VALUE
BIBLE
YOUR GUIDE TO LONG TERM STOCK
MARKET SUCCESS
Thomas Richmond
TABLE OF CONTENTS
04 ABOUT ME
Preface
11 BEFORE YOU INVEST
Chapter 1
17 INVESTING MINDSET
Chapter 2
29 WHAT WE INVEST IN
Chapter 3
35 INDEX FUNDS
Chapter 4
39 WHAT ARE STOCKS?
Chapter 5
44 MY INVESTING STRATEGY
Chapter 6
78 TAKING ACTION!
Chapter 7
83 BONUS CONTENT!!
Chapter 8
@getrichwithrichmond
2
PROLOGUE
Game Theory is the study of How and Why people make decisions.
Game Theory is quite a complicated science.
Game Theory can be simplified if we acknowledge that there are
two types of Games: the Finite Game and the Infinite Game.
Finite Games have definite rules, and a clearly defined end to the
Game. Players must compete to win the Finite Game.
The Infinite Game is a different type of Game. In fact, it hardly fits
the definition of what we would define to be a "Game".
With an Infinite Game, players can only end the Game by choice.
Players can choose to leave the Game at any time, but they're most
likely to quit when they lack the Resources or the Will to continue
playing.
Oftentimes, we are raised to believe that we must win the Finite
Game. We grow up believing that we must fit a certain description
and live a certain life to be worthy.
Ultimately, life is not a Finite Game. Life is an Infinite Game. We will
live until we die.
It is your choice whether you will make investing an Infinite Game or
a Finite Game. I wish you the best of luck.
@getrichwithrichmond
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PREFACE - ABOUT ME
Hello! My name is Thomas Richmond. I am very excited that you are
reading this, because I feel that it is my mission to teach as many people
about investing as I can. I believe I was put on Earth to put good into the
world, so I can make the world a better place than I found it. If I can teach
people how to invest for the long term, so they reach a place of financial
security and abundance, that would make me a happy guy :)
I have two reasons for writing this eBook. First, I want to teach you how
to build long term wealth through stocks. We're not going to talk about
trading patterns. We're not going to talk about forex or day trading. This is
strictly long term wealth building. My goal is that when you are done reading
YOU WILL KNOW HOW TO MOVE FORWARD AS AN INVESTOR! By
understanding your goals, you can apply this knowledge to achieve eventual
financial security, a life of abundance, a vacation home, money for your kids'
college, or whatever you dream of. I want you to have it all.
My second goal with this eBook - I want to push you to TAKE ACTION!
One of the reasons why I charge money for this eBook, even though many
people give eBooks away for free is that I've found that people don't respond
to free content the same way that they do to premium content. I've found that
when I pay for something, I feel a greater obligation to achieve my goals,
because I know there's money on the line.
I discovered this about myself after I started going to the gym frequently.
It hurt me to pay $90 for a 3 month gym membership, and $67 for a tub of
post-workout protein powder so I could maximize my growth. But I found that
by putting that money down, my workouts became way more important to
me. I show up at least 5 days a week, and I've come to really enjoy the gym.
But I can tell you there's NO WAY I'd have the same attitude towards working
out if I was working out with dumbbells in my basement!
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Basically, I want you to get massive value and massive results from this
book.
Now you may be wondering, "Who is this guy?" Allow me to introduce
myself, and how I'm qualified to teach investing at 18 years old. Growing up, I
always loved money, and I always knew I wanted to have a lot of it. My love for
money isn't materialistic - I just love the game of money. It's my passion. I
didn't have a strong financial education growing up, and I was actually quite
fearful of the stock market. By listening to the people around me, I came to
believe that, "Stocks are risky," and my wild business ideas got shut down with,
"Don't be stupid Thomas you're going to lose all your money."
It was around age 16-17 that I decided to live with intent. Up until then, I
figured that I'd be able to coast through life, and easily make a bunch of
money. I started to realize that if I didn't save myself, I'd be working a job that I
hated, and I would hate my life. I've always been driven, but I started to
become more and more entrepreneurial, and I started to really value my time.
Like any 16-17 year old kid, I wanted a lot of money, and I figured I'd be
able to make it really quick. I saw a bunch of dropshipping gurus online raking
in millions of dollars per month, and I thought, "I could do that."
I'll just cut to the chase here - dropshipping didn't work out for me.
Flipping sports cards was not going to work for me. Flipping domain names
(URLs) was not going to work out for me. Fortunately, I avoided trying day
trading. The problem was, I was playing the Finite Game. I was thinking about
how much money I'd make the next month and the next year. And this
mindset has ALWAYS held me back.
@getrichwithrichmond
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But as I continued to fail, I grew more and more mature. I started to
realize that I had a long time left to live. It's ok to spend time developing skills
NOW that will pay me LATER. Life is a journey of learning and growth.
So when I started to believe in playing the long game, something finally
clicked and resonated with me in a meaningful way. I was reading The
Snowball, a Warren Buffett biography, when I started to build a deep internal
belief that long term stock market investing was going to work for me. I loved
the idea of learning about businesses all day.
Around this time, I was building up an entrepreneurship podcast,
because I knew that it was vital that I started to build an audience at a young
age, so later in life I could help people and make money. This
entrepreneurship podcast turned to an investing podcast, and the podcast
turned into my Instagram page @getrichwithrichmond.
And then, something magical happened. 2020 Lockdown! You might
have been able to guess that I wasn't a huge fan of high school, so I was
overjoyed that I could spend the rest of my senior year working from home.
For the next 6 months, my time was divided between only 2 things. 1)
Growing my Instagram page, and 2) Learning everything that I could about
long-term stock market investing. Often, I would wake up at 4 am so I would
have time to research stocks and make an IG post before my online classes
started, and then I would watch investing videos during my online classes.
And now I'm 18. I feel like I've gained a ton of maturity because I worked
so hard to get here. I have struggled in the past with Imposter Syndrome and
being afraid that people would not believe what I was talking about because
I'm only 18 and I only have a year of investing experience.
@getrichwithrichmond
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I would love to say that the Imposter Syndrome is gone, but I know I will
always have a little voice in my head telling me to stop. When I start
overthinking what I'm doing and stressing that people aren't going to think I'm
qualified to do this, I just take a deep breath.
I remind myself that 1) I only teach practices that I personally follow, or
would recommend to a close family member, and 2) my age doesn't matter. If
I can deliver results and improve people's lives - that is all that matters. There
are people in the investing world who appear to be experts but they are really
professional liars! There are people out there who sell mutual funds to
investors, who know full well that their mutual fund cannot possibly
outperform an index fund! There are people out there who are going to rent a
nice car to sell you their course or their training. I will never do that. Honesty
is one of my most important values; I strongly believe in using my platform to
help people and deliver the best information that I can.
That's me in a nutshell. You should also know that I'm not really a great
writer either. I've always been a big math guy. However, I recognized that I
needed to make this book; there are millions of people out there that I can
help. I want to elevate YOU and get you to a better place!
If you want to be successful, you are going to have to put in some hard
work. You must make a commitment to learn investing. Even though learning
about investing can be boring at times, it is absolutely necessary that you take
the time to learn. I can’t promise that you will be a successful long term
investor, but I can promise that you are much more likely to succeed by
buckling down and learning the basics by reading this incredible book!
Remember that the more time and energy that you put into doing any task the more you'll grow. Give yourself permission to try something you're a little
unsure of and give yourself permission to fail. We're playing the long game.
@getrichwithrichmond
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Right now, I want you to MAKE A COMMITMENT TO READ THE WHOLE
BOOK!! Man I know how tough it is. I have a long collection of eBooks that I
started to read and never followed through reading. But read through this
eBook! This contains the path to wealth (no matter how cliché that sounds), in
an easy-to-understand, light-hearted way. You will be rewarded by being able
to make better financial decisions, plus you will enjoy this read.
BEFORE YOU START READING - I want you to grab a notebook and a
pencil. It is vitally important that you take notes on this material because it will
dramatically increase your comprehension and retention of the material. Take
notes on things you learn, and jot down every question that you have.
Now if you're sitting there thinking, "I'm going to pass on getting the
notebook, because I don't want to get off my chair," - go get the damn
notebook. I've read some really interesting books that would tell me to take
notes, but I would always pass on doing it, because I didn't want to waste
space on a notebook. But you know what I found? If I didn't take notes - I'd
forget what I read in a week! So take notes! Now, I take notes on everything
that I read, so it can stick a little better in my brain. Take notes on this book; I
promise it's going to help you!
If you are interested, you can click below to get the audiobook. This
does cost a bit of money, but if you know that you'll be more successful by
listening to this book on your daily commute, then take the steps that will
make you successful and grab the audiobook. I hope that my splendid voice
will make the audio experience entertaining.
@getrichwithrichmond
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Last, I want to tell you, I’m proud of you. By taking the first step, you’ve
put yourself ahead of 95% of the people who aren’t educating themselves. By
taking action, you are a giant step ahead of where you were yesterday. So be
proud of yourself, and I know that you will be a great investor! If you have any
questions, please DM me on Instagram @getrichwithrichmond. I’m here to
help you learn! I hope you enjoy.
Keep in mind - I'm not an investing advisor. I hold no licenses. I just
share what I have found to be true after researching the greatest minds in
investing, and implementing these ideas for myself.
In this book, you're going to learn the secrets to see incredible long
term results in the stock market, so you can have the time and money to DO
THE THINGS YOU REALLY WANT TO DO IN LIFE! Whether you already have
some investing experience, or you're just getting started, this book will give
you the tools you need to see long term success in investing.
