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Strategies & Market Trends : Value Investing -- Ignore unavailable to you. Want to Upgrade?

To: TimbaBear who wrote (12018)	2/14/2001 11:11:04 AM
From: Mark Adams	Respond to of 78485

If I may probe a bit here....Would you share with me how you do this? Specifically: how far do you project, 5 years?; Well, I usually use very simple short hand to scan stocks for those I want to research further. I find that being able to weed out the 10 I'm not interested in leaves more time to follow the one that seems to have the most potential. Depending on the sector, I usually look for a PE ranging between 10-15 based on the run rate of the most recent quarters results. I have to double check that earnings aren't seasonal. PE's are relative depending on sector; a mature growth stock won't get the same forward PE as a tech. Based on Net Present Value, earnings more than 10 years out aren't worth much today, so I usually think in terms of 10 years. While PEs have notable shortfalls, it does make a good starting point. Now resource based companies like oil and gas actually publish the Discounted Net Present Value of their reserves, which makes it nice to figure their 'value'. As long as their production rate is decent, you can compare this number to their market cap. I believe these stocks have approached if not exceeded their fair value in most cases. Other companies are more difficult. And negative earnings are really challenging. <g> How do you arrive at a meaningful rate of earnings growth?(i.e Is it based on the average revenue/earnings growth for the last 5 years or something else?); I don't place too much emphasis on growth, as many of the stocks are cyclical, and earnings may peak higher than previous cycles but don't grow in the manner associated with some tech stocks. I haven't quite adopted the PE should equal the growth rate model. It doesn't feel right. What rate do you use for discounting,(Cost of capital, Cost of capital plus inflation, T-bill, or some other?) If I were to set up a spreadsheet, I would insert the next best available return, which is probably CD's yielding 6%. More sophisticated investors can earn much more than this, but it's the rate I'd use to discount. As you might suspect from my questions, I have looked at this issue and have slapped together various approaches, but am always looking to refine the finished product, so any input you would care to share is appreciated. Earnings flow is just one parameter, but an important one. The discounted earnings flow is more of a mental paradigm. Earnings are important, but so is debt levels, management ability, and macro trends. One problem with looking at discounted earnings is the ultimate conclusion that most if not all stocks are over valued. <g> Those that aren't get disqualifed for other reasons, ie unsustainable debt load, too small market cap, unclear business. I learned the hard way that it's hard to invest rationally in an irrational market. That's when I adopted a slightly different approach. For example, I limit the percentage of my portfolio exposed to small caps because of the impact of mutual funds on stock movements. I've also been developing an approach based on 'out of favor' sectors and sector rotation. Below is a portion of a post I made last fall on this topic. I've since adjusted it to include re-investment risk. I trade more than I should, which in a range bound market helps but kills my performance when trends set in. The link below has a section, Rich Man Poor Man that I need to post on my forehead<g> dowtheoryletters.com --- My theory is there are three significant types of risks in equity investing. Market Risk, Sector Risk and Company Execution Risk. Market Risk in my paradigm loosely means a rising tide lifts all boats and it's opposite. Sector Risk is the potential of investing in the 'wrong' sector even though the Market is rising and the companies are performing well. Like buying a cyclical stock based on a low PE at the cycle peak. Buy the Semi Equip sector at the wrong part of the cycle, and it don't matter that the DJI or S&P gain 25%/year. Company Risk is the idea that even in a Good Market, and the Right Sector, a company can mess up execution so badly that they underperform. My philosophy is to minimize Company Risk by diversifying over three-five companies within a sector, to minimize Sector Risk by focusing on Sectors already out of favor and minimize Market Risk by dollar cost averaging, or legging into positions over time while maintaining a healthy cash balance.