapore shares in their portfolio. This perspective may limit their return and does not allow a better diversification with other products.

Availability Bias

Investors will be influenced by present information based on what they read and hear and not based on information such as fundamental analysis to analyse the situation. For instance, if the investors are bombarded by daily news of huge dip in stock prices, they will be frozen in their paths and not enter the market.  Warren Buffet quoted on "Be Fearful when Others are Greedy and Greedy when Others are Fearful", this is to remind investors not to follow the crowd and need to remain rational with an unbias vision.

Confirmation Bias

Investors tend to believe in what they want to believe in. For instance, when an investor is reading an analyst report, if he wants the share price to increase, he will look for information in the report which will support his belief. If he hopes that the share price will drop, he will look at the negative news to reinforce his belief.

Sunk Cost Error

When a particular stock is not performing and the investor is in the red with it, the investor may not have come to terms with this and change his focus to the next better opportunity. Investors should learn to cut loss and move on to the next opportunity . He should not be affected by the sunken cost. If the investor does not cut loss and switch to another opportunity, he can lose out on other opportunities which will more than make up for the loss.

Investors' Checklist

It is advisable for the investors to have a checklist to remain rational at all times.

• Collect information which is contradicting with your view => to help you be a contrarian
• Looking at your investment window, is your investment strategy affected by news in the market?
• Before you make a major decision, you need to ask yourself under normal circumstance what will you do?
• What is the reason to hold the stock when the price is dropping? Is it due to price or future potential earnings? Ask yourself, will you buy more of the shares now?
• Discipline is important, you need to monitor your personal balance sheet to understand what you can or cannot lose.

Seven Habits of Successful Investors

The seven habits of successful investors

Straits Times - A recent report from Allianz Global Investors on "The seven habits of successful investors" addresses concerns and problems commonly faced by retail investors. Here is an excerpt of the seven tips to guide you on your investment journey.

HABIT NO. 1: KNOW YOURSELF AND CHALLENGE YOUR INTENTIONS

Lessons learnt in behavioural finance repeatedly boil down to the one realisation: We still tend to demonstrate prehistoric behavioural patterns that cannot always be rationally explained.

For example, we often view the investment world in a frame, that is, we see what we want to see and may be excluding better alternatives as a result. We tend to follow the crowd or be driven by sentiments that push investors, particularly back and forth between fear and greed.

Aversion to losses is just as typical: We suffer more pain when we make a loss than we enjoy the same amount of gain. This can be dangerous if you leave all you have in a savings account as a result and, in doing so, forgo returns that you urgently need, or if you back off from realising losses and starting again.

"They're only losses on paper. I'll wait until share prices are back to where they were when I started and then sell," is a deceptive mindset.

HABIT NO. 2: YOUR INVESTMENT DECISIONS SHOULD BE GOVERNED BY "PURCHASING POWER PRESERVATION" RATHER THAN "SECURITY".

"Security" is often seen as synonymous with the absence of price fluctuations.

In seeking security, however, retail investors overlook the risk of losing purchasing power - which is even more unpleasant, considering that interest on savings is virtually zero currently.

If you want to preserve your capital, the minimum requirement for an investment should be "purchasing power preservation".

Let's assume you hide $100 under your pillow. Based on an inflation rate of just under 2 per cent each year, you will be able to purchase goods worth only just over $80 in 10 years' time. Or less than $70 after 20 years.

Seen this way, the biggest risk may be not taking any risk.

HABIT NO. 3: THE FUNDAMENTAL LAW OF CAPITAL INVESTMENT: GO FOR RISK PREMIUMS

Successful investors know that they cannot earn risk premiums without taking risks. The logical explanation: Investments in riskier assets should be justified with the expectation that those investments will generate higher returns over time than other investments with no risk exposure that thus offer less opportunity.

For instance, long historical time series which are available for the US equity market show that taking greater risks on equities has clearly been rewarded over the long term.

From a purchasing power perspective, equities have offered greater security than bonds.

HABIT NO. 4: INVEST, DON'T SPECULATE

Speculating is betting on price movements in the short term. Investing is putting your capital to work over the medium or longer term.

Take European equities for example: If you invested in a broadly diversified basket of European equities over the last 25 years, you earned nearly 8 per cent on average.

If you missed the 20 best days on the equity market - while waiting for better starting prices, for example - you gained less than 2 per cent.

If you missed the 40 best days, you actually incurred a loss of 2.3 per cent a year on average.

