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Advice for a new stockpicker
Old 10-24-2010, 02:16 PM   #1
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Advice for a new stockpicker

I am relatively new to the world of buying/selling individual securities. Recently I have spent some time reading some investing books (Ben Graham's Intelligent Investor, Ken Fisher's Common Stocks and Uncommon Profits, and Peter Lynch's One Up on Wall Street). These books have inspired me to try investing in individual securities.

Let me preface everything else by saying that I am by no means placing all my savings or retirement savings in my ability to pick individual securities. My 401k, IRA, and some of my savings are already in index funds or mutual funds. The money I would be using to pick stocks would be savings above and beyond that. I realize it would be foolish to pick stocks with all of my savings. However, I do think I can have success doing so.

So ultimately I am looking for advice from anyone who buys and sells individual securities. I am by no means looking to day trade, and ultimately am looking for securities to by and hold for long periods of time. What resources would you recommend? Any approaches that have worked for you? I am curious to hear what experiences others have had with individual securities.
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Old 10-24-2010, 03:43 PM   #2
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May I ask why? What do you hope to gain by being a stockpicker?
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Old 10-24-2010, 03:49 PM   #3
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In all honesty I hope to potentially generate than by simply investing in index funds in mutual funds. Plus, I enjoy the analytical side of analyzing a company, it's performance, controls, management, and systems it has in place as an organization, and how it stacks up against competitors and its industry as a whole. .

That said, I am only looking to do this with a small portion of my disposable income due to the risks. It is certainly (at this time) not my primary method of investment.
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Old 10-24-2010, 07:06 PM   #4
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Well, as long as you are just using play money, have fun. You are attempting to beat the full-time investment pros at their own game. It is possible to do so, but not as easy as people selling books would lead you to believe. I personally do not play this game anymore, but I do remember it was fun picking up the loose change before the one time the steam roller got me. My suggestion would be to look for companies too small to have much of an analyst following, but which might grow explosively and then attract other investors. You will need explosive growth to make much difference in your overall portfolio, or else you are playing with too much of your money.
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Old 10-24-2010, 10:21 PM   #5
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Originally Posted by Klubbie View Post
In all honesty I hope to potentially generate than by simply investing in index funds in mutual funds. Plus, I enjoy the analytical side of analyzing a company, it's performance, controls, management, and systems it has in place as an organization, and how it stacks up against competitors and its industry as a whole. .
That said, I am only looking to do this with a small portion of my disposable income due to the risks. It is certainly (at this time) not my primary method of investment.
You may find out that you're hardwired like Warren Buffett, but even then you generally get out of stockpicking the amount of effort you put into it. It's a very testosterone poisoning educational experience if you can limit yourself to 10-15% of your portfolio and give yourself at least five years (ideally including a bear market) to assess your results.

With a value-investing tilt, you could read websites like GuruFocus.com or The Rational Walk. Whitney Tilson is another big Berkshire fan. Tweedy, Browne has a good website archive on stockpicking topics and Chris Browne wrote "The Little Book of Value Investing", although their mutual fund is too expensive to be worth their returns. I'd also recommend that you read Bernstein's "Efficient Frontier" website for a contrary view on stockpicking.

You might want to spend more of your time on investor psychology than on picking stocks. Gilovich's "Why Smart People Make Big Money Mistakes", Ellis' "Winning the Loser's Game", and Milevsky's "Are You A Stock or A Bond", and Munger's "Poor Charlie's Almanack" will give you more insights into your investing skills than most stockpicker's guides. I also highly recommend Schroeder's "Snowball" biography of Buffett for its investor psychology insights. Her blog also has a wealth of material on analyzing companies.

If you haven't already done so then you should also learn the financial accounting skills that you'll need to do a decent job of analyzing a company's quarterly/annual reports. If you're not willing to invest the time/effort that it takes to do this, and to later build a spreadsheet model of a company's revenues, then you're just wasting your time picking stocks. I don't have a specific textbook recommendation but there are probably titles like "Corporate Accounting for Dummies". Ravi's "Rational Walk" blog may also have more info on accounting texts.

