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Strategies & Market Trends : Gorilla and King Portfolio Candidates

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To: Seeker of Truth who wrote (39407)	2/16/2001 6:40:38 PM
From: Pirah Naman	Read Replies (1) of 54805

Malcolm: I decided to junk my efforts and follow your scheme. May I suggest that you don't do either just yet? Rather, see how the tools I use meet your needs and then decide? What I don't understand is how you derived the formula for the residual value. I didn't derive it. It comes from a more complicated summation equation which I couldn't remember to save my life. I think that a better explanation than I could hope to give is in The Witch Doctor of Wall Street by R. Parks. (It's a good book in general.) I've seen other explanations, but that is the one I can remember to reference. What if k = g? This usually suggests that you have set your k too low. (You have found, already, one of the key points to nitpick here - the model is sensitive to slight changes in input here.) There are many ways to choose k. One is to use the long bond yield, or the long bond yield plus an equity premium. Some people calculate an equity premium unique to each company, using a formula which incorporates weighted average cost of capital and share price volatility (beta). I prefer to use the simpler approach; there is so much error in guessing at the future, that to me a more complex calculation does not seem to add value proportional to the invested time. Also, for g during that residual period, I suggest using the average growth rate in earnings of the S&P500 over an extended period. Various books show it in the range of 5-6% depending on period chosen; I think I once calculated it at 6.4% over the past 25 years (ending in late 90s). - Pirah

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