Presenting: the Value Bible
@getrichwithrichmond
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VALUE
BIBLE
YOUR GUIDE TO LONG TERM STOCK
MARKET SUCCESS
Special Thanks to Marcel
Kaechele; Editor and Investor
January 1, 2021
10
CHAPTER 1 - BEFORE YOU INVEST
"An investment in knowledge pays
the best interest."
- Ben Franklin
@getrichwithrichmond
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INVESTING GROUNDWORK
I know how excited you are to get right to investing! But there are some
really important things we have to discuss BEFORE we even start investing.
Back when I started learning how to invest, I couldn't wait to learn the
strategies that would help me learn how to pick stocks! I was scrolling around
one day (probably on YouTube, or Instagram, or just a web article), and I
picked up a new idea that really impacted my views on wealth building!
As a small investor, you must focus on increasing your
contributions! High returns will have a bigger impact when you have
more money invested!
Learning this stopped me in my tracks. I'm 18, and I'm proud of the
nearly $,000 that I have invested. But think about this. Even if I hustled to find
the greatest value buys - and made 100% RETURNS for the year...
I would only make an additional $6,000, because my money would
double. Now consider an investor with $100,000, who makes a very
reasonable 8% annual return. This investor would see his portfolio grow
$8,000. He would see higher dollar returns than me - by easily investing in an
index fund.
As a general rule of thumb, if you have less than $100,000 invested, you
you will see the most benefits by increasing your deposits into your investing
account. My eyes are set on hitting $100k as soon as possible, because that is
when returns will really start to benefit me.
@getrichwithrichmond
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BUILDING A GAMEPLAN
We've learned that big players can beat little guys just because they
have more money. Even though I'd love to get right into investing, it's best for
you to first learn the steps to building your financial game plan. These
foundational steps are some of the most important parts of building long
term wealth!
EMERGENCY FUND
BEFORE you can even think about investing, you must build an
emergency fund. I'd recommend that you set aside 2-6 months of expenses
into a separate savings account. This money should ONLY be used in an
emergency!
I know how much it sucks to set money aside in a savings account, but if
there was an emergency, or you found yourself in a position where you
couldn't work, you could draw on your emergency fund to get through the
tough times. Better to be safe than sorry right?
It's important to have an emergency fund so you won't be forced to sell
your investments in times of trouble. You want to sell investments on your
own schedule - not out of desperation!
Personally, I have $3,000 dedicated to my emergency fund. The average
person should have more than $3,000 tucked away, but since my expenses
are very low right now, and I plan to continue to contribute to this fund as I
grow, I am comfortable with the money that I have saved.
@getrichwithrichmond
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PAY DOWN DEBT
In addition to building an emergency fund, you're also going to want to
pay down any high-interest consumer debt.
Think about it - if you have credit card debt with an 18% annual interest
rate - you can make an 18% return on your money just by paying off debt!
A practical rule-of-thumb is to pay down any debt that carries higher
than a 4% interest rate. If the debt is below 4% interest rate (like a lowinterest mortgage), you may find that it's favorable to AVOID paying down this
low-interest debt.
Say you have a 3% interest rate on your mortgage, and you earn an
average annual return of 8% from the stock market. That means you'd be
making more money - by putting money towards your investing account than
the mortgage, because you'd only make 3% by paying down your mortgage.
while you'd make a total return of 5% by investing in the market (because
you'd make 8% minus 3%). You'd rather make 5% on your money than 3%
right? Basically, it pays to pay down that mortgage as slow as possible! Pretty
cool huh?
My recommendation would be to pay down all debt above a 4% interest
rate. But if you've got debt below a 4% interest rate, that low-interest debt is
doing you a FAVOR! Pay down that debt slowly, and be a boss!
If you are in high debt, you may want to look online for someone who
has recovered from a high-debt situation. Since this is an experience that I've
never been through - I can only give advice from great books that I've read.
@getrichwithrichmond
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MONTHLY DEPOSIT PLAN
Your monthly deposit plan is CRITICAL to your investing success! Think
about it - the more you can throw at your investing, the quicker you're going
to reach the Big Boy numbers. And when you're investing over $100k, your
returns will help you way more than they do right now.
You're going to want to create a simple budget that estimates 1) your
income, 2) your expenses, and 3) how much you would like to invest each
month. The more money you can make, and the lower you can keep your
costs, the more you can invest. Write down ROUGH ESTIMATES of your
income, expenses and money you can invest per month in your notebook. Do
that right now. I know that looking at your monthly budget can be a little
stressful, so use rough numbers for now, and revise it later.
My personal goal is to invest at least $500 per month, so that I can max
out my Roth IRA. Therefore, my goal is to make at least $1,000 per month, so I
can cover my expenses, and meet my investing goals.
@getrichwithrichmond
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EXPENSES
One of the best rules of personal finance is to live below your means.
Spend less on things you don't need, and invest more as your income
increases.
You should write down a basic list of all of your expenses, so you can
start to track how much you spend. When I went through the exercise to see
where I spent money every month, I was happy to see that I had low fixed
monthly expenses. Each month, I pay about $30 for a haircut, $40 for gas, and
$200 to run my business.
However, I do end up spending a lot of money on the side, buying things
that will help me to improve in some way. I spend about $100 per month on
things like books and tools that will help me grow. Additionally, I spend
another $100 each month on things that pop up - like a new gym
membership or something else that I need.
So since I have about $500 in monthly expenses, and I want to
contribute at least $500 to my investing account, I have to make about $1,000
each month. Go through this simple simple exercise for yourself right now, so
you can figure out how much you can invest and revise it later.
If you already know your monthly income and expenses - you're a step
ahead of the game! You know how much money you can invest each month!
If you're interested in learning more about personal finance, I'd highly
recommend that you watch some of @thenewmoneypodcast's content on
Instagram. I watch his content daily, because it improves my life.
@getrichwithrichmond
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CHAPTER 2 - INVESTING MINDSET
"The way of success is the
continuous pursuit of knowledge."
- Napoleon Hill
@getrichwithrichmond
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BEHAVIORAL FINANCE
Before we get into analyzing stocks, I want to explain some of the
different biases and different limiting mindsets that we will all struggle against.
These biases keep investors from making smart decisions, so I want to teach
you how you can understand and avoid these traps. I want to keep your
money safe, and help you multiply your currency! We're going to be breaking
down some of the limiting thinking patterns that hold investors back in this
chapter:
1.
2.
3.
4.
5.
6.
7.
8.
9.
Shiny Object Syndrome
Too Good to be True Offers
Herd Mentality
Overconfidence
Hindsight Bias
Biased Judgements
Loss Aversion
Pride and Regret
Status Quo Bias
As you read through these different biases and false beliefs, I want you
to start to do a little self-diagnosis on yourself. On your note sheet, take notes
on each one of these false mindsets, and put a little star next to the beliefs
that you have the most trouble with. Be honest with yourself. Doing this will
help you make smart decisions, and failing to do so will hold you back!
Keep in mind you'll never eliminate these ideas from your head. We all
suffer from these false beliefs. But by understanding them, we can reduce the
strain they'll have on our wealth.
@getrichwithrichmond
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1. SHINY OBJECT SYNDROME
This trap lies behind the age-old problem of, "my best friend /uncle
/brother recommended a stock to me so I bought it after doing 15 minutes of
research on the stock!"
This is also the classic, "I read that Bitcoin could double over the next
few years so I bought some after doing 15 minutes of research!"
There is nothing wrong with listening to what other people have to say.
HOWEVER - you really want to be careful that you're not jumping at every
piece of news that you hear. It pays to be patient, and stick to your long-term
plan. While it may pay off to try a new opportunity - you don't want to start
chasing shiny objects. There are a lot of different hot stocks/once-in-a-lifetime
investment deals that will try to derail you from your course, but remember
that you will be rewarded for carrying out your long-term vision.
As Buffett's right hand man, Charlie Munger, once said, "The big money
is not in the buying or the selling, but in the waiting."
Another reason to avoid popular stock tips is that by the time the stock
reaches the news, it's probably already too late to act on this new tip. If it's on
the news, millions of people have seen it. Additionally, news sources don't
care if you make or lose money - they want eyeballs! They'll write about bull
markets when stocks are going up, and they'll turn and say you'll lose every
dollar in your portfolio when the market goes down.
Trust your own research. Don't get rocked off your course.
@getrichwithrichmond
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2. TOO GOOD TO BE TRUE OFFERS
You've probably heard the saying, "If it sounds too good to be true, then
it probably is."
That is incredibly important in investing! I've found that we can end up
losing all of our common sense when we get offered the possibility of getting
rich quick! I've almost thrown all my sense out the window to take risky offers
too!
I know that I've been hoodwinked before by the the vision of making
easy money. Before I was serious about investing, I dabbled in many different
businesses.
On two different occasions, I tried building dropshipping stores. Naively,
I thought that as a high school kid, I could throw up a one-product website
page, spend $0 on advertising, and make thousands of dollars per month
dropshipping! After all, the dropshipping gurus made it look so easy! But as
you might have been able to guess, dropshipping was much tougher than I
anticipated.
I've found that you'll see the best opportunities by remaining open to
new ideas, but also staying skeptical of the new ideas that get presented to
you. This should help you to continue to grow and expand your knowledge,
but also this should keep you from jeopardizing your money.
@getrichwithrichmond
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3. HERD MENTALITY
BAAAHHHHH!
That is the noise that a sheep makes! Don't be a sheep. Be a lion!
Herd mentality is the idea that people tend to follow the people around
them. What's dangerous about this is that when we see a large group of
people doing something that we know is wrong - our mind can unconsciously
start to make us believe that these people are right and we should believe
them. Even when our research proves that they are wrong!