The issue is not whether you can make more money by picking stocks than by index funds. You can eventually learn to do that. The issues are whether you're willing to accept the higher volatility and the effort required to keep up with the grunt work. It takes immense discipline and confidence earned only through diligent (constant) research and continuing education. Most people choose to have index funds and a life. After 10 years, that's mostly the decision I've arrived at, although I've been sorely tempted by a few value traps.
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Old 10-24-2010, 10:41 PM   #6
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I found that "Value Line" (available in many libraries) was a good place to identify solid stocks, with 10-15 years of history of earnings, dividends, financial strength, etc. From here I made up my initial lists of stocks to follow. The list changes over the years due to takeovers, bad capital decisions, companies losing their way, etc.

I have been investing in individual stocks since 1993 (I am now 52, retired in 2006). I closely follow about 30 companies that meet my criteria (solid financials, long history of decent dividend and earnings growth, management that does not make bad IMO capital allocation decisions) and stay 100% invested in the 5-15 stocks that I considered the best values at the moment. By focusing on the companies and not stock prices (except to rotate into a better value off of the stock list), I sleep well at night even in the steepest of market declines.
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Old 10-25-2010, 06:07 AM   #7
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If you limit this to 10% of your port, you should be OK.

First, pick up a graduate/MBA textbook on corporate finance (I like the seminal text by Brealey and Myers) and an accounting/financial sttatement analysis textbook. Read them. If you do not understand what you have read, hang up your spurs.

Second, get a book or two on behavioral finance. That will help you understand the mental traps even experienced/pro investors fall into and how to mitigate them.

Then start with simple situations, like a low leverage company in one or two lines of business. Treat it as a test case. Really tear the company apart. Understand its products, markets, customer, suppliers and competitors. Build a cashflow forecast model and derive a valuation for the company vs. Market price. A text by Prof. Aswath Damodaran may be helpful in doing valuation work. Then try to pick companies selling for a lot less than they are worth.

One other suggestion: try investing in individual bonds first, especially junk. The analysis you have to do is similar, but the margin of eroor is a lot bigger. With a bond, all you have to do is figure out if a company can pay interest and roll its paper when the time comes. This is much easier to figure out than the navel-gazing exercise of what an equity could be worth.
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Old 10-25-2010, 06:52 PM   #8
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I appreciate the insights on here. I recently graduated from an MBA program with a finance concentration and was most drawn to the equity analysis and asset management courses (vs. corporate finance courses) due to the analysis involved in dissecting a company's financial statements and trying to "read between the lines" so to speak when it comes to making sense of MD&A, proxy statements, and footnotes.

Some of the resources everyone has mentioned seem interesting, and ones that I have not been made aware of in the past. I have been meaning to read more about investor psychology/behavioral finance, as that's an area of investment that, in my opinion, appears to be absolutely key to having any success in investing in individual stocks.

As for my overall investment strategy, I am planning to initially invest in only a few stocks (5 tops) with a small percentage of my overall portfolio as I mentioned above. The reason for this is two-fold. One, I realize I am treading into uncharted waters (instead of just purchasing an index fund), but I also want to make sure that I am putting adequate time into the research and modeling aspect of the stocks I pick.