This example goes to show that the risk of missing the best days on the capital markets is extremely high.

HABIT NO. 5: MAKE A BINDING COMMITMENT

Investors have three options for making a binding commitment:

•Strategic/long-term aspects should govern allocation to the various asset classes. Decide on a strategic allocation between equities and bonds that suits your risk profile and use it to steer through turbulence in the capital markets. A good guideline for the right amount of exposure to equities in a portfolio is the rule of thumb "100 - age". So an investor who is 50 years old at present would allocate 50 per cent to equities. Building on this, individual adjustments can then be made.

•The general rule to follow is never to put all your eggs in one basket, so diversify. Historical evidence shows that what earned great returns one year quickly moved to the bottom of the pile one year later. Therefore, invest money broadly, combining equities with bonds - and maybe other segments as well. The "multi-asset" approach makes it possible.

•Invest regularly.

HABIT NO. 6: DON'T PUT OFF TILL TOMORROW WHAT YOU CAN DO TODAY

Billions of dollars are slumbering in savings and bank deposit accounts despite the fact that one of the key drivers of investment success is the compound interest effect.

For example, let's say an investor wants to have $100,000 at his disposal when he retires. If he starts very early and has 36 years to reach this goal, saving $50 each month is sufficient at an average return of 7.5 per cent. If he has only 12 years to go, he has to put aside $400 each month.

HABIT NO. 7: GO FOR ACTIVE MANAGEMENT

Anyone who opts for active management not only hopes the experts will earn him additional returns, but also exposes himself to less risk of the dead weight of one-time darlings of the equity market cluttering up his portfolio. After all, passive management maps yesterday's world.

Just think back to when the technology-media telecom bubble burst at the turn of the millennium, or the US housing crisis that had a particularly adverse impact on financial securities around 2008. It is better to counter-steer.

So investing may be easier than you think.

Don't put it off. Heed habit no. 6.

Stock Research Checklist - Inventory

In business, inventory is an important part of the process. After the manufacturing process is completed and the product is ready to market or sell to the customers, a business is left with inventory.

What is the inventory buildup?

As an investor, you need to calculate the inventory level as a percentage of sales and compare that with multiple year numbers. Suppose inventory grows faster than sales. That should raise a red flag because it means the sales growth rate is slowing. To reduce the inventory, the company needs to offer higher discounts on their products which will affect the bottom-line earnings of the company.

In the retail business, you need to pay special attention to the inventory levels compared with those of previous years. If the inventory grows faster than sales for a particular product, it means customers might have lost interest in that product. The company needs to improve the product or sell at fire sale prices to reduce the inventory.

Stock Research Checklist - Assets

Assets

Trying to identify companies that have hidden assets that are overlooked is beneficial because those stocks trade cheaper meaning you can get more reward by investing in them.

Does the Company Have Any Hidden Assets That Have Been Overlooked by Wall Street?

Sometimes, Wall Street does not recognize the value of those reserves and it misprices the securities. For those situations, you need to use the opportunity to buy the securities at discount prices. Established brand names are another form of hidden assets. Another form of hidden assets is real estate. When the land value appreciates over time, on balance sheet, those real estate investments might already been written off.

Does the Company Have a Low Percentage of Net Receivables?

The money owed to a company be customers is referred to as receivable. Net receivable means total receivables minus bad debt. If the company is in a sustainable competitive position, it should have fewer net receivables as a percentage of revenue because it can collect the receivables from the customers faster. On the other hand, if the company is in a competitive business, it can give more time to the customer to pay back the receivables in order to keep the customers happy.

If you see a high amount of net receivables as a percentage of the revenue, try to examine that company's situation carefully. If you see a sudden increase in receivables, that is a problem because the company's products may not be in great demand. The company needs to give more to dealers or distributors to pay back their invoices in order to stock their products.

Another thing you need to calculate is the rate of net-receivable growth compared to sales growth.

Does the Company Have More Pension Assets than Vested Benefits?

Certain companies provide pension and health benefits to their former employees after their service with the company. These  kinds of benefits improve the loyalty and retention of existing employees, which is great for the employees but not for the shareholders.

Nowadays tech companies and other service industries do not provide pension benefits. That is why their liabilities are less. Make sure the pension assets are higher than the vested benefits. When the company's pension assets are less than the vested benefits, the company needs to pay that difference which is a pure liability for the company.

Are Any Large Shareholders or Raiders Working to Uncover the Value of the Under Valued Asset Plays?