I've slipped into the herd mentality many times. I've found that when a
stock's price starts to climb way past what I believe the stock to be worth, my
brain will start to rationalize why the business must be worth more than I
thought. But in the end - the stock's value could be worth less than all the
buyers anticipate!
So make sure you remind yourself to trust your research! It doesn't
matter if everyone's buying or selling - be a lion!
This is incredibly important for value investors, since value investors
tend to make money by doing the opposite of the crowd. When everyone's
selling a great business, we start buying! And when everyone drives the price
up for one of our great businesses - it could become overpriced for us.
Remember to follow your research, not the crowd. As a value investor,
you have to be willing to stand out of the crowd and go against the tide. Be a
lion, not a sheep.
@getrichwithrichmond
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4. OVERCONFIDENCE
Overconfidence is one of the most dangerous traps on this list! This is
also the biggest one that I'm working to overcome.
Overconfidence is the idea that we have an over-optimistic view of what
our results will be compared to other people's results. Basically, we fall into
the trap of thinking that we have super powers, and that every stock we pick
will turn to gold! I'm very guilty of this, and this limiting mindset has hurt me
many times.
Interestingly, in a popular business management book called In Search
of Excellence, a random group of men took a survey asking about their athletic
ability compared to the population of men. From this test, 60% of men
believed that they were in the top 25% of the population, and get this - only
6% of men believed they had below average athletic ability. 94% of men
believed they were above average! Isn't that crazy?!
The point is - we tend to be overconfident in our own abilities.
Additionally, men tend to be more overconfident than women.
Make sure you keep in mind that your investing thesis could be wrong. I
have to remind myself that I'm not always right; more often than not I'm
wrong! That's just a part of the game.
Even though it's important to have self-confidence, overconfidence can
cause you to extend yourself past where you should be, and lose a bunch of
money. It's happened to me, and I hope it doesn't happen to you.
@getrichwithrichmond
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5. HINDSIGHT BIAS
Hindsight bias is a real killer! It keeps us from learning from our past
mistakes, because it's a way for us to forget our losses and only remember
our victories.
With hindsight bias, you get the feeling that you actually had a hand in
creating good outcomes, but you might feel like bad outcomes "surprised"
you, or weren't really your fault.
We often get the hindsight bias because we tend to have a selective
memory. We can strongly remember our victories, but we forget our defeats.
It's so easy for me to remember the story of how I bought Facebook
stock in March 2020 at around $158, and in December 2020 it's trading
around $270. It's easy to remember that story, because I'm up around 75%
on the position!
But how about all the bad decisions that I made when I was learning? It's
a lot tougher for me to remember buying American Airlines, United Airlines,
Raytheon Technologies, and other positions that I sold because they were
poor investments for me!
It's important to learn from both your wins and your losses to be a
successful investor. Keep track of your wins and losses, so you can make sure
to fix what you're doing wrong.
@getrichwithrichmond
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6. BIASED JUDGEMENTS
Biased judgement is the idea that we will typically believe that we have
more control in a given situation than we really do. Our brains LOVE the idea
that we have control. However, our desire to be in control can really hurt our
decision making.
One thing that I like to remember is that I have absolutely no control
over where a stock's price goes in the short term. I wish I could change a
stock's price with the power of my mind, wouldn't you? We'd be very rich!
The only thing we really control is WHEN and WHERE we put our money.
We control WHERE we put our money because we pick what we invest in, and
we control WHEN we put our money into investments.
And beyond that, we simply don't have control! We can do research to
make sure that we made a smart investment, but we can't control the
business, and we certainly can't control the stock price.
@getrichwithrichmond
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7. LOSS AVERSION
Loss Aversion is another belief that I really struggle with. Even though
I've still got a long way to go to overcome this false belief, I was able to start
overcoming this obstacle as I learned more about it.
Loss Aversion is the idea that we feel losses about 2.5 times more
painfully than we feel the joy of a similar-sized gain. I learned this concept
from A Random Walk Down Wall Street and it opened my eyes to why many
investors fail!
Even though it's definitely smart to be cautious of losing money, the
danger with being overly-cautious is that your caution can cost you! Fearful
investors may end up cutting their winners and holding their losers, because
they hyper-focus on trying to ensure their gains. This is bad! If you find that
you're holding a stock that you no longer believe in for the long term, I've
found that it's best to sell the stock as soon as possible, and put your money
into better stocks. Cut your losers, and keep your winners! How does that
sound?!
I've found that it's really important to size up the risk and rewards of
investments that you're looking to make. If you find that you're making lowrisk, high-reward investments - you're doing the right thing!
It's very tough to stay right in the middle of Overconfidence and Loss
Aversion, but it's certainly a great goal to strive for. This will help you to
maximize on the opportunities that come your way.
@getrichwithrichmond
25
8. PRIDE AND REGRET
Pride and Regret are two beautiful forces that help to cloud our investing
judgement. We feel more proud and ready to share our gains and our wins,
but we feel regret and we'd like to hide our losses. Pride and Regret tie right
into Loss Aversion.
People end up holding their losers, and cutting their winners. It hurts to
accept a loss on a stock, so sometimes people will just hang on in hopes that
the stock turns back around.
However, by holding your losers and cutting your winners - your portfolio
will eventually be made up of low-tier stocks! I had to cut losers like American
Airlines, United Airlines and Raytheon Technologies after I bought them,
because I realized that they weren't great businesses. Makes sense right?
The moral of the story - when you realize that you've made a bad decision
- resolve it, and move your money towards great businesses. The loss will
hurt, but you'll celebrate many more victories in the future by playing to win.
@getrichwithrichmond
26
9. STATUS QUO BIAS
The status quo bias is the idea that people prefer for things to stay the
same, instead of creating change. It's easier for things to stay the same,
because we don't have to take action to fix things.
I'll give you an example. If you've already started to invest, you probably
have at least one stock in your portfolio that you know you need to research
more. You might need to learn more about the industry, recheck what the
stock's fair value is, listen to earnings calls, read a quarterly report, or learn
more about recent business developments. I certainly need to do more
research on some of my holdings too!
The status quo bias will try to persuade you don't need to take action,
when you really should get out there and work! Remember that you're striving
to get the most you can out of investing, and we want to get the most we can
out of life too!
Doing research takes work, but it's the only way to stay educated! Make
sure you research your holdings at least on a quarterly basis!
@getrichwithrichmond
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RECAP
I know we just covered a bunch of different biases that can hold you
back! This quick exercise will help you to put what you learned into action.
On your notebook, I want you to write down the top 3 biases that you
think affect you the most. For me, I'm picking Overconfidence, Loss Aversion
and Status Quo Bias. Next to each bias, write down the ways that it hurts your
investing. I'll show you mine as an example:
1. Overconfidence - I can get overconfident in my stock picks, and end up
making bad stock picks.
2. Loss Aversion - Sometimes I get so afraid of losing money, that I won't
invest in great businesses. I end up losing out on opportunities.
3. Status Quo Bias - Sometimes I get too lazy to regularly check in on my
holdings. Even though this isn't the end of the world since I have a long
time horizon, this still means that I'm sometimes uninformed about my
stocks.
Now, write down what you can do to fix your situation:
1. Overconfidence - For each stock pick, review why an investor wouldn't
want to buy the stock.
2. Loss Aversion - Weigh the risk vs the reward for each stock by
measuring the return you expect to see vs what you could lose.
3. Status Quo Bias - Spend 1 hour per week per holding to continue to
learn about the business.
In the next chapter, we're going to look at what to invest in.
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CHAPTER 3 - WHAT WE INVEST IN
"Know
whatbelongs
you own,
and who
know
"The future
to those
prepare
forown
it today."
why you
it."
- Malcom
X
- Peter
Lynch
@getrichwithrichmond
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STOCK DO'S AND DON'TS
In a world filled with gimmicks and "get-rich-quick" tricks, I want to look
at some different investing strategies/vehicles. You will learn which of these
vehicles will grant you success, and which are best to be avoided.
I'm going to split the different investing strategies into 3 categories:
Never's, Someday's, and Right Now's. These are based on my degree of
comfort with the strategy/investing vehicle.
Never's are strategies that I will NEVER consider/research/learn because
I believe these strategies are truly flawed. Someday's are strategies that I
would love to try eventually - but they aren't my top priority. And the Right
Now's are the things I'm currently investing in (or would recommend to a
close family member to invest in).
NEVER'S
IPO's (Initial Public Offerings)
Hot Stocks
Day Trading
These kind of investments are NOT in the investor's favor! IPO's are
almost always overpriced. This is the only time that the company can directly
profit from selling shares - so they sell at the highest price possible!
I'm not going to dabble with Day Trading or trying to time Hot Stocks.
You lose your edge as an investor if you have a short timeline. I'd rather invest
when the odds are in my favor, wouldn't you?
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SOMEDAY'S
Precious Metals
Bitcoin
Bonds
International Markets
Swing Trading
Options
Target Date Funds
Mutual Funds
401K
INFLATION HEDGES
ALTERNATE INVESTING STRATEGIES
FUND TYPES
These are my "Someday" strategies. Even though I would really like to try
using these investing strategies to maximize my returns, I am obsessed with
perfecting value investing first and foremost.
Kobe Bryant once said that every offseason, he really focused on adding
just one facet to his game. He could spend the offseason mastering his jump
shot, his dribbling, or his 3-point shooting. His idea of perfecting one area of
your craft at a time has always stuck with me, so it's my goal to master value
investing first.
From the list of all the "Someday" strategies, I'm most excited to learn
about Inflation Hedges, the 401K, International Markets, and Options.
I'm interested in Inflation Hedges and International Markets because
there will be a time that the US dollar will lose its value entirely, since it's a
paper currency. I would love to learn more about Bitcoin one day.
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I'm interested in investing in a 401k because of the tax benefits.