So again, thanks for the insight. Some great resources and advice here.
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Old 10-31-2010, 11:46 AM   #9
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I did this with some "play money". It was $1700 in a IRA rollover from a company 401K plan. In 6 years I have grown it to $45,000 by picking individual stocks using a pretty simple plan. I would look at the holdings of a Vanguard mutual fund holding (like VGHCX for example) and pick the stock that was down the most for the year. I would then buy this stock and hold it until it had made a 10% gain, then I would sell it and switch to another sector. My silly theory was that Vanguard has probably done the research to figure out that stock was a decent long term performer and it was currently depressed in price due to some market manipulations or temporary conditions (I would always check to make sure it was a stable company first before investing). So far it has worked pretty well, as $1700 to $45,000 in 6 years is a fairly good return.
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Old 10-31-2010, 12:17 PM   #10
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After completing an MBA I started a small "play" portfolio with TD Waterhouse and I do exactly what you are planning to do. While my financial rewards have not been anything like those of 79protons (well done by the way!) I enjoy doing the background research. It also keeps me familiar with what is happening in my other funds. The TDW site has tons of information on markets, industries and corporations. I also use Welcome to the SEDAR Web Site / Bienvenue au Site Web SEDAR and globeinvestor to access company documents. Since I'm in Canada, your information sources may vary. Currently my play portfolio has 9 Canadian and 2 US stocks, mostly dividend producing. When I accumulate sufficient dividends, I buy a new stock. At present my annual yield is ~6%.
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Old 10-31-2010, 03:52 PM   #11
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I would look at the holdings of a Vanguard mutual fund holding (like VGHCX for example) and pick the stock that was down the most for the year. I would then buy this stock and hold it until it had made a 10% gain, then I would sell it and switch to another sector.
I understand the basics of this strategy, 79P, but not the specifics.

1. Using your example of VGHCX and the holdings performance chart at Morningstar, could you elaborate on the picking strategy?

VGHCX:Vanguard Health Care Inv Fund Holdings | Morningstar

Am I correct that you would be looking at Quest Diagnostics and Medtronics, both down 18% YTD but not being sold off by Vanguard?

2. Do you select sectors for your investments, or do you examine a large number of VG funds and find candidates from any of the sectors included?
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Old 10-31-2010, 04:14 PM   #12
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Yes, exactly like that. In fact, Medtronics was the previous transaction I did. I looked at VGHCP and saw how poor Medtronics had performed, but saw how good the basics looked so I bought it in mid Sept. at $33. I put in a limit sell order for $36 and it sold in Oct. I think it is down to $35 something now, but I have moved on to the next stock since then.

It may sound like a stupid strategy to some, but my theory is I can't beat the big boys like Vanguard at the stock market, so I might as well use their nicely published investment portfolios to pick good targets. The advantage to the small investor is they can jump in and out without moving the market much. It is much easier for me to sell $44,000 of MDT than for Vanguard to try and unload $44,000,000 of the same stock without driving down the price a lot. Advantage: Me

I am sure I will lose one day soon though. It is just play money (although now my wife doesn't think $45,000 is play money anymore)

edit: oh the 2nd question. I move to a sector that I *think* will have a good performance over the near future. This is the total guess part of my strategy. I was wrong about the oil sector and it took almost 6 months before my Exxon stock purchased at $60 crossed my $66 sell price.
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Old 10-31-2010, 04:19 PM   #13
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I am sure I will lose one day soon though. It is just play money (although now my wife doesn't think $45,000 is play money anymore)
And that is the lesson I have learned recently: at some point it isn't play money so it is time to collect your winnings and go home.
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Old 11-01-2010, 07:05 AM   #14
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You may find dividend investing as a strategy amusing. See:
Dividend Growth Investor: Four Percent Rule for Dividend Investing in Retirement
and
Dividend Growth Investor: Living off dividends in retirement

Like Uncle Mick, I am playing with a few stocks on a small scale. For example, I have a little SE and BP (as speculative as I get) and CVX for energy. (I work in the energy business and I am comfortable with these. But I watch SE's dividend and I am waiting for BP's to return next year--bought on spec on recent weakness.) Otherwise, it is index funds and certain sector plays like VGCHX. I figure energy and health care are long-term growth industries. (Remember, John Greaney hit the jackpot buying pharma stocks during weakness in the Clinton era.)

I am not a trader. I don't even rebalance once a year anymore. I do check on things when I get home from work (I am waiting to recover to my earlier highs of April 2008) and watch BP once every day or two from the office for fun.
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