When you are looking at asset plays, there may be hidden assets in the company, but the market may value the business less than it is actually worth. The market might not be able to identify the hidden asset or assets that you identified. If you get into those asset plays, you might not be able to reap the benefits, because the market may take years to reflect the true value of the company.

Suppose a large shareholder or raider is working to uncover the value of the company, this can be a good thing. The shareholder or raider may engage in a legal battle or takeover war with the company. The board and management are pressured to act in order to unlock the value of the company. When that happens, as a fellow shareholder you can reap the benefits sooner and use the money to invest in other under-valued opportunities.

Stock Research Checklist - Dividend

If a business operates with stable cash flow and pays cash every quarter and the management does not have the opportunity to reinvest in the business, they can pay the dividend to the shareholders. If you are looking for income from your stock portfolio, you can select companies that pay conservative dividends and hold those stocks for the long term.

If You Are Buying the Stock for Dividend, Make Sure the Company Pays the Dividend Without Interruption and Has a History of Raising Dividends

When you are looking for good dividend companies to invest in, look for the following characteristics

• The company should be an established company and should produce stable cash flow for a long time
• The company should not have rejected or reduced its dividends at any time in its history. Businesses have to go through different economic cycles all the time-like economic expansions, slowdowns, recessions and depressions and the company should have survived in all the difficult economic cycles.
• If the company has a repeated history of repeatedly raising dividends, it is a great company to invest in for dividends.

For a higher dividend yield, dividend investors need to look for market sell-off to buy stock in dividend-paying companies.

What is the percentage of earnings paid as a dividend? Is it a small percentage of revenue?

They need to search for companies that pay out a smaller percentage of their revenue as dividends to the shareholders. This is because when the business goes through a hard time, it should have a cushion of earnings to meet the dividend payments. If not, it needs to cut the dividends to preserve cash to fight the downturn.

Payout Ratio = Dividend per share / Earnings per share as a percentage

The lower the payout ratio the better. If the payout is 80 to 90 percent, that is dangerous because there is 10 to 20 percent cushion available. When a business goes through a recessionary economic cycle, business earnings might decrease more than 20 percent. The dividends need to be cut. This is a double whammy, the stock price and dividends are hammered.

Stock Research Checklist - Management

When you are dealing with fast growing companies, pay special attention to how the business has been growing recently and what plans the management has in place to grow the business in the future.

What is the Company's Growth Recently? What Plans does Management Have to Grow the Business?

As an investor, you need to look for companies that are growing slowly and steadily. If companies use the company cash flow to fund their expansion, then that is great. If company uses moderate debt, that is also acceptable. When a business expands slowly, it can execute its plan methodically. Slow and steady companies generate great shareholder returns over the long term.

Does the Company have Related Party Transactions with the Family Members of the Senior Management or Board of Directors?

You need to research at least three or four years of annual reports to research any related party transactions. If the company is doing business with any of the company's senior management or relatives who are involved in other companies, you need to avoid this company. When relative companies act as suppliers, they are likely paid top dollar for their products or services. That will affect the profit margin of the company, and in turn, decrease the share price of the stock. If the number of pages allocated to related party transactions increase every year, be cautious and need to dig deeper.

Another point to examine is whether the company is lending any money to senior management or directors. If the answer is yes, you need to sell that stock so that you can avoid losing money.

Are you able to understand the footnotes of the Company's Financial Statements?

When you are reading the financial statements of prospective companies, be sure to read the footnotes. If you are reasonably good at reading financial statements, you should be able to understand the footnotes. If you are not able to understand them because they do not want you to, move on to another company.

Is the Management Candid in its Performance Reporting?

If management only trumpets successes or tries to hide poor results, that will give you an idea about their openness. You need to find a company where the shareholders are treated like owners. If management treat shareholders as owners, they will talk about positives and negatives openly.

Does Management Deliver What it Promises?

When you are researching companies, you need to find out if management has delivered what they have promised in previous years such as:

• Future earnings outlook
• Company profitability plan
• Setting target growth rate of the companies
• What they want to achieve in five years

Stock Research Checklist - Capital Investment

Return on Asset = Net Income / Total Asset

Total asset consist of debt and equity. This percentage gives the percentage of net income generated for the money invested which includes both debt and equity capital. As long as ROA is high, company shareholders will be greatly rewarded.

What is the Company's ROA for the last 10 years? Is it growing constantly or at least maintaining an average ROA for the last 10 years?