I think that options will be a fascinating thing to learn. I don't know
anything about them right now, but I'm sure that I could use them to boost
my returns as a value investor.
I don't think that swing trading is a viable investing strategy, because I
don't think that past price movements predict future price movements. But, I
would have to test swing trading to be sure of this.
Mutual funds should be avoided if possible. The only reason that mutual
funds are listed on my "Someday" list instead of my "Never" list is that I
recognize that some employees are forced to invest in mutual funds in their
401k.
Lastly, target date funds are funds that switch from high equity and low
bond exposure to low equity and high bond exposure as you age. I think that
this could be a really great way for investors to automatically get bond
exposure as they age.
@getrichwithrichmond
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Index Funds
Roth IRA
Dividend Stocks
Value Stocks
RIGHT NOW'S
MY INVESTMENTS
This is what I am comfortable investing in, and this is what I'd
recommend for new investors to invest in. I am invested in dividend and value
stocks, and I've opened up my Roth IRA, and I plan to fund it in 2021.
You may be wondering, "Do you invest in growth stocks?"
To answer this question, I don't believe in classifying stocks as growth or
value, because any stock is a value stock at a low enough price. I buy great
businesses at great prices.
I invest in dividend and value stocks, because these methods give longterm investors a better shot to beat the market over time. I am comfortable
with spending a little extra time researching stocks so I can beat the market.
Even though I don't invest in index funds, this is one of the greatest
investing strategies for every investor. Index funds take very little research
time, and give average investing results.
I'm not going to talk too much about Roth IRAs or tax-deferred investing
accounts, simply because this book is intended to serve people from all
around the world. If you're interested in learning more about tax-deferred
investing accounts, use Google to research the options available to you.
@getrichwithrichmond
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RECAP
IPOs
Hot Stocks
Day Trading
Precious Metals
Bitcoin
Bonds
International Markets
Swing Trading
Options
Target Date Funds
Mutual Funds
401K
Index Funds
Roth IRA
Dividend Stocks
Value Stocks
This is what I am comfortable investing in, and this is what I recommend
for new investors.
I'm going to teach you how to invest in index funds, then we'll move to
dividend and value stocks. You're going to learn a lot of cool things in the next
chapters!
@getrichwithrichmond
34
CHAPTER 4 - INDEX FUNDS
Index funds are the easiest way to get started investing!
Little to no research necessary
Little to no time required to invest
Average returns
Instant Diversification
Index investing is the easiest way to get average returns from the
market. Index funds work by tracking a certain stock exchange. An S&P 500
index fund, for example, follows the S&P 500 index, by owning a little piece of
every one of the top 500 publicly traded companies in America.
Trying to pick stocks is like trying to find the needle in the haystack. But
buying index funds is like buying the haystack.
Owning these funds gives you instant diversification, so you take on less
risk as an investor. Index funds follow the returns of the general market,
which average an annual return of about 7-8% after inflation (of 2-3%).
Shooting for "good enough" investing returns has made many people very
wealthy, so index investing is certainly a great place to start.
Index funds are really one of the best ways to invest for most people!
But for me, I don't intend on investing in index funds. My goal is to buy great
businesses at great prices to see returns that exceed general market returns.
I do think that it's important for all investors to start by owning index
funds before they get into stock picking. Before I was comfortable buying
individual stocks, I bought general market funds to understand what it was
like to own stocks.
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If you're a new investor - I want you to write down in your notebook that
your first step to investing is to invest in low-cost index funds! Even if your
goal is to pick individual stocks, you should start by investing in low-cost index
funds.
DOLLAR COST AVERAGING
Dollar Cost Averaging is one of the greatest investing methods there is.
There are two steps to this system.
1. Define how much you'll invest every month. (We talked about this a little
in Chapter 1)
2. Invest this money into index funds every single month! Do this no matter
where the market is. It doesn't matter if the market is up, down, sideways,
angry, happy, fearful or greedy!
This method is an incredibly easy way to make good returns over the
long term. Now you might be thinking, "But what if I end up buying when the
market is overpriced?"
Inevitably, you will end up buying stocks when they're overpriced when
you DCA. But, you'll also buy at the bottom.
Because you're investing a fixed monthly budget, you will buy less
shares at the top and more shares at the bottom, which works in your favor.
Additionally, the market has a long term trend of going up, so you'll eventually
make money even after you buy at the top! By developing a system that helps
you to continually invest - you will average into this upward trend.
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DIVERSIFICATION
What's awesome about index funds is they will always be good
investments because they are highly diversified. They follow a broad market
and will therefore track a large collection of businesses. Therefore, you can
pick index funds, continue to invest into them for years, and see fairly average
results.
Let me share with you some highly rated index funds. I don't invest in
index funds, but I know enough about the process to be able to recommend
great funds for you to invest in.
WHICH INDEX FUNDS SHOULD I BUY?
ETFs are basically stocks that allow you to buy index funds. If you're
interested in learning more about index investing, Josh from @financejosh is a
great person to learn from. I follow his content, and I've certainly learned a lot
from him myself.
1. $VOO - S&P 500 (0.03%)
2. $VTI - TOTAL MARKET US (0.03%)
3. $VXUS - INTERNATIONAL (0.08%)
Each fund has a ticker symbol (starts with $), the benchmark it tracks,
and its expense ratio. With $VOO, you buy into the S&P 500, with $VTI, you get
the S&P 500 + bond exposure, and with $VXUS, you get international
exposure too. If you're not from the US, search for "Total Market US ETF" on
Google to find an ETF that you can invest in from your country.
@getrichwithrichmond
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RECAP
I want to take a quick second to recap index funds, so we're all on the
same page. Let me show you a little recap on how index investing works:
Index investing = Regularly investing in low-cost index funds - no matter
what the market is doing
7-8% returns adjusted for inflation over the long run!!!!
Index funds are great investments! I teach index investing because I'd
recommend this strategy for new investors who want to build their wealth,
but don't want to pick stocks.
If my sister started investing (which I'll soon teach her how to do :) ), I
would advise her to take this route, because I don't think that she really enjoys
stock picking (she doesn't really get excited when I talk about all the new
stocks I'm researching lol) Index investing will be perfect for her, because it's
so EASY, that anyone can do this and build long-term wealth!
If you're reading this and you haven't started investing yet, index
investing is the first step that you need to take. On your note sheet, write
down, "I need to learn index investing." Even if you want to pick stocks, I
recommend that you invest in index funds. Before I started investing in
individual stocks, I invested in broad market funds too.
I'd also advise you to browse online content about index investing! On
Instagram, two really great people to learn index investing from are
@financejosh and @personalfinanceclub.
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CHAPTER 5 - WHAT ARE STOCKS?
Before I teach you guys how I pick stocks, I want to explain some of the
basics of what the stock market really is. This will give you the vision and the
capabilities to be ready to learn the game.
WHAT IS THE STOCK MARKET?
Basically, the stock market is an auction house that connects people
who are looking to buy stocks with people who are looking to sell their stocks.
The stock market is operated similarly to other types of markets.
WHY DO STOCK PRICES CHANGE?
Stock prices change because of the forces of supply and demand. If
there is high demand for a stock, the price will rise, because there are more
buyers than sellers. If there is low demand for a stock, the price will fall,
because there are more sellers than buyers. Stock prices can fluctuate
because of recent news, earning report releases, and a multitude of other
reasons. However, most of the things that cause stock prices to swing wildly in
the market only affect the stock’s short term price. As Benjamin Graham (the
father of value investing) once said, “In the short run, the market is a voting
machine but in the long run, it is a weighing machine.” This basically means
that in the long run, stocks will rise to what they are really worth.
HOW DO INVESTORS MAKE MONEY?
Investors make money because each share that they buy represents a
small piece of ownership in the company. Stock prices rise from a business's
profits (earnings), a business's dividend payments, and if a business starts
trading at a higher P/E multiple, because the business is seen as being higher
value to shareholders.
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SO HOW DO WE PICK STOCKS?
Alright Value Nation. We have a basic idea of what stocks are, and how
they work, which helps us to see how stocks can work for our benefit.
The two types of stock market investors are technical investors and
fundamental investors. These two different types of investors have different
ideas on how investors should choose their investments.
TECHNICAL ANALYSIS
Technical Analysis is rooted in the idea that a stock is worth exactly what
SOMEBODY ELSE WILL PAY FOR IT. Therefore, technical investors spend a lot
of time trying to figure out how much someone will pay for a stock. Technical
investors use past data to help predict future price movements.
I am not a technical investor. I do not believe that technical investing is a
viable investment strategy, because I do not trust that past price movements
will predict future price movements.
Remember in the Prologue how we talked about Game Theory? I believe
that traders play the Finite Game when they try to predict price movements.
Technical investors will struggle from the randomness of the market in the
short term, and traders end up paying more taxes on their gains than
investors.
Technical investing is not a method that I would recommend. To be fair,
I haven't tried it. There is a chance that it could be a great strategy. But I do
not trust that this strategy will yield me consistently high returns.
@getrichwithrichmond
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FUNDAMENTAL ANALYSIS
If you couldn't tell already - I'm a fundamental investor.
Fundamental investing is based around the idea that every stock has an
intrinsic value. The intrinsic value is a theoretical idea for the exact value of a
stock.
Here's a simple way to define intrinsic value. You know when you go to a
carnival, or a little kid's birthday party and there's a big jar with like a million
marbles inside? And everyone gets to write their guess on a little slip of paper
for how many marbles are in the big jar?
Knowing how many marbles are in the jar is kind of like knowing the
intrinsic value of a stock. Fortunately for us, it's even easier to find a stock's
intrinsic value than it is to guess at the number of marbles in a jar.
