Economy, Finance, Investing.…..

• Seven years for earning and spending
• Dividend stocks aspiring to be dividend champions
  
• How to fix your bond mix
• Stocks most likely to raise dividends
• Dividends stocks to pad your portfolio
  
• Dubai the city on crack
• The focus of mutual funds
• What is options trading?
• 4 simple lessons on cost, price, and margins
  
• The CRUD will pass
  

These are some diverse set of articles from fellow bloggers and business magazines. I hope you enjoy reading all or some of these interesting posts.

In last 10 or 15 years, the meaning of investing has drifted from being part owner of the business to mere buying a ticker stock. Even the concept of value investing, which at core means buying a good business at cheap, has drifted towards using volatility to value or price the stock. The relative basis has shifted from using quality of business to what is the price it is being traded. The fundamental concept of owning a good business has taken a back seat. The ease with which one can buy and sell stocks at a click of few mouse buttons, has distracted us from understanding the business. We have started to believe that buying and selling stocks online is investing.  In my viewpoint, this is what makes us clueless about the stock market. Business comes first and stock market comes later. That’s what is focus of the book I recently finished reading, Why Are We So Clueless about the Stock Market?

In this book Mariusz Skonieczny (the author) provides a very simple and short story of how to understand a business. It is written with the beginning investor in mind.

In first half of the book, the author uses a very simple example to lemonade stand to help explain financial statements and how a business can make individuals wealthy. It discusses various aspects like dividends, share repurchases, equity dilution, debt, reinvestment of earnings, and acquisitions. It helps you understand the fundamental aspect of business and its correlation with shareholders wealth creation.

The second half of the book, the story telling continues grows into how to value the business, differentiate competitive advantages, and scout for bargains. I particularly like the use of example (or analogy) of an elevator rising and descending from different floors to explain on how to value a business, discount the earnings/dividends. The author makes understanding the valuation process very intuitive.

Throughout his discussions, the author keeps us reminding why economic moats and competitive advantage is the key in understanding the business. Once the author provides you methodology for analysis, he uses this framework to apply in four case studies. He applies this framework to companies like Burlington Northern Santa Fe (BNI), Thor Industries (THO), Wells Fargo (WFC), and Moody’s (MCO).

The book touches upon all aspect that a beginner and season individuals can use as a reference for fundamental concepts of classical value investing. However, there are two areas that I believe this book is missing. First, how to understand management actions in new era where they focus is on short term as opposed to long term. All said and done, it’s the management that drives those numbers and how to access the quality of those at helm? Second, is the selection of companies for case studies. In my view using Moody to demonstrate wide moat or competitive advantage is debatable. On a personal note, I would prefer a tobacco company (choice to pick its product knowingly it could harm) over Moody (their ratings/research reports are misguided to borderline hidden agenda). As an owner of a business, I would not like my company to develop competitive advantage on such hidden agenda. In addition, all four case studies focused on positive value analysis. I would have like a couple of case studies on negative value analysis.

Overall, I would recommend this book as a must read for individuals looking to understand the basic concepts of value investing.  The simple story approach makes it easy to understand. It will serve as a very good starting point.

Disclosure: Mr. Mariusz Skonieczny provided me a complimentary copy for this book review. 

Economy, Finance, Investing.…..

• Comprehensive review of dividend aristocrat
  
• Dividend growth stocks are attractive buyout targets
• Ten dividend stocks with above target returns
• Why most people fail at investing
  
• Shopping for dividend stocks
• How to buy stocks at prices you want
• Grandfather retires and affects my finances
• China rebuffs US internal criticism
  

These are some diverse set of articles from fellow bloggers and business magazines. I hope you enjoy reading all or some of these interesting posts.

In general, there is school of thought that if risk is higher, then probability of “returns are also higher”. On many occasions almost all investors would have used this interpretation. This is only true to certain extent, it is a partial truth. It is incomplete.

What gets missed is that higher risk (or the complexity) does not mean “higher probability” of higher returns. The implied meaning is “probability of those higher returns” is much lower. The point I am trying to make is, understanding risk-return is not that simple. Taking higher risk definitely means higher return, but the probability of those higher returns is smaller, or lesser.

I was doing some research on Indian equity market index to understand it little better so that I can increase my allocation. In the process, I came through an interesting paper on Scribd which explains my above risk-return interpretation with an example. It is only four pages so you can read it pretty quickly. Focus on Table 1 and Figure 1 which quantifies this interpretation. You may ignore that that it is for Indian equity market.

NIFTY Expected Returns for Different Trading Time Scales

Based on the Table 1, you can observe that the likelihood of negative returns tends to reduce are the duration increases. Similarly, the histogram and scatter diagram also show that probability of higher returns increase as the trading duration increases.

The point is chase high risk? Why not go for less risk and less return which has higher probability of good returns?

This article originally appeared on The DIV-Net on January 7, 2010.