You need to compare the ROA with competitors in the same industry. As an investor, you need to identify which industries are offering a higher ROA.

Does the Company have consistent ROIC numbers?

Here is the formula to calculate the Return on Invested Capital

ROIC = (Net Income - Dividends) / Total Capital

Total capital includes long-term debt and common and preferred shares. The higher the ROIC, the better it is for the investors. If the ROIC is very high, it means management is doing a great job of allocating capital profitably.

Does the Company need to spend large amount of money as a capital expenditure to stay competitive?

You should examine capital expenditures over time. If a company is spending large amounts of revenue as a capital expenditure, then it is not a great business. If a company is not spending large amounts of money, it is unlikely that it can be competitive in its industry. This applies to manufacturing and auto industries.

After capital expenditures, there will be less money available for other good things to increase shareholder value, such as expanding the business, buying back shares, acquiring other businesses and paying dividends. If a company is spending large portions of its revenue for capital expenditures, it will be difficult to spend money to increase shareholder value over time.

What is the Company's Investing Strategy? Is the Company Investing in its Area of Expertise?

When a company earns income for its owners every year and increases that income, the cash is going to pile up. You need to find out what a company is doing with that cash. When a company tries to invest those earnings back into growth, you need to identify where it is sinking its investment dollars. If its strategy is growing through acquisition, you need to find out how the company management plans on acquiring companies. Is the business that management hopes to acquire related to existing business, or is it a totally different business?

You need to also examine whether or not a company invests in its area of expertise. This is important. If a company tries to buy totally different kinds of business and then tries to integrate the new companies, this is a bad move.

What percentage of revenue is spent on Research and Development?

R&D is an important task for most business because it allows the business to invent new products, upgrade existing products, increase efficiency, and decrease production costs.

R&D is very important task for technology companies. If technology companies do not invent new products all the time, competitors can kill them and take their market share. Investing a certain percentage of revenue in R&D is important for a company's growth. Spending alone does not increase the revenue of the company. You need to identify how effective the current management is at generating returns on their investments. They have to generate a good return on their investment.

Compare similar companies in the same industry and their previous new product inventions and the revenue generated from those products. If the company is not introducing new products all the time, it is in danger of losing revenue. When you are looking at a company, pay special attention to find out how effectively its previous R&D activities delivered revenue. If you find a company that does have R&D expenses and has also grown more than 15 percent for the last five years then you have found a good company and do research from there.

Stock Research Checklist - Profit Margin

Net profit margin is a percentage in terms of how much net profit is generated from each dollar of revenue.

Net profit margin = Net income / Revenue x 100

If a company increases its earnings, that is good. The next thing you need to identify is whether or not a company can maintain that profit margin. A company can increase revenue and earnings by undercutting the competitors , but that is not profitable for the shareholders. The company cannot do that for the long term.

What is the Company's Net Profit Margin for the Last 10 Years? Does the Company generate a Consistent Upward-Trend Profit Margin or at least maintain an average profit margin?

What is the Company's Gross Profit Margin for the Last 10 Years? Does it consistently grow, or at least maintain an average rate?

A gross profit is how much money is left after the cost of goods sold is subtracted from the revenue numbers.

Gross Profit = Revenue - Cost of Goods sold

Gross Profit Margin = Gross Profit / Revenue

Inventors need to look for companies with higher gross profit margins. Sustainable competitive businesses have a higher percentage of gross margins when compared with competitive industry companies.

Does the Company have a high pretax profit margin?

Pretax income is calculated after interest expenses,and deducted from the earnings before interest and taxes and before income taxes are paid. Calculate pretax income will give you the true picture. Always look for companies with high pretax profit margins. When a company posts a higher pretax profit margin, it can invest that income for business expansion, acquiring new businesses, paying dividends, or buying back shares.

Stock Research Checklist - Equity

Return on Equity is how much profit the company is generating with the shareholder's money. As a shareholder, you can earn lot of money over time with a company that has a high ROE.

What is the Company's ROE for the last 10 years? Does it trend upward?

ROE = Net Income / Share Holder's equity

In EPS, management can do financial engineering to increase the figure over time, without increasing the earnings. If they buy back shares, which causes the EPS to increase. Buying back shares is a good thing for the company and shareholders but the intention to increase the EPS is not good enough. If the company uses more debt, it can generate a higher ROE. Generating a high return on equity with reasonable debt is a good thing.

