Business Head Blog Launched!

Hi!

Please visit the freshly launched "business head" blog, when you can rad how to set up and run a business. See it at http://teamplatt-businesshead.blogspot.com

Martin.

Investing : Dividends - Good or not?

Hello again,

So, if you're investing in a company, are dividends a good thing to search out or not?  Companies giving you money, are you kidding, that's got to be good, hasn't it?

The answer to that question really lies in the answer to another question: How good a return on equity (ROE) is that company producing?

That answer will tell us how much growth you can expect a company to produce for $1 of equity.  So if you multiplied the ROE by the share price that answer would be what you would expect in total returns for your investment.

If the return on equity is good, then dividends are not necessarily the best
thing, because that company might well be capable of giving better returns 
on you investment than you could.  
Unless of course, you're a better investor than they are?

So, how do we know what a good return on investment is?  Well, let's put it a different way, let's look at opportunity cost, the cost of not doing something else.
Let's just imagine (have you got your eyes closed?) that instead of investing in all that stock market stuff, we'll go the safe option and put the money into a saving account, that earns 6% per year.  That's the benchmark.  If our return on equity is less than that safe 6%, then it's clearly not worth bothering with, unless there's something that might indicate that it will grow significantly.

So, in short, dividends are great when a company isn't all that good at growing it's investment, and not so great when the company is good at making money.

That begs the question, why would you ever want to get dividends then?  Well, unfortunately for us poor intelligent few, we have to put up with people looking for income from investments. Management of companies often divide the returns in half, half for dividends, half for re-investment.  

So what's wrong with that?  Well, you get some income, for sure, and put that money in your 6% saving account, or some other shares.  Meantime the other 50% is used by the company to produce a 20% return.  Bugger!

A way of looking at getting income out of an investment that doesn't pay dividends, could be to sell a few shares instead.  If they're appreciating in value, and you really need that money, then that could be a way to go.

There's another downside though, tax.  Bugger - again.  When you take the income, you get taxed, then you re-invest that money.  Now, your money has to make the amount of tax extra on top of the return you wanted before you can get the returns you desire.

So let's say you get a $1 dividend payout per share.  How lucky is that?  Don't get smug just yet!  
Since you're a pretty smart cookie, you also earn a reasonable salary, and 
get taxed at close to 50%.  Now your payout is 50 cents.  Not so smug now, 
are you?  
You now need to make a 100% return on that 50 cents when invested to get 
back to the original $1 dividend payout.  Then, from there, you then need 
to make money on top of that to get a return on that original $1.  That 
return if left to be reinvested would only have to make the good return 
to be successful.

That doesn't make dividends look quite so good now does it?  Well, yes and no.  If you want an income, it's possibly because you've retired, otherwise you'd be looking for growth, would you?  I hope you would anyway!  So if you're after income, you probably also want to reduce your risks too, don't you, so that you can afford to retire, buy a huge yacht, and sail away.  Damned right!  When risks are reduced, so are rewards, so it means by having the income that you're inherently looking for something that will have a lower risk, in which case, as mentioned earlier, you would probably find that you're looking at a company that doesn't have a huge ROE, and in that case, having a dividend payout is good.  Nice!  That worked out well, didn't it!

Technical Analysis - RSI - Relative Strength Index

Hi,

The relative strength index is a value that indicates if a stock has been overbought, or oversold.  This is a good indicator to show if a particular stock has an opportunity to be bought or sold.

Oversold levels are below 30% and overbought levels are over 70%.

Fundamentals Analysis - PEG Ratio - Price Per Earnings Per Growth

Hi,

This is the second in a series of fundamentals analysis ratios.  This post is about the PEG ratio, which is gives us an insight into how expensive a share in a company is, given their expected growth.  

This ratio is useful because it takes into account an extra piece of information, growth, or future potential to give us an indicator of value.  One thing that we may do with the information is also perform analysis on the company to find out if their projected growth is realistic.  If it seems to be, then this could well be a good company.

The PEG ratio = (Share Price / Earnings Per Share) / Annual Earnings Per Share Growth.

See also PE Ratio

Due to the fact that the growth part of the ratio is projected, this is a speculative value, and therefore can be less accurate.  If you use this ratio in conjuction with other ratios and they all tell the same story, this should give you a good idea as to where the company is heading.