The intrinsic value of a stock is the PRESENT VALUE of its future cash
flows (or future earnings and dividend payments) that the business will
generate. We'll talk more about valuing stocks later.
@getrichwithrichmond
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COMPOUND INTEREST!
Compound interest is one of the most important parts of long-term
investing! Most people don't understand that compound interest can help to
grow their money exponentially, so they never take advantage of it.
"Compound interest is the eighth
wonder of the world."
- Albert Einstein
The wonderful thing about Compound Interest is that your interest will
start to earn you interest when you're investing. Let me explain it like this:
Have you ever rolled a tiny little ball of snow into a massive snowball?
Did you notice that it seemed to take forever to "get the ball rolling"? That
damn ball took forever to grow and get snow to stick to it.
But then, the snowball started to grow really quick. It seemed like snow
started getting sucked into the giant monster you created!
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This is the power of compound interest! When you invest, all of the
money that you make gets reinvested. This helps to "grow your snowball". As
a result, you'll make more money next year, because you have a larger
investment base! Eventually, your money will see exponential growth - and
that's so freaking cool! Let me show you a picture down below of Warren
Buffett's wealth by age to show you the power of compound interest:
The point of the story is - INVEST WHILE YOU ARE YOUNG!! This will give
your money more time to compound! This was used with permission from my
friend @carbonfinance; he has great visual investing content.
@getrichwithrichmond
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CHAPTER 6 - MY INVESTING STRATEGY
LEARN, BUILD, BUY STRATEGY
I created a strategy called the Learn, Build, Buy Strategy to explain how I
make my investments. It's simple to understand, yet tough to master:
1. LEARN what types of stocks you'd like to buy
2. BUILD a list of stocks that fit this criteria
3. BUY these stocks when they reach great prices
I'm going to walk you through how you can apply this strategy to your
personal investing. Keep in mind, I'm not perfect, and I'm continuing to
develop this strategy for myself, because I can always improve my methods to
get better results. I'm learning new secrets to find the best types of stocks to
buy, I'm adding more stocks to my watch list, and I'm developing better ways
to value stocks (so I'm more confident when I make an investment).
Even though this is an on-going process, I believe that we can eventually
hit a critical mass with our stock lists, so all we have to do is check our stock
watch list to find undervalued stocks to buy. I'm still building my stock list, and
innovating how I value and evaluate stocks so I can execute on the process
quicker - but I hope to reach this "critical mass" point by the end of 2021.
So I'll walk you through the Learn, Build, Buy strategy. As I continue to
improve on my process, I hope to share more tips and strategies with you on
my Instagram, and also on the Value Nation Podcast that I'm launching on the
first day of 2021. If you're reading this right now, chances are that some
episodes are already up! This podcast will document my investing journey,
and teach you what I'm learning in real time.
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1) LEARN
The very first thing to understand when you are learning to analyze a
stock is that there are two types of fundamental analysis - qualitative and
quantitative analysis. Both qualitative and quantitative analysis are essential to
making educated investments.
QUANTITATIVE ANALYSIS
Quantitative analysis is a way of analyzing a business by using the
business's numbers (the company’s financials). This is a strong way to get an
understanding of a business's strength because Numbers don't Lie. When I
perform quantitative analysis, I read over the company’s most recent balance
sheet, and I look at its history of revenue, earnings, and profitability to get a
feel for the company’s overall health and to see if they will continue to have
success. In the next few pages, I'll dive more in-depth to describe EXACTLY
what I'm checking for each stock, so you can find awesome stocks too!
@getrichwithrichmond
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RESOURCES
Before I teach my stock strategy, I want to share the resources that I
use. These are my favorite tools that I've found after trying an assortment of
research tools and analyzing hundreds of stocks. If you would like, you can
save these links as bookmarks for easy reference:
Morningstar
^ This is the best tool for quickly analyzing a stock's numbers, and it's free.
Many people opt to use Yahoo Finance to analyze stocks, but I have
found this to be a huge waste of time. Yahoo Finance provides just 4 years of
financial statements, and very few metrics that help you analyze stocks.
However, I use Morningstar's free tool because it provides you with 10 YEARS
of financial data and key ratios to quickly summarize everything you need to
know about a stock. This gives you much better insight on a stock's history! 10
years of financial data is pretty cool right?!
To use this, all you have to do is substitute Microsoft's ticker symbol
(MSFT) in the URL for the ticker symbol of the stock that you'd like to research.
Fidelity
^ This is the best tool that I've found for learning about a particular industry.
Simply open a free Fidelity account, and click on a specific industry under
the "News & Research" tab to learn more. I'll explain this later in more detail,
but I'd recommend bookmarking both links for now.
@getrichwithrichmond
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QUALITATIVE ANALYSIS
On the other side of the coin is the qualitative analysis of a business.
Back when I started stock picking, I thought that I could achieve greater
success with stocks by selecting stocks purely based on their numbers. I'm a
huge math guy, so this made logical sense to me.
But as I started to understand investing more and more, I realized that
there was more to investing than cold-hard numbers. Even though I'm not
married, I consider that investing in a stock has to be a lot like marriage. When
you invest, you want to stay with that stock for as long as possible, so you're
going to really need to know what you invest in.
Would you marry someone based on if they checked off all the boxes on
paper? Well... you'd have to do more digging to find out! Because there are a
lot more variables that go into making a big decision like that.
Like a relationship, I've found that it's important to understand stocks
past the physical, cold-hard numbers, and really understand everything about
the business. After analyzing hundreds of stocks, I've found some of the most
important qualities that determine investing success. We're going to look at
each one of these qualities more in-depth later in this chapter.
@getrichwithrichmond
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USING ORIGINAL SOURCES
Have you ever been in a situation where you've really wanted to know
something about a stock, so you start browsing around online? And then
there's basically no relevant data that pops up and you're stuck. We've all
been there before, right?
Before we learn how to find great investments, I want to teach you how
you can read a company's original documents - so that you can make your
own investing decisions! When you don't understand how to interpret what a
company publishes - you are at the mercy of those who CAN interpret what a
company publishes to read it and bottle-feed it to you. Then, those same
people can put their own twist on the information, or turn around and misuse
the information to get you to buy or sell a stock!
So I really want to teach you how to analyze a company's original
documents, because I realized that when I started out, I was at the mercy of
other people to analyze these companies for me. I didn't want to be
dependent on anyone, so I knew I had to learn these skills for myself, and that
is why I'm so excited to teach you EXACTLY what I've learned, and how I apply
this knowledge!
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There are three types of original sources that I like to use to analyze
companies. It's important that you learn to use all of these sources:
1. Annual Reports
2. Financial Statements
3. Earnings Calls
When you find a stock that you would like to buy, I have learned from
personal experience that you must read/listen to EACH of these sources for
the business you are seriously considering. It takes time, but it is important.
I remember when I learned that I had to take a couple hours to seriously
review EVERY STOCK I WAS SERIOUSLY CONSIDERING INVESTING IN, and I
thought, "Well maybe I don't need to spend all this time doing the research.
Maybe I can cut out the Earnings Calls or the Annual Reports, and still get a
good enough understanding of what the company is all about."
What I discovered was that researching a company is a lot like exercising.
Sometimes exercise sucks when you're doing it, and you really want to pack
up, go home, take a shower and call it a day. But then you realize that by
skipping out on the extra sets and the extra reps - the only person that's
getting cheated out is yourself.
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I've found that if you don't do enough research on a company, it will one
day come around to bite you in the butt. It's going to bite you in the butt
because at some point - the company's stock won't be doing well, and if you
haven't done proper research, you're going to panic. If you HAVEN'T done the
research, you're going to question whether the stock is any good.
Another way that not spending enough time on research can really kill
you is if you end up picking stocks that poorly perform. I have been in
situations where I rushed to pick stocks and didn't do enough research, and
picked poor companies. This is no good. So make sure that you're doing all
the research that's necessary so you can see great success in your stock
picking!
In the Bonus Chapter at the end of this book, I'm going to give you a
run-through of how to analyze a company's original documents. This will help
you to be able to freely select investments on your own.
@getrichwithrichmond
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CRUCIAL STEPS FOR STOCK ANALYSIS
1.
2.
3.
4.
5.
6.
Industry Analysis
Long-Term Profitability
Financial Strength
Growth
Shareholder Rewards
Durable Competitive Advantage
"The key to investing is not how much an
industry will affect society... but rather its
ability to make and sustain profits."
- Burton Malkiel
@getrichwithrichmond
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INDUSTRY ANALYSIS
Analyzing the industry a company is in is one of the most important
things that you can do. Over the long term, a company can't beat its industry's
economics.
This is kind of like in Real Estate - have you ever heard the phrase, "Buy
the worst house in the best neighborhood?" This is great for real estate
investors, because with a little home improvement, the house will rise in value,
and continue to appreciate over time. With stocks, you could say that your
goal is to buy the most underpriced stock in the best industry.
Here are some important things to look for in your Industry Analysis:
1. Are companies in this industry highly profitable?
2. What's the future for companies in this industry?
3. What are the threats and what are the opportunities facing companies in
this industry?
I've found that the best way to perform an industry analysis is to read as
much as you can about the industry. Ultimately, the future of a particular
industry is highly subjective, so it makes sense to look at many different
expert's opinions to analyze a certain industry!
The best place that I've found to get expert opinions on different
industries is to check out the stock research section at Fidelity.com. To check
out these reports, open a free account at Fidelity.com, and go to "Stocks"
under "News & Research". Once you click on a certain sector, you can find
reports on each different industry.
@getrichwithrichmond
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Read the CFRA report (the orange text in the picture) for the industry
that you're interested in learning about. I would recommend that you read
the entire report, because these reports are very insightful. It will be about 4060 pages, and taking an hour or two to read the report will really benefit you.
