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To: GVTucker who wrote (9095)	8/10/1999 7:57:00 AM
From: tonto	Read Replies (1) \| Respond to of 21876

biz.yahoo.com

To: GVTucker who wrote (9095)	8/10/1999 12:41:00 PM
From: Chuzzlewit	Respond to of 21876

GV, I think you make an excellent point. Presumably, we invest in individual companies because we believe that the market is inefficient to some extent. I have used a "reality check" kind of model. Basically, I ask myself what earnings would be required to support the current price of a stock if the company were mature. For example, suppose that XYZ has a forward P/E of 100, and suppose, further, that if the company were mature (and by that I mean that its growth would be equal to the growth of the general economy) it would have a P/E of say 10. That means that it would need to expand its earnings 10-fold to support the current price of the stock. I then ask myself whether the potential market is large enough to support that assumption, and if so, what is a reasonable trajectory for attaining that result. Additionally, I ask myself how large is the potential market share at the time XYZ becomes mature, and what will be the projected earnings at that time. This method is clearly not consistent with the way the market prices securities. For example, I have studied AMZN to a fare-thee-well and come to the conclusion that even if all of the rosy profit margin predictions come to pass, the potential market (sales) is not large enough to support the current valuation of the stock. Of course, retailers are fairly easy to analyze in this context (and AMZN is a retailer) -- tech stocks are a horse of a different color because recurring innovations preclude maturity. TTFN, CTC

To: GVTucker who wrote (9095)	8/11/1999 10:07:00 AM
From: John Malloy	Read Replies (2) \| Respond to of 21876

John, RE: your earnings model... This makes the assumption that the market is efficiently pricing the security on a price/book basis in the first place. If this is the case, then individual security selection adds no value, and you're better off just indexing everything--which, BTW, I do not do. (A quote from your post. How do I get it to print as italics?) My model is not just an earnings model. I model all the critical parameters -- equity/share, earnings, dividends, and the price of the stock. Further, I make no assumptions about whether the market is pricing a stock efficiently or not. I find what a stock is worth by adding the discounted values of all the cash that will flow into and out of my pocket as a result of buying the stock. Those cash flows are dividends, the net proceeds when I eventually sell the stock, taxes, and commissions. That means I need to build a model that tracks a firm's dividends and stock price as closely as possible. I model actual stock prices, not theoretical prices. As part of the analysis I work out the price/book ratio which fits the stock's historical performance. That historical ratio contains whatever market inefficiencies were involved as the market priced the stock. I start my price/book forecast at the current ratio, and draw a free-hand forecast curve to reflect how I think that ratio will change as the growth firm matures. I make no assumptions about whether the market is pricing that stock efficiently. I only assume that the ratio is gradually heading towards some value appropriate for a mature firm. I use my model to forecast dividends and the stock price when I eventually sell, then discount the net cash into my pocket at my opportunity cost plus a risk premium. I normally discount at several discount rates to develop a curve of the stock's value over a range of minimum acceptable rates of return. If the stock is worth more than it costs at a rate of return I believe acceptable for that stock, I consider buying it. If it costs more than it's worth, I go on to another stock. John Malloy