The value of the PEG ratio, if a lower number is obtained, the stock could be seen as cheaper.  The higher the ratio, the more expensive the stock is.

A value of 1 is generally accepted as a reasonable trade-off between stock cost and the expected growth of the company.  A value of 2 or higher would generally be seen as expensive, relative to the amount of growth that is expected for the company.

This ratio is less appropriate for valuing the price of a share for a company that does not expect future growth, and instead expects dividend income.  The use of the ratio in this case is down to what you are looking for in a stock purchase.

Fundamentals Analysis : PE Ratio, Price Per Earnings

Hi,

This first in a series of descriptions of fundamental analysis will look at the PE ratio.  The PE ratio, or Price Per Earnings Ratio, is a measure of how expensive a particular stock is.  It is a value ratio.

The PE ratio = Stock Price / Earnings Per Share

To get an idea of how good the PE ratio is, you would have to compare it to other similar companies to see if it is good or bad.

The value of PE is the amount the investor is willing to pay for $1 of earnings.  If the value of the PE ratio is high, it may be that the stock is overpriced, or it may be that the company has a high expected future growth, and investors are getting in early.  By itself and in isolation, the ratio has little meaning, but put in context it can be very powerful is deciding how profitable an investment might be.

Safe as houses - Are they?

Hello!

I occasionally receive communication from companies touting their property investment services.  Pitches regarding the products being "safe as houses", so that got me thinking, as I do believe that property is a good investment if used correctly.

So, what does "safe" mean?  Usually that something is "low risk".  Okay, so we know that people always need places to live, and aside from properties dropping hugely in price which doesn't seem likely, or a natural disaster, or some road infrastructure springing up near your investment, nothing can go wrong, right?  That certainly seems to be the case.  

The big questions are around opportunity cost, liquidity, leverage and partially diversification.

The opportunity cost - well, that's the cost of not doing something else by investing in property.  What I mean by that is, if you invest in a property worth $250,000, and it grows at a rate of 7%, and earns you $250 per week in rent, is that position better than $250,000 in stock that grows at a rate of 15% and earns a 10% dividend?  It's quite difficult to compare one with another, other than averaging past performance.  However, you'd have to compare the best house with the best performing stock to see the difference.  My view is that property is indeed quite good at earning income, albeit slowly in general.  If enough interest, in terms of comments are posted for this item, I will go about finding the averages and try an unbiased comparison of the two investment types.

There's liquidity.  All that means is that it generally takes a large amount of time to convert the asset into cash.  In comparison to going to your local bank and drawing your cash out, properties are not very liquid.  That has it's benefits and drawbacks.  Due to the liquidity, investors are forced into a buy and hold type strategy, which generally returns better than jumping about in the market.  The downside is that if you want to realise your asset quickly, there may be no market, or a poor or slow one and the money may not be available when you need it.

Then there's leverage.  With property it's a bit of a joke, banks will lend you far more than you can possibly hope to pay off, so you have a highly leveraged position.  Does that help you at all?  Too much negative gearing can quite quickly sink your investment ship, the interest payments grow more quickly than you can afford to pay, and your loan to value ratio (LVR) gets higher, and the investment becomes more highly geared, until the bank forecloses on the loan.
On the other hand, if you can afford such a payment, the availability of a such a highly leveraged position seems unthinkable in the stock market.  Where else could you get a loan and not have to put any money down to do so?  My view on such a position is that it is a stupid mistake.  If you have no deposit, the interest is going to really hurt you, as is the mortgage insurance.   So we can see that we can gain access to a highly leveraged fairly low risk investment, so long as the interest rates don't go mad.

Finally diversification.  The investment property is only one asset class, it's all your eggs in one basket, and with the leverage you may have, you're going to have to pay 
a lot toward the investment to keep it in the black.  If on the other hand you are in the stock 
market, you're able to get into different asset classes and spread your risk (and average your 
returns probably too)  So one important thing - is location of property like diversification?  Can 
we rely on the asset class to much that we don't have to diversify?  Perhaps, seems to have 
worked for a large majority of people.

In the stock market there are similar situations, such as Options, or Installment Warrants that allow you to limit risk, whilst gearing your investment and leveraging your position to build wealth.  These products would allow diversification, but are also more liquid than the property investment.  So are these products likely to serve you better, and it is the property investment companies that are selling you something that is likely to be inferior?  I will look further into Options and Installment Warrants, and let you know, if you leave me a comment!