Open a free Fidelity account and go to News & Research to take a look
at these awesome resources!
@getrichwithrichmond
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LONG-TERM PROFITABILITY
Another one of my favorite (and easiest!) metrics to check is a business's
long-term profitability. I like to see over the past 10 years that the business
has an average of at least:
1. 15% ROE (Return on Equity)
2. 10% ROIC (Return on Invested Capital)
Formulas:
ROE = Net Income / Shareholders' Equity
ROIC = Net Income / (Shareholders' Equity + Total Debt)
This high rate of business profitability is very desirable for a couple of
reasons. First, as a potential investor in the business, you need to know that
the business is efficiently using its investors' capital to create profits! ROE
measures a business's efficiency of creating profits from its shareholders'
capital, so you want to see a high percentage here.
Second, a history of very high profitability could be a sign that you're
looking at a strong business. Companies with high profitability are favorable
because they typically have pricing power, which means they can charge
higher prices for their products than their competitors. This is a sign that the
business is doing something right, and could signify that the business has a
durable competitive advantage. I'm going to talk about what a durable
competitive advantage is a little later in this chapter, because it's one of the
most important concepts in investing.
@getrichwithrichmond
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One thing that I want to draw attention to is that I look at ROE and ROIC
TOGETHER, because looking at just one means that you might miss out on the
full picture.
I often see companies with really high ROEs, but really low ROICs. After
analyzing hundreds of stocks, I learned that this is a BAD sign.
Basically, a high amount of debt can build a large separation between
the ROE and the ROIC of a business. Think about it - if a company had a high
amount of debt, and very little equity funding, then naturally its ROE would be
very high, because the equity in the denominator would be very low. But its
ROIC would still be low, because it would have debt and equity in the
denominator. This is a very important thing to watch out for, because you will
see it countless times with companies that look great, but are actually highly
leveraged with debt.
Checking a company's ROE and ROIC is really one of the most important
things you can do to see if a business will have a great long term future. This
is something that I always pay attention to, and study for each business that I
look at.
For all of my long term holdings, it's a requirement that they have a
history of strong profitability.
@getrichwithrichmond
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FINANCIAL STRENGTH
I love to analyze a company's financial strength to make sure it's a
company that's fiscally fortified.
Think about it - you'd rather invest in a company that's strong and has
got big muscles, then a company that's weak and wimpy right?
There are 2 big things that I check when I'm looking at a company's financial
strength:
1. Quick Ratio
2. Total Debt/Equity Ratio
The quick ratio is a way of knowing if a company can meet its short term
obligations with its assets that it has on hand. The quick ratio simply
measures a company's current assets (minus its inventories and prepaid
expenses) divided by its current liabilities. This data is found on a company's
balance sheet. With this ratio, you measure if a company's on-hand cash and
receivables can pay for its upcoming payments. I like to see a quick ratio
greater than 1.
The next ratio that I like to check is the total debt/equity ratio. I like to
check this ratio, because I like to see that the business is well financed. To find
this ratio, add short term debt and long term debt, and divide by
shareholders' equity. I like to see this ratio be less than 1. If it's greater than 1,
than that business is probably taking on a little too much debt, and we don't
want that with our stocks.
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GROWTH
Ahhh, who doesn't like to see a stock grow! Wall Street loves everything
about growth. Traders like to speculate on a stock beating its earnings
estimates. Investors will bet stocks higher and higher based on a stock's
potential for future growth.
For all of these reasons, tracking a stock's growth kind of annoys me. I
am much more focused on buying a great business than focusing in on, "How
much is this business going to grow?"
Nevertheless, it would be foolish to disregard growth in a stock.
Investors pay more money for growing stocks, and rightly so! We'd rather see
a stock that is continuing to grow, right? So let me lay out how I factor growth
into my stock analysis:
The first thing I like to check is a company's PAST growth. What is the
average annual revenue growth over the past 5 and 10 years? What is the
average annual EPS (earnings per share) growth over the past 5 and 10 years?
It's very important for me to see positive growth for both.
But how much growth does a stock need for me to make an
investment? And how do I make growth projections for a stock?
First of all, I'll buy a stock that has any amount of growth. Think about it:
Wouldn't you want to buy an incredible business that's churning out profits even if it's not expected to grow? All I want to do is buy great businesses at
great prices.
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However, I have found that it's very important to be able to make
realistic projections about what the future growth of the business will be,
since a business's expected growth helps to determine its intrinsic value.
So how do we determine what rate a business will grow at? That certainly
is a good question. The truth is, since we are ultimately guessing about the
future when we make growth projections, we have to make conservative
estimates, to guesstimate what a stock's growth rate will be. Basically, we want
to shoot low, so we will be pleasantly surprised that our stocks grew at a
higher rate than we expected!
I have two ways of projecting a stock's future growth. First, I'll look at the
average annual growth rate of the revenue and EPS of the stock over the past
10 years. If a stock has been consistently growing at this rate over the past 10
years, we can assume that a stock will continue to grow at this rate moving
forward.
Now, there are obvious exceptions to the idea that a stock will continue
to grow at its past growth rate. Inevitably, stocks will have to slow down as
they become too big to continue growing fast. If you see a stock that has been
growing at double digit rates - it can not continue growing at that rate
indefinitely, and it will someday slow down. Additionally, if a business has
made major changes in the past few years, there may be good reason for
growth to slow down, or even speed up!
I also like to go to the Analysis section of Yahoo Finance and check out
their projections for the growth rate for the next 5 years. If their projection
seems reasonable compared to past growth rates over the last 5 and 10
years, then I can use this number in my calculations.
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There's no way to project EXACTLY what rate a stock will grow at. So, I
simply shoot to get a good enough estimate of what rate a stock will grow at,
and I move on.
As a reminder, we want to invest in predictable, stable businesses.
Fortunately for us, these businesses usually grow in a stable way over the long
term, so we can make fairly accurate estimates of what rate the business will
grow at!
As investors, figuring out what rate the business will grow at shouldn't
be too hard, when we invest in stable, consistent businesses. We should be
able to find reasonable growth projections by looking at past growth and by
checking out analyst estimates of growth.
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SHAREHOLDER REWARDS
This section is going to be amazing! We're going to be looking at ways to
see how a company can reward shareholders, and we'll see how to find
companies that will make us very wealthy. It feels pretty cool to get paid
doesn't it?!
In this section, we're going to talk about how a company can spend its
profits. Learning the fundamental concept of how a company can use its "leftover" money after it pays its expenses was literally a life-changing discovery
for me. I finally understood how shareholders made money from their stocks!
There are three ways a business can use its profits:
1. Business reinvestments
2. Share buybacks
3. Dividends
Even though we all like to get dividends, because we like to get cash that
comes back to our account, it's best to find companies that can reinvest in
themselves at a high rate of return. You might be thinking, "Why should the
company get to keep all of their profits and not give some to me?"
Well actually, if all of its profits were spent on business reinvestments, it
would inevitably benefit shareholders. Think about it - businesses rise in value
from business reinvestments, so shares will be worth more!
But there can be problems with spending lots of money on business
reinvestments. Some businesses reach the point that they can not find
profitable ways to reinvest in themselves!
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Think about it! Coca-Cola can only make so much more profit by dumping
millions more dollars into their advertising. They already have the whole world
drinking their drinks!
Many businesses will reach a point where spending all of their money on
business reinvestments becomes unprofitable. Even though it would be
unprofitable to reward shareholders by growing the business, companies can
still reward shareholders through share buybacks and dividends.
Even though dividends are awesome, and it's so cool to get money sent
directly to your investing account - share buybacks are more effective for
rewarding shareholders. With share buybacks, a company repurchases its
own shares, decreasing the number of shares left outstanding. This rewards
investors, because every share will grow in value as the number of shares
outstanding decreases.
Share buybacks are one of Buffett's favorite ways for companies to
reward investors. Even though Buffett loves dividends, there is a small flaw in
dividends, that actually makes share buybacks more efficient.
There is a little known rule in finance that dividends are double taxed.
Since corporations pay taxes on what the business earns, and investors get
taxed on their dividends, dividends end up getting double taxed. This extra
taxation causes dividends to be a little less tax-efficient than share buybacks,
but they are still a great way for a company to reward its shareholders.
At the end of the day, its important that the company uses profits to
yield high returns for shareholders. Investors should make sure that a
company is using its money to fairly reward shareholders through buybacks,
dividends, and smart business investments.
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DURABLE COMPETITIVE ADVANTAGE
I learned the concept of the Durable Competitive Advantage in a book
called The New Buffettology, which was actually written by Warren Buffett's
former daughter-in-law. This was the secret that I needed to be able to find
great companies, and reading about the Durable Competitive Advantage blew
my mind.
You've probably heard a million times before, "Invest in companies with
moats!"
But what the hell does that actually mean?
A company with a durable competitive advantage is a company that will
be able to continue selling their products at a PREMIUM PRICE indefinitely,
with minimal capital investment in the future. Let me show you how Coca-Cola
is a great example of a company with a durable competitive advantage:
1. Coca-Cola's brand name makes it an industry-leading product
2. Coca-Cola products will continue to be sold for a very long time. People
will always need to drink, so they'll have to turn to Coca-Cola
3. Coca-Cola does not need to spend tons of money to sell their products.
They don't have to pour billions of dollars into researching new products
- they just keep reselling the same old drinks.
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This is so so so critical to understand! Many people understand the
concept of buying a great business - but they don't understand that it's best
to buy a company with a DURABLE advantage.
Buffett avoids companies that must innovate to survive, because these
companies don't have a durable advantage. This is why he's avoided buying
tech companies in the past.