Does the Company have more equity when compared with Long Term Debt?

Debt-to-equity ratio is one of the most important figures to examine. You need to look for companies with more equity than debt. That kind of company has a strong balance sheet, and investors do not need to worry about leverage problems. This kind of company makes more money for long-term shareholders.

When a company has more debt than equity, especially when the economy starts to slow, the company may feel financial pressure to make the interest payments or run the risk of violating the financial covenants. Situations like that quickly reduce stock prices, and long term shareholder values can be destroyed in short period of time. When a company uses leverage, it can generate more revenue and that revenue flows to the bottom line as earnings. If those extra earnings are sufficient enough to service the debt, pay down the principal debt balance and also add more earnings to the company, that is good.

If company has enough cash to cover the short-term debt, we can omit the short-term debt and use the long-term debt as the debt for calculations . Debt and equity ratio varies for different industries.

Stock Research Checklist - Debt

Debt
Debt is an important part of business. If it manageable debt, then it is acceptable. If the debt load is very high, it will be very hard for that business to succeed, sometimes the company will even end up in bankruptcy. The investors will end up losing all their money. Some industries are capital intensive, they have to use debt to finance their capital investment apart from equity capital. For example, industrial and manufacturing companies need to invest large amounts of money for factories in order to keep them up to date.

Does the Company have Manageable Debt?

If you find a capital intensive business at a bargain price. Here you can compare that company's debt level with a direct competitor. If the company can pay off total debt with five years of net income, then that should be a manageable debt. Find out when the current debt is coming due. If any debt is due within a couple of years, what kind of plan does the company have to pay off that loan? When the company has debt as a bond, it is less risk to the company. Long term bonds are a good kind of debt to have.

The economy goes through life cycles: recessions, recoveries and boom periods. If a company loads up on too much debt during boom years, it can generate a higher revenue and be able to service debt. When it enters into a recession, it will be hard to cut costs and reduce the debt as fast as the revenue decreases. It will be hard to handle the debt when the recession period starts.

Does the Company have Manageable Short-Term Debt?

Short-term debt translates into whatever debt a company needs to pay before one year. It appears on a balance sheet's current liabilities. This may be interest that needs to be paid on long-term debt. If any debt comes due, the company should have money to cover that debt. The company should have cash and cash equivalents, short-term investments, accounts receivables, hidden assets and cash flow numbers to pay the short-term debt. If the company does not have enough cash to cover that short-term debt, do not even look at the company because it may a sinking ship.

What is the Company's Current Ratio?

Current ratio helps you to find out whether or not a company has the ability to pay current obligations.

The formula of Current Ratio = Current Assets / Current Liabilities

What is the Company's Long Term Debt? Is it Manageable?

As a first choice, investors should look for companies that do not have long term debt. The companies may not have long term debt for any of the following reasons.

1. The company is operating in an industry where it does not need to spend a lot of money on capital expenditures.
2. Search for these kinds of companies because they can create more shareholder value over the long term. There is no risk of default because they have no longer term debt. Plus, company earnings are not reduced because of interest payments on long term debt.
3. The company may be in a sustainable competitive position to earn a higher profit and, in turn, generate a higher cash flow every year. Management can fund the growth of the company from existing cash flow rather than relying on debt. This kind of business is good and generates higher shareholder value over the long term.
4. When the input costs increase, sustainable-competitive-position companies can raise the prices and still maintain a decent profit. That is, management can expand the company via internal growth and spend capital expenditures from company profits rather than depending on debt. Companies like this can generate excellent value for shareholders over the long term. If you can identify companies with no long-term debt and a competitive position at attractive pricing, you should invest and hold those companies for the long term to generate a great return.

Reasonable debt means the company is able to repay the whole long-term debt within four or five years of net income. The best kind of debt is in corporate bonds with long term maturities and low interest rates. Investors cannot demand the principal payments immediately and also management can defer the interest payments.

Does the Company Pay Little or Not Interest Expense?

Durable, competitive companies pay little or no interest expenses for their short and long term debt. If a company does not spend money on its interest expense, this is good because it is a zero debt company. Reasonable amount of interest expense is acceptable, need to find out what percentage of operating income is spent as an interest expense. Determine whether this is consistent percentage or going down. If it is going up, this is a bad sign.

Does the Company have Preferred Shares?