Finally, it seems that if you can get a property with low gearing, in a good area, with good tennants most of the concerns expressed here can be mitigated.  It's all a case of how easily that position comes to you.  Stock market alternatives seem worthy of research, to see which is most likely to give you the best risk / reward profile, and the best returns in the long run.

Psychology - Knowing what you're comfortable with

Hello people!

The more that I look into the different methods of investing in the stock markets, the more it becomes apparent that there are some methods that I am comfortable with whilst others, not so much.

That fits in with advice offered from a large number of people, regarding picking strategies that fit in with your way of thinking, your psychology.

The psychology can also be extended a little further, investing in areas of the market that you know about will also give you a certain level of comfort when compared to investing in something that you know nothing about.

For those of you that have followed Graham Buffett, the above two comments won't come as a surprise.  I didn't mention this earlier, because I was in the process of making my own mind up, and as time has gone by, I can easily see how those things would help you to sleep a little better at night, after a trade.

Elliott Wave Theory

Hello again,

Yesterday I read a little about Elliott Wave Theory.  This theory is based around the fact that there are recognisable patterns to the stock market prices over time.  The idea is that a set up of a particular pattern may lead to a conclusion or prediction of future prices based on these patterns.

The idea of waves, which are phases in price movements over time seem to often act predictably given a set of indicators, it may be possible to further find information of the future prices and trends.

Each wave, which is typically a movement in a particular direction forms to make up a 3 or 5 wave group, or pattern.  The wave may also be broken down further into another 3 or 5 wave group of pattern, and so on.  The theory is interesting due to the fact that it seems able to predict that if a particular sort of pattern occurs, then the following pattern can be predicted, as well as possible prices, and so on.

There is motive, and correction, subdivision and truncation, trends zigzags and waves to name but a few titles given to the various elements of EWT.

This theory can be associated with Fibonacci through the fact that these patterns often exhibit 
movements that are a multiple of Phi, the golden ratio, 1.618, or its inverse, 0.618.

So far, I have only read about the basics of the theory, and so far, I can see how this theory fits into existing data, what I am now interested in, is how reliably it can work for future prices and patterns, in a given time-frame, and the returns that that might give.  There seems to be a fairly large number of recognisable patterns to choose from, so what will be interesting, is how quickly these patterns can be eliminated to the point that a prediction can be made.

I will continue researching this area, so that one way or another I can see how repeatable and plausible this approach might be.  My thinking is, the more of these theories and technique I know, the more likely I am to be able to understand how the stock market works, and I am then much more likely to be able to pick or come up with an approach that can work for me, and the way I like to invest.

Subscription Services - Good or not?

Hi there!

Something else I notice a lot of, are companies offering subscriptions to "stock picks".  

I would imagine if these services offer true value, and a lot of people subscribe, that would allow these companies to invest further, and make more money out of the offerings regardless of performance.  That said, some of the companies do seem to have reasonable returns, the sad fact is that me being a sceptic, I can't get past thinking there's a catch, a deal breaker?

One thing that definitely will happen, is when the subscription service become popular, a particular pick being recommended is going to have a speculative effect on the share in question.  If that fits the strategy you use, then it's good, but if you're looking for something such as value stocks, that pick may initially appear to be good because of the sharp rise, but actually only be due to the number of people purchasing that stock.

The other downside is that such a stock pick, since it is broadcast to a number of people as being a "hot" pick, the share price will rise, which may very quickly change the stock to no longer being a good buy, since the price per earnings ratio will rise quickly.

This final point also goes a long way toward being able to agree with the efficient market theory previously mentioned, since you would see that effect in action, even if the signal is artificial.

So, in answer to my original posting title, is it good or not?  I think largely it depends on what you use it for, and what your strategy is.  It would be great to hear from such companies on this blog, for those people to point out further benefits, and to maybe even give some good evidence for readers of the blog, and potential subscribers some good offers too?

Stock Market Trading Patterns 1 - Fibonacci.

Hello all!

Yesterday I read a little about stock market trading patterns.  That is, trading patterns that are reported to be able to give you an indication when it is a good time to get into or out of the market whilst minimising the impact on your funds.