Companies that are forced to innovate to stay competitive can be risky
as an investment, because these companies run the risk of losing the edge
that they have in the market, if they can't innovate quick enough. This is really
bad! Additionally, companies that have to innovate will end up wasting a lot of
their profits buying new things to stay competitive. Huge investments in R&D
(research and development) and capital expenditures eat away at the money
that businesses can return to shareholders!
That is why Buffett is a huge fan of buying food and drink companies.
These companies can build brand loyalty by serving great food, and people
will have to continue to buy their products, because people will continue to
get hungry. What's even more great about food companies is that they don't
have to waste billions of dollars researching new food - they just keep selling
the same old food!
This is a bit of an introduction to the way that Buffett picks his long term
holdings. If you'd like to learn more about this, I'd recommend that you read
the book The New Buffettology, because it goes really in-depth to show the
ways that Buffett picked companies with a durable competitive advantage.
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RECAP
We want to build wealth for the long-term right? There's six important
things that you need to check to see if a business is worth your money!
1.
2.
3.
4.
5.
6.
Industry Analysis
Long-Term Profitability
Financial Strength
Growth
Shareholder Rewards
Durable Competitive Advantage
It's super important to understand these concepts to be able to make
wonderful investing decisions time and time again. If these concepts didn't
quite stick with you - I'd recommend that you reread the page, and perhaps
do some independent research if you still have questions. These 6 CRITICAL
pieces of stock selection will help you cut out the investing noise! Master it!
I've heard many people say that you can only beat the market if you get
lucky. While there's definitely some luck in investing, I also know that Warren
Buffett has made hundreds of investments, and that Berkshire Hathaway has
grown at a rate of 19% annually (according to Investopedia). In Buffett's glory
days, he averaged 30% annually. There is considerable merit in following the
Buffett way, and investing in great businesses for the long term.
After studying the greatest investors and analyzing hundreds of
businesses myself, these six categories will help you find great businesses to
invest in.
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2) BUILD
Once you know what qualifies a stock as an investment - you need to
take action and start building a massive list of great businesses that you'd like
to buy at the right price!
You might be thinking, "Thomas, I have no idea where I'm going to find
all these great businesses to build my list!" When I started off building my
stock watchlist, I felt the same way. I didn't know which stocks I wanted to buy.
But here's an easy way to get started. Go on Google and search for
"stocks with durable moats". Basically, start writing down all of the results that
Google gives you, until you have a list of stocks with moats.
Then, you can go back, research each stock, and see if these are
companies that you would want to hold for the long term. I've done this
strategy to find stocks with moats, and I'd also recommend researching
Dividend King and Dividend Aristocrat stocks too. These stocks are consistent
dividend paying companies that have a history of consistent results.
Now, the next thing you want to do once you've built your list, is you'll
want to throw all the stocks in your list onto a spreadsheet, so you can quickly
track them.
Don't worry - this is not too difficult. I started by building a simple
spreadsheet on Google Sheets that tracked every stock's Ticker Symbol,
Research Date, Current Price, Target Price, and Estimated Fair Value price.
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But as I continued to build the list - I wanted more functionality! I
wanted the spreadsheet to automatically update and do the heavy lifting for
me. I had no idea how to build a working spreadsheet when I started doing
this, but I found that it was easy enough to learn by going online. You can
YouTube "how to build a stock watchlist" to learn how to build great
spreadsheets that track stocks for you.
I added extra features to my Personal Spreadsheet because I want my
spreadsheet to become an all-in-one tool that alerts me when I should be
thinking about buying stocks. I'll show you a little screenshot of the
spreadsheet below:
b
This spreadsheet helps me to keep tabs on what stocks might be
underpriced at the moment, and it's been extremely helpful for me to keep an
eye on all the stocks I watch. I'd recommend you start building a spreadsheet
that tracks the metrics with the red arrows, so you can start to build your list
of stocks to buy! Then, you can add other metrics to get more insights.
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3) BUY
The most important part of learning how to invest is learning WHAT
stocks to buy, and WHEN. In the first part of the Learn, Build, Buy Strategy, we
talked about WHAT stocks you need to buy, but now we're going to talk about
WHEN you should be buying these stocks.
Basically, we want to buy stocks when they reach a great price. One of
Ben Graham's core ideas behind The Intelligent Investor was that stocks
become more attractive the lower they fall in price, and less attractive the
higher they go in price. This makes sense right? It's basically like buy low, sell
high.
LESS VALUE
MORE VALUE
One thing to keep in mind! You will have to retrain your brain to run
TOWARDS stocks when they fall, and run AWAY from stocks when they rise.
It's human nature to run towards rising stocks, and away from falling stocks.
The human brain naturally expects patterns to continue, so your intuition
would tell you to buy rising stocks. You want to buy great businesses that are
currently trading at an undervaluation.
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CONSERVATIVE ESTIMATES
Now you're probably thinking, "How in the world do I figure out what a
stock is worth? How do I actually know when to buy a stock?"
This has been one of the most difficult investing questions for me to
answer. Let me tell you a little secret - no one can tell you what a stock is
EXACTLY worth. To be able to know exactly what a stock is worth today, you
would have to know exactly what a stock would trade at at some point far in
the future. And that is impossible.
I want you to understand that valuing a stock is simply making an
educated estimate of what the stock is worth. It's just an estimate, not an
exact science. You would have to be able to tell the future to be able to know
exactly what a stock is worth. I wish we could tell the future, but as far as I'm
aware, we can't.
The next best step to predicting the future is building a conservative
estimate of a stock's value. Using a conservative estimate (also called a margin
of safety) protects you in case your analysis is off.
Buying a stock based on conservative estimates is kind of like preparing
a big meal for your family. Unfortunately, no one is going to tell you exactly
how much they want to eat for dinner, so it becomes your job to pick up the
right amount of food at the food store to feed everyone! When you get to the
grocery store, you're probably going to pick up a little more food than you
need. That way, you know you're going to have at least ENOUGH food to feed
everyone. Even though some of the food might become tomorrow's leftovers,
it's better to have a little too much, than not enough.
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So here's how cooking a family dinner ties back to investing. When you
went out to grab food at the store - you made an estimate of how much food
you'd need. But then you also grabbed some extra food, in case people
ended up being a little hungrier than usual. You used a conservative estimate
to make sure you had enough food!
With stocks, you're going to make an estimate of what a stock is worth.
However, you want to be conservative, and buy with a margin of safety! In the
same way that you're adding extra goodies to your cart at the store, you're
trying to buy your stocks a little cheaper, so that you have the potential for a
greater upside, and less of a chance of "running out of food."
DO I BUY FALLEN STOCKS?
We've talked about WHEN you'd like to buy stocks. Basically - it's better
to buy stocks cheap than pay a high price for them. That makes sense right?
But a big problem that I ran into when I was first starting with value
investing is I started looking for stocks that had big price drops. I figured, "If a
stock drops far enough, more often than not it will be a good buy." However,
this thought process led me down the wrong path!!!
Back in March, the Coronavirus was starting to become a global problem,
and the stock market was starting to notice. Being a wide-eyed, young Value
Investor, I knew that there were huge deals in the market, and I was excited to
start buying as prices fell! Unfortunately - I started to look for the businesses
that were slammed the hardest - and I started to buy those stocks.
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I bought the airline stocks American Airlines and United Airlines. In my
head, I thought this was a great move, because airlines had plummeted, and I
knew they'd recover over the next 5 years. Additionally, $AAL and $UAL had
fallen the most - so I figured they were even better buys!
Here's what I didn't factor in. The airline industry is price competitive,
which makes it hard for any business to make more than average profits.
Additionally, the highly capital-intensive business model means that the
company is forced to take on lots of debt to open new airports and buy new
airplanes. To make matters worse - airlines are a cyclical industry! When
money is tight, people don't take vacations, and businesses cut back on their
travel expenses. Later, I learned that it's a generally accepted rule that
investors should AVOID investing in the airline industry entirely.
So I learned the hard way that you can't just buy stocks when the price
falls! Even though it seems like a smart way to make sure you're buying low
and selling high - bad businesses will only take you so high. Instead, I want to
teach you how to "Buy" following my Learn, Build, Buy Strategy. That way, you
can know the right prices to buy great businesses - so you can maximize your
returns! Pretty cool right?
The secret to knowing when to buy stocks is to understand stock
valuations. How does someone actually come up with the fair value of a piece
of a business? I'm going to explain the different ways that security analysts
value stocks all the time, and I'm going to teach you how you can do this by
yourself as well.
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VALUING STOCKS
There are 3 types of stock valuation techniques:
1. Present Value Models
2. Asset Based Models
3. Value using Multiples
I was stuck using a variety of techniques to value stocks that spanned
under all three of these categories, but it finally all clicked in my brain when I
learned about these three categories! I learned the 3 categories for stock
valuations while I was watching a LearntoInvest YouTube video (this is an
amazing channel), and it was sort of an "AHA" moment for me because
everything came together!!
Before I present these models, I want to let you know that I'm not going to
go into detail on how to build the different stock valuation models, because
there are wonderful videos on YouTube that teach you exactly how to build
spreadsheets for yourself so you can value stocks.
In addition, I've added downloadable spreadsheets for my most popular
valuation techniques in Value Investing Academy. Enrolling in the course is a
great way to get instant-access to done-for-you spreadsheets + top level
training.