Preferred shareholders have a higher claim on the capital structure of the company. They get paid a fixed dividend and have conversion rights to common stocks. If the company is in liquidation, preferred stockholders will have claim before the common stockholders get paid. This form of preferred stock is a costly form of debt because the company needs to pay the interest and have an equity appreciation potential for the preferred stockholders.

Stock Research Checklist - Earnings

Examine Earnings Growth 

Earnings Per Share (EPS) = Company Net Income / Number of Shares Outstanding

When you are using the number of outstanding shares, use the fully diluted shares instead of outstanding shares)

Here is the calculation to get the EPS growth rate

FV = Future EPS value

PV = Current EPS value

N = Number of years

As an investor, you need to question the reason when the earnings drop. Does the company have a temporary problem or is it going to produce reduced earning s in the company years? You need to read the annual and quarterly reports, listen to the company's conference calls, you will be able to find the reason for the revenue and earnings decrease. Always look for consistent earnings growth from a company so that you can reasonably predict the future earnings of the company.

How Does the Company Use the Retained Earnings? Do the Retained Earnings Reflect in the Stock Price?

When the management of a company invests earnings back into the business, that investment should yield a higher return because of retained earnings. When the management does a great job using retained earnings, it will increase the earnings of the company and in turn, increase the earnings per share.

Market price does not reflect the true value of the company in the short term. If you are looking at 10 years or more, market price will reflect the true value.

What are the Company's Owner Earnings for the Past 10 years? Does It Grow Consistently?

"Owner Earnings" are the earnings the owner can keep after the capital expenditure. The formula to calculate the owner earnings

Owner Earnings = Net Income + Depreciation & Amortization - Capital Expenditure

If the owner income trend increases over time, you can project the approximate owner income for the future. The number is not perfect.

What is the Company's Recent Earning Momentum? Is it Comparable to Its Long Term Growth Rate?

An investor's portfolio should contain some percentage of large capt stocks. When the market is in a downturn, these established company stocks go down less when compared with small or mid cap stocks. When you are researching established companies to invest in, one of the important tasks is to find out if a company's earning momentum matches with its long term growth rate. When the company is small, its growth rate may be very high. It grows very fast and reaches mid-cap status. When a company is a large cap, its growth rate may not be as high as small and mid cap growth but there will still be growth. The growth may be through internal expansion like expanding to new parts of the world, introducing new products, or entering new markets. The other part of expansion is through acquisition.

When you are researching a company, you need to find out if the company's growth rate in recent years matches with its long term growth rate. If the company keeps earning momentum, that is great and the company has passed this checklist item.

Does the Company have any One-Time Event that Recently Increased Earnings?

When you are analyzing a company's stocks, you need to find out if there were any one-time event that increased the company's earnings recently. If there are one-time events, you need to remove those earnings from your calculation of historic earnings so you can project the earnings conservatively. One time events could be a sale of asset and a big order from a particular customer.

What is the Company's "Operating Cash Flow"? Does It Grow at a Constant Rate?

Operating Cash Flow is cash generated from the company's operations. Cash flow numbers are calculated from net income, depreciation and adjustments to net income, changes in accounts receivable, changes in liabilities, changes in inventories, and changes in other operating activities. Cash Flow should be positive.

How has the Business Performed in Previous Recessions?

All companies need to perform in all business conditions. When the economy is on upswing, all businesses do very well. But you need to identify the company that has done better when the economy is in a state of recession, that company is the real winner.

Does the Company have Client Concentration?

Investors need to analyze the company's client base. Suppose the business is earning more than 10 percent to 20 percent of the earnings derived from the particular customer, that is a disadvantage.

1. The end customer can demand price reductions, which will affect the profit margin of the company because the big customer knows that the company relies on them heavily.
2. If the end customer's business depreciates , your company revenue will also come down which is not a good thing.
3. If that customer cancels the contract, there will be a big hit to the company's earnings.

Stock Research Checklist – Business Characteristics

Are you able to understand the Business Thoroughly? Is it a Simple Business?

What are the company products? How does the company generate revenue? How is the company market its goods and services? What is the competitive landscape of the business? Do you understand the business life cycle?

Companies that are involved in simple type of business tend to perform better in the long run. Business in the high tech industries where product life cycles are short, if they do not innovate the next product before end of its current cycle, it risk compromising its revenue and earnings.

We mentioned previously about business moat, there are two different types of businesses, one is difficult to replicate and other is a commodity type business. Hard to replicate business will have strong brand name, patents, and asset intensive which gives a competitive advantage. Commodity type business produce products with no difference from competitors's products. Commodity type business needs to be the lowest cost producer to fight the price war and it needs to be the largest size to demand best rates from its suppliers and distributors to compete on prices.