The first thing I read about was "voodoo" techniques, so called because they're things like praying, astrology, and other seemingly unassociated practices to give you an edge in the market.  One that does seem to have some merit, was Fibonacci numbers.  Fibonacci sequence, is amazing in the fact that one number is approximately 1.618 times bigger than the previous 
number, and that ratio is known and Phi, the golden ratio.  Now this ratio, Phi is what some traders look for retracements where the price goes up to X then to Y, and X/Y is Phi.

These numbers form a sequence and it seems that there are certain numbers such as 23.6%, 38.2%, 50% and 61.8% that seem to have significance for retracements, where a stock goes up in price, then retraces back to a particular percentage of the original price before the move.  These numbers come from the fact that a number in the fibonacci series is 1.618 times bigger than the previous one, and 0.618 times small than the next.  So, 61.8% is the approximate difference between a fibonacci number, and the previous number in the sequence.  38.2% is 1-0.618, and the 50% is the mean of the 61.8 and 38.2.

So, for a natural retracement, you may expect, a stock that starts at a value X, and moves to a Value Y, will have a retracement to a value of Y - (X * 38.2%) for a bull rally .  This pattern would indicate a natural retracement before a price rise.

For a 61.8% retracement, that is seen as a warning sign for a potential change in trend.

Many traders believe that these values somehow hold some sort of magic as to when to enter of exist the market, hence the name "voodoo".  However, when you look into Fibonacci's series of numbers, all sorts of phenomena may be explained away using Fibonacci numbers, such as sea shells and the like.  So, on that basis, why not the stock market?

Interesting theory, and something worth knowing, but I suspect digging a little deeper may be required to see how solid this is as an indicator for buying and selling shares.

WARNING: Advice Disclaimer - This is not advice.

Hi,

Before I get too far into these blogs, I do not have any stock market education, or training at all.  The information contained on this blog is merely my observations, the results of my research, and my opinions.

If you do use this information as a basis for any investment, make sure that you properly research this information either personally or through a qualified accountant who can give you better advice than I'm likely to be able to.

On the other hand, you might well find information here that your accountant or advisor would not tell you, and if that leads to your researching, and finding some potentially profitable and new areas in which to invest, then that makes me happy.

I really hope that this information helps people in general to make the right decisions, being fully informed of their choices.  That is my reason for starting this blog, it is as much a journey for me, as it will be for you, the reader or the blog.

I'm really sorry, I wish I did have the qualifications and experience to give you proper advice, but in time, who knows, maybe I will.  Until then it is just the journey and the information that I find out along the way.

Thanks,

Martin Platt.

Capitalisation - Where to invest?

Hi again!

What is capitalisation, or cap?  Well, it's the price per share multiplied by the number of shares.

What does it mean?  Well, it represents the size of the business on the stock market.  However, don't assume that a high share price means a large cap, or a small share price means a small cap.  It's also dependent upon the number of shares being traded on the stock market at that time.  It is easily possibly to have a low shared price and billions of shares, and thus be a large 
cap company.  In the same way it is also possible to have a high share price, and a relatively few 
number of shares and be a small or micro cap company.

It seems that companies who for example fall out of favour to the point where their cap falls out of being large cap, and medium cap, and fall into small cap, or micro cap sized company.  This can happen for a number of reasons, as with value investing it could be that specualtors' emotions have undervalued the stock for one reason or another, which is an opportunity.  It however, could also mean that the company is no longer trading effectively.

If as a trader you get the opportunity to buy a small or micro cap company that is seriously undervalued and has probably dropped off of the analysts radar, you can potentially make higher gains than you would a medium or large cap company.  There is much research data around to support this, don't just take my word for it.  This extra gain is due to the margin of safety inherent in the undervaluing of the stock, meaning the value of the company appears to be much higher than the share price of 
the company.

On the other hand, a large cap stock appears to be a great place to put money, so that it makes a reasonably consistent return, it's unlikely to be an amazing return, but it will likely retain your profits reliably into the future.

It's interesting to note how the stock market views, or more precisely doesn't view these smaller cap companies, and how there is an inherent opportunity, should you analyse and pick the stocks with the best company fundamentals.  It seems most analysts look at the large cap stocks, the blue chip stocks, as they're often less volatile, and therefore the lower risk means a lowered potential return.

Economics - That's not got anything to do with the Stock Market!

Hi there again,

Actually, Economics has a lot to do with the stock market, and from what little I've read about it so far, from knowing virtually nothing, I'm seeing more and more benefit in understanding economics in general, as well as the 
economics of the company.

It's interesting to read that rewards for directors often have the opposite effect to that intended one.  You give someone a directive to make the share price go up, that doesn't mean that the share price can't go down first, making life easier.  That short statement is quite powerful if you think about it - if you can see incentives offered by the company to its managers, and those managers then manipulate that situation to their own benefit, you're probably not going to want to invest in them, or certainly you'd look very carefully before doing so.

Then you have the phenomena when a product goes up in popularity, and price probably, you can also get associated products that also go up in price as a direct result.  That's interesting, because if you know what to look for, for those products, you can monitor those stocks too, and get a measure of whether they're going to go up, shortly before they do so.

Then there's the situation of when income goes up, the amount of a product purchased goes up too, that would generally mean that that is an inferior product, so you might not want to look at that product, as it's success is based on factors other than it's own good management.

I'm still reading but these small bits of information are very enlightening when look at the stock market, the fundamentals of a company and so on.  Very interesting indeed.  I will give feedback as I read more points of interest.

Efficient Market Theory (EMT)

Hello there,

I know that I said that I was going to read about and discuss patterns in the stock market, but first here's a little bit of information that crops up fairly often in the process of learning about the stock market, and that is the 'Efficient Market Theory' or EMT.

The basis around the theory is that the market is efficient such that the stock reacts to price in an efficient manner.  That is to say that information is reacted to quickly by analysts and 
investors to the point that there is no benefit in analysing the market, inflation and so on, since the 
price is already reflected in the stock market.

There are three theories surrounding EMT, weak, semi-strong and strong versions that basically suppose that varying levels of information is efficiently reflected in the price.  Weak being the least effective, and strong being the most.  Strong EMT is supposed to be so efficient that there is absolutely no benefit from for one analyst over another in analysing economics.  Insider trading in this case also has no effect, as the price already reflects the information that the insider trader possesses.

A lot of other theories are under-pinned by EMT, so I thought that I'd try to explain this now, before we need to discuss it in the context of some other more complex theory.

Getting signs from the market

Hi there again,

Having recently read information on a trader called Jesse Livermore, he explains about things such as the market giving you confirmation for what you think will happen in the market.

It's interesting to see that there's indicators in the market that may be present and can help you to time entry into and exit from the market.

Jesse Livermore studied the stock market all his life, and made and lost millions.  He said that he lost the money when he didn't follow his own advice, his own rules on when to get in, and when to get out.  That is, he listened to someone giving him a "hot tip" and got into the market, when it all turned out to be speculative gossip.

Since Jesse Livermore was a very successful stock market speculator of his time, and made a lot of money when the market was difficult, such as during a crash, I feel I must now do some research into what these indicators are, and then how likely they are to help me, and to what amount of accuracy they may do so.

Covered Calls

A covered call is where someone requests to buy a stock at a particular date, for a particular price, and for that favour, 
the option writer gets a fee.  This fee effectively lowers risk as a covered call writer, the stock 
can go down by as much as the fee for that share below the buy price before you reach break 
even, and potentially lose money.  The profit potential is the promised price (strike price) 
minus the price paid when the stock was purchased, plus the fee.  Sounds pretty good to me 
too, I have to admit.  The only downside is if the stock drops below breakeven, you're stuck 
with a stock that could be losing you money.  Still, it certainly seems like something worthwhile 
considering doesn't it?

There are two types of covered call, a put and a call.  A call is something that you would do when the price is going up, and a put is what you would do when the price is going down.

I then got thinking about this, and thought that if you combined it with a value stock, even if that did happen, it wouldn't be the end of the 
world since you believe in that stock, if the company fundamentals still stack up.

So you'd only really want to do a call with a stock that you were fairly certain was going to go up, to amplify your gains.  If stock goes down, I don't think that this is the place to be when it does.

There's also the downside that if the option is exercised and your stock is a value stock, then whilst you made a profit, you also lost your valuable stock, which may limit what you earn.  Thining further on from that, you could probably buy back your position with more shares, so long as the call didn't occur during a major move.