A non exciting industry can enjoy higher margin as lesser competition enters the arena and the company is able to build its market share over time, creating a moat to fend off later entrants. Not many entrepreneurs will like to enter non exciting industry. Young people like to run tech start ups rather than engage on a lumber business which can enjoy high margin.

Dirty type of business will not have new competitors entering the market will enjoy strong margin. For instance, waste management, cleaning services, and funeral business.

If the business has a chain of companies, is it successful in multiple locations before expanding nationally? IF you get into any of the successful chains in an initial period and hold the shares until they open for business across the nation, you can make tremendous amount of money. These types of national chain companies are available in retail companies.

Invest now

Invest Now

Most people wait until they are in their thirties, forties and fifties to start saving money. They realise that they are not getting any younger and will require additional money for retirement. The trouble is, by the time they realise they ought to be investing, they have lost valuable years when stocks could have helped them with their goals. Their money will have accumulated over the years through investing.

Instead, they spend what they have as if there is no tomorrow. Many expenses are inevitable, you name it, children to support, aging parents to support, doctor bills, enrichment fees for the children, insurance bills, household expenses, etc. If there is nothing much left over, there is not much they can do about it. But often enough, there is something left and they are not using them to invest. They use it to pay for fancy restaurants dinner and drinks or make the down payment on the fanciful car in the showroom.

Before they know it, they are heading into the sunset with pennies in their pockets. They have to squeeze themselves into a tight budget at the time they are supposed to enjoy life.

One of the best ways to avoid this fate is to begin saving money as early as possible, while you are living at home. When else are your expenses going to be this low? You have no children to feed and your parents are probably feeding you. If they don't make you pay the rent, so much the better, because if you have got a job you can sink the proceeds into investments that will pay off in the future.

Whether it is ten dollars a month, one hundred dollars a month or five hundred dollars a month, save whatever amount you can afford, on a regular basis.

We hope that young people will not fall into familiar trap of buying an expensive car. As soon as they land the first stable job, they become slaves to the car payments. A car robs you of free cash flow for investment, you will need to incur interest charges, road tax and fees (ERP in Singapore), insurance premiums, petrol and maintenance. So do not be deceived by the face value of the car at the showroom, there is alot of hidden cost and opportunity cost. For illustration, base on 2016 Singapore context, if you buy a car (say Toyota cost $100,000 with COE) for the next 10 years, you will have incur a total of approximate $160,000 for all miscellaneous cost mentioned earlier. Assume there is no scrap value here. $160,000 invested over the ten years, assuming $16,000 per annum with 5% (conservative) yield will amount to a considerable sum of money! Unless you can use the car to make money, then it will be a different consideration. We are looking at the numbers and not considering the intangible benefits which you derive from owning a car.

Putting Your Money to Work

Money is a great friend, once you send it off to work, it puts extra cash into your pocket without your having to lift a finger. If you invest $500 a year in stocks, the money gets a chance to do you a big favour while you are living your life. On average, you will double your money every seven to eight years if you leave it in stock. A lot of smart investors have learned to take advantage of this and they realize their capital is as important as their own labour.

If you start saving and investing early enough, you will get to a point where your money is supporting you. This is what most people hope for a chance to have financial independence where they are free to go places and do what they want, while their money stays home and goes to work. But it will never happen unless you get in the habit of saving and investing and putting aside a certain amount every month, at a young age.

The A-plus situation is when you are saving and investing a portion of your paycheck. The C-minus situation is when you are spending the whole thing. The F situation is where you are ringing up charges on your credit cards and running up a tab. Then that happens you are paying interest to somebody else, usually a credit card company. Instead of your money making money, the company's money is making money on you. The credit card companies love it when you buy things with the card and don't pay the entire bill straight away. They charge you a high interest as much as 24% which gives them a better return from your pocket then they could ever expect to get from the stock market. In other words, to a credit card company, you are a better investment than a stock.

People are buying things when they don't have the cash to pay. Instant gratification, and shoppers pay a high price. They read the ads and go into different websites to find the best deal for a new toy (TV, shoes, watches, bags, etc) to save themselves a few bucks then charge it on credit card, when may end up costing them an extra few hundred. They do so willingly without thinking about it.

In the past, people felt great pride when they worked hard and made certain sacrifices in order to pay for something all at once. Don't allow yourself to get into the F situation. It is ok to pay interest on a house which may increase in price but not on cars, appliances, clothes or bags which are worth less and less as you use them.

Moats in Investing

Keeping Competitors Out

Warren Buffett says," A truly great business must have an enduring "moat" that protects excellent returns on invested capital.

A company needs to do something very well in order to grow their business profitably. A moat protects a business from its competitors. It is a durable competitive advantage which keeps competitors away from the company's customers. Pat Dorsey who used to head the Morningstar is a firm advocate of moat, he feels that it is better to pay more for something which is more durable from appliances to cars to houses, items which last longer will be more expensive. The same theory applies to stock investing.

Branding

Branding is one of the most important aspects of any business, large or small, retail or B2B. An effective brand strategy gives you a major edge in increasingly competitive markets. Branding helps to build mind shares in consumers which is defined as the amount of space the company occupies in customers' minds. Tiffany has a moat. People pay alot for the box when the jewelry will be cheaper somewhere else. Coca Cola has a strong branding, the brand value in 2015 is said to be worth $83.84 billion.

Cost a lot to switch

There is not much of a competitive advantage bank has over others, their products are similar. With internet banking, branch locations has lesser impact than before. However, consumers tend to stay with one bank for average six to seven years as it is troublesome to change banks. When switching cost is high, there is a moat. Previously, iphone users would not use android phones as it was difficult to copy their contact list over to other phone and the apps are different. That was a moat. However, with more intelligent phones entering the market, the moat of iphone is slowing eroded.

Network Effects

The more users of the product, the more they will enjoy the network effects. Think Facebook, Twitter and Youtube. It is very difficult for competitors to penetrate a network moat.

Low Cost Producers & Sheer Size

Walmart has a moat. With economies of scale, Walmart can sell its products cheaper than competitors, ask for longer credit terms from suppliers which improves the cashflow while getting paid immediately from the customers. Larger companies can cement their advantages and sustain returns for longer by been more efficient in SG&A than smaller companies.

Erosion of moat

Moat is not permanent, competitors will figure out a way to acquire market shares and erode the competitive advantage. Industry stability is another factor in determining the durability of the moat. Stable industries can create sustainable value creation whereas unstable industries present substantial competitive challenges and opportunities.

Conclusion

You need to look for companies with consistent strong growth of net profit margin, this will indicate that the company has a moat. Then you need to consider what sort of competitive advantage it has and how its competitors can erode this. You can also consider the entire supply chain and where the profits flow to. This will reinforce whether the company has true moat.

Low Interest Rates Dilemma

Low interest rates will create a dilemma. Will you accept a low return in order to protect your principal? Will you take on higher risk to achieve higher return?

Pay attention to costs

In a low interest environment, investing expenses will have a larger impact in eroding your gain. For example, a mutual fund with an expense ratio of 1% of net asset value each year which uses the expense for marketing and paying the employees. This 1% will have a big bite into your return if your return is only 3% than if the return is at 10%. At 10% of return, it is only 1% of your gain. At 3%, a third of your return goes to expenses. Prior to investing in a mutual fund, consider all fees and expenses as well as its risks which will be highlighted in the fund prospectus. Digest the fund prospectus because it is your money.

Real Return

If inflation is low, even when you are earning based on low interest rate, your real return will not suffer. Real return is what your money earns after taking inflation into account. Based on 2015 Singapore's inflation rate which is exceptionally low, the real return should produce the same return during high inflation years.

Own dividend paying stocks

You should not just buy highest yielding stocks for dividends alone because high yield stocks will have a certain level of risk. However, as part of portfolio management, you need to have some defenders which we will recommend the blue chip stocks with a yield of 4% and above.

Buy high-yield debt

High yield debt is also known as "junk" bonds. There is a reason why they are called junk because you are buying debts of companies which are on the brink of insolvency or with credit issues. You need a high return to justify for the high risk and bet that the companies can survive long enough to pay back your principal. Alternatively, you can consider owning a slice of this junk bond market through an ETF can serve good way to increase your dividend yield as part of your overall investment portfolio.

Invest in foreign stocks and bonds

Foreign companies and governments present the same credit issues and challenges. You need to analyse before parting your money. Speak to us if you require assistance to construct a suitable portfolio based on your risk appetite. All investing strategy will require you to measure your ability to suffer loss in a downturn. You need to question what are the factors which can blindside your judgement, taking into consideration low interest rates and rising inflation.