Now, the opposite side of the covered call, is the person who wants the stock at a particular price, that's kind of like buying insurance, if you think about it?  You expect the price of a stock to get to a certain level, and you want to get it at a discount.  I guess it would be a way to purchase more stock in a bullish market (one where the price is going up) at a discount.  If you were to do this, then you could minimize the buy price of a stock to the strike price plus the premium fee, and could invest funds in another stock until you exercise the buy.  This process limits the risk to the premium fee, and allows an unlimited growth.  This really is insurance.  So if you can get a stock at a price that when added to the covered call premium is still less than the value of the stock, you're onto a winner, since you limit your risk for buying more shares without tying up money.

Get rich quick offers

Hi,

As you can probably imagine, whilst searching for information on investments, there are a fair share of people out there offering incredible returns on the stock market, if you pay a large amount of money, they will tell you their secrets, and not many people know those secrets!

I have to say that I'm very sceptical of these offers at this stage.  I'm sure that there are techniques out there that will help you, but if you want to make money in the stock market, and it was that easy, to pay a few thousand dollars and receive in return information allowing you to potentially earn millions, surely everyone would be doing it, and there's be no need for fund managers and the like?

I'm more than happy to be proved wrong by people from these companies, but I can only see what they're offering as something that with a bit of effort researching, should mostly be available on the internet.  Obviously it's not going to be as glossy, and you'd have to read between the lines and work things out, but at the end of it, you'd definitely understand the situation.

There are situations where people offer training, which is likely to be a lot more useful than tips would be, but still I question how much can be gained from paying rather than researching and working it out for yourself.  I'd happily pay the money if I thought it was going to be worthwhile, by the way.

From what I can glean from these sites, they're often covered calls, option writing.  So my next thing to do was to read about that.  That's for the next article.

Investing - Starting Out

Hi!

I thought that I'd start a blog to discuss my progress with educating myself, and finding out about investments.

I have been interested in investing, but have to admit, know nothing much about what to do or how to do it.  Finally, I thought that it was time to start to look into what is involved, what investment types are out there, what theiy are like profile-wise, and ultimately how I might make money out of them.

Since I'm a bit of a scrooge, I don't easily part with cash, without knowing that what I'm buying is what I need, and represents good value for money.

So, my first foray into investing started off with value investing, and how people have done this in the past.  This obviously brings up names like Ben Graham, Phil Fisher, Warren Buffet and many others.  This way of working rings true with me, because I like the idea of picking stock that is good value for money, or is good quality, and purchasing it.

I find during my research that this area of investing has an almost cult like following.  to the point where people seem almost to want to mention Warren Buffet to make themselves seem credible (whereupon everyone gets on their knees)  I like to look into what I'm doing a little further.  I have read about the tenets of investing and how they work, and how a lot of the people who offer stock picks completely fall outside of these tenets.  
To give you an example, they tell you that you should buy something, hold something sell something, and many other permutations that possibly mean something to them, but not so much to the casual user.  As a value investor, I would expect that I would need to know about the fundamentals of the stock in question, how much it represents in terms of value, what the managers are like, and finally that the price of the stock is below the value of that company.  Many of these companies don't actually tell you the value of the stock, and I even see possible evidence of them only picking the really strong buying positions (of which the subscriber of the service is not informed)  This seems like a nice little ploy to get people into investing in stocks and believing that they're getting true value stocks, when really their subscription to that service only allows the people running it to further invest in the real value.

I don't think that there's any substitute for knowledge.  How can we subscribe to such a service, which may make money, if we're not aware of the true nature of the stock on which they're reporting?  We surely can't.

I suppose we could subscribe, then take the time to value the company ourselves, and research ourselves, and make our own mind up, but then what are you really paying for, as it certainly would no longer represent value for money.  Isn't that by itself an oxymoron?  You are a value investor that invests part of your money in a 
subscription that by itself does not represent value?

Valuing a business is the stuff I like, a lot of it is mathematical, and fairly straight forward at that, then there's research into the managers of the company, and whether what they're saying matches up with what the numbers tell you.  Interesting stuff, I think.

Those points aside, this looks like quite a promising area to search further into.  My trouble then is that I have no idea of how I might pick a stock, and time it correctly to buy, and thus extract the best reward for doing so.  Next, I have to look at trading patterns, will that allow me a greater insight into what 
the stock is doing, and when I should "pull the trigger"?