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PRESENT VALUE MODELS
Present Value Models are my favorite stock valuation models. These
models work best for valuing fundamentally sound, stable companies (which
are the ones we like:) ). Basically, you make future projections for how the
company will grow, and you find out what a fair price would be to pay TODAY
for that future growth. Two of my favorite models are:
1. Discounted Cash Flow
2. Dividend Discount Model
Discounted Cash Flow: DCF is probably the most popular investing
valuation technique out there. Basically, you make conservative projections of
a company's future cash flows, and you discount those future cash flows to
see what they are worth today. DCF is great, because it measures cash flow,
which is the money that a company uses to reward shareholders (by growing
the business, buying back shares, or paying dividends). DCF doesn't work too
well for financial companies, but it works like a charm for almost all other
types of stocks.
Discounted Dividend Model: I don't use DDM too much, but I've found
that it can be quite a valuable way to value consistent dividend paying
companies, especially when these companies pay out a large percentage of
their earnings. Basically, you value the business based on how much the
company's dividends will be worth. I've found that the DDM isn't super reliable
because it tends to be very dependent on just a few inputs. However, it can
definitely be a tool to help you value consistent dividend paying companies,
like Coke, Pepsi, Johnson & Johnson, and others.
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ASSET BASED MODELS
Asset Based Models value a business based on what the assets of the
business are worth today. This kind of valuation works best for companies
that are near liquidation state or for companies that have a large amount of
tangible assets (lots of real estate, lots of natural resources, etc). This could be
a great way to find companies with "hidden gems" (undervalued physical
assets).
Personally, I don't use this valuation model, because I don't invest in
companies near liquidation state and I don't look for "hidden gem"
companies. I've never done it before, and I just don't understand the process.
But I know that this valuation model works great for companies that
deal with natural resources (oil, mining, etc.). Also, a new application of this
model could be finding undervalued companies with lots of real estate! While I
haven't tried this, you may have luck investing in companies (mall REITs, office
REITs, etc.) that own large amounts of real estate that have become
undervalued due to the Covid-19 pandemic, eCommerce trends, and the work
from home movement. Again, this isn't something I'd endorse or recommend,
because this is something I don't understand how to do.
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VALUE USING MULTIPLES
Multiples are a great way to get an initial idea if a stock is underpriced
compared to other stocks IN ITS INDUSTRY. These are some of my favorite
multiple-based valuation techniques:
1.
2.
3.
4.
P/E (Price/Earnings)
PEG (Price/Earnings Growth)
P/S (Price/Sales)
P/FCF (Price/Free Cash Flow)
Price/Earnings measures a company's share price to its earnings per
share, and Price/Earnings Growth measures the P/E ratio to annual EPS
growth. On the next page, I'll show you a helpful chart I use to help me
determine what P/E a stock should trade for.
Price/Sales measures a company's share price to sales per share. I don't
use this too much, but I've heard great things about it. It is one of the more
helpful ratios to help determine an undervalued business.
Price/Free Cash Flow measures share price to free cash flow per share.
This metric works in a similar way to the P/E ratio, because earnings and FCF
are usually pretty close. The advantage to P/FCF is it works really well when
you're using the discounted cash flow model, because then all of the numbers
you use are in terms of cash flow. Stocks tend to trade around 10-15 for
P/FCF.
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FAIR P/E RATIOS BASED ON GROWTH
This chart is called Katsenelson's Absolute P/E Ratio. This was a helpful
tool that I came across as I was learning about stock valuation, and it can be
really helpful! This chart can be a great reference to let you know what P/E a
stock should trade at based on its EPS growth rate, and its dividend yield.
First, you use the expected EPS growth rate to find what the P/E of the stock
should be, and then you add additional points to the P/E ratio based on the
stock's dividend yield. I don't use P/E ratios very much in my stock valuations,
because I prefer to use the DCF method, but this is certainly a good tool to
verify your fair value estimates of a stock, and I'll show you how you can apply
this in the next page. Take a screenshot of this!
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PROJECTING A FAIR P/E RATIO
Let's see how you can put this valuation model into action! For this
demonstration, I'm going to look at a company called Foot Locker, and I'm
using Katsenelsen's Absolute P/E model to find what $FL should trade at
today.
This model relies on a stock's projected annual EPS growth, and its
dividend yield. Over the past 5 years, Foot Locker saw an average of about 5%
annual EPS growth (I found this on Morningstar), and as of December 2020,
Foot Locker has a 1.5% dividend yield. For simplicity's sake, let's assume that
Foot Locker will continue to grow EPS at 5% annually.
You can see on the chart on the last page that since Foot Locker is
projected to see 5% EPS growth, it should trade at a P/E of 10.25. Then, you
add an additional 1.5 to the P/E ratio (because it has a 1.5% dividend yield)
and you can see that a fair P/E for Foot Locker is 11.75. Foot Locker is trading
at a P/E of 12.66 as I write this, so it could become undervalued in the future if
the stock price fell!
I want to address that this valuation technique certainly has flaws. I had
to choose a small company like Foot Locker for this demonstration, because
many large cap companies trade at premiums well above their "Fair P/E ratio,"
because these companies have better trust from investors. Therefore, it may
be tougher to find incredible deals when you're looking at large cap
companies! Additionally, it's unwise to look at just two metrics to find the P/E
ratio of a company, but it can certainly be a great way to get a ballpark
estimate of a stock's value.
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RECAP
In this chapter, we learned the ins and outs of the Learn, Build, Buy
Strategy together! This investing strategy has simplified investing for me, so I
know it will take your investing to the next level too!
First, we talked about qualitative and quantitative analysis. These are
two sides of the investing analysis coin, and both are vital in making educated
investing decisions.
Next, we broke down the "Learn" Strategy. The goal is to learn exactly
what types of businesses you would want to invest in for the long term and
we can use the 6 steps below to find great businesses:
1. Industry Analysis
2. Long-Term Profitability
3. Financial Strength
4. Growth
5. Shareholder Rewards
6. Durable Competitive Advantage
The "Build" part of this Strategy focuses on building a watchlist of great
businesses that you would love to invest in for the long term.
Finally, in "Buy" we talked about how you can value the business behind
the stock. Between the Present Value Model, Asset Based Model and Value
Using Multiple Models, I like the Present Value Model the best, and I regularly
run DCF analyses to see if stocks are over/underpriced.
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CHAPTER 7 - TAKING ACTION!
Thank you very much for reading the Value Bible! Now before you go, I
want to summarize everything that you've learned - and show you EXACTLY
how you can APPLY this advice to your investing to create long term wealth!!
BEFORE YOU INVEST
The first thing that you want to do is you should make sure that you're
ready to start investing! Make sure that you've paid down high-interest debt,
and that you've built an emergency fund of at least 2-6 months of expenses.
Younger investors can get away with saving less in their emergency fund.
Once you know you're ready to invest, create a monthly deposit plan!
Find out how much you can afford to invest every month by finding how much
of your income is left over after your monthly expenses.
BUILD YOUR MINDSET!
As you invest, make sure you're aware of the different biases that
plague investors. Nine of the most common investing biases are:
1.
2.
3.
4.
5.
6.
7.
8.
9.
Shiny Object Syndrome (pg 19)
Too Good to be True Offers (pg 20)
Herd Mentality (pg 21)
Overconfidence (pg 22)
Hindsight Bias (pg 23)
Biased Judgements (pg 24)
Loss Aversion (pg 25)
Pride and Regret (pg 26)
Status Quo Bias (pg 27)
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You can also review the three biases that hold you back the most that
you gathered from the exercise on page 28.
INDEX INVESTING
Once you've learned some of the most natural investing biases, it's time
to start investing! You should start by investing in low-cost index funds (pg 35)
if you haven't invested before, even if you would like to eventually gravitate
towards stock picking. Holding an index fund is simply a great way to start to
understand what the stock market is like. Additionally, even if you have
investing experience, low-cost index investing may be great for you because
there's:
Little to no research necessary
Little to no time required to invest
And you'll get:
Instant diversification
Average returns over the long run
Index funds are a blessing for many investors!
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LEARN, BUILD, BUY STRATEGY
If you're interested in stock picking, using the Learn, Build, Buy Strategy
can help you see long term success with value investing.
In "Learn," we learned that it's important to find businesses with durable
competitive advantages. These are great businesses, that can be great long
term holdings, if they're bought at the right price. These are some of the
things to look for to find high quality businesses:
1.
2.
3.
4.
5.
6.
Industry Analysis (pg 52)
Long-Term Profitability (pg 54)
Financial Strength (pg 56)
Growth (pg 57)
Shareholder Rewards (pg 60)
Durable Competitive Advantage (pg 62)
In "Build," (pg 65) we learned how to build a list of great businesses that
we'd like to buy at the right price. Even though you might not have hundreds
of businesses in mind that you'd like to buy right now - you can start by
Googling "stocks with durable moats" or something similar to start generating
ideas to build your list of great businesses.
Finally, in "Buy," (pg 71) we looked at how to value stocks, so we can buy
them at the right prices!
My favorite stock valuation model is the DCF model, but there are many
other great models too.
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Here are some of the great stock valuation models to try:
1. Present Value Models (pg 72)
a. Discounted Cash Flow
b. Discount Dividend Model
2. Asset Based Models (pg 73)
3. Value Using Multiples (pg 74)
a.
b.
c.
d.
P/E
PEG
P/S
P/FCF
You can learn to build custom spreadsheets for these models by
Googling the model name, or you can enroll in Value Investing Academy to get
instant-access to done-for-you spreadsheets.
Thank you for reading! I have some extra special content to share with
you in the Bonus Chapter that will really help to give you an edge in your
investing! But first, I want to tell you a little about my exclusive Value Investing
course. This course was designed to teach you exactly what you need to know
to be successful in Value Investing. I've spent months doing the work to
analyze stocks, and I've learned how to evaluate businesses. I've bundled all of
my knowledge into my video course called Value Investing Academy!
If you're interested in stock picking, this course is exactly what you need.
Value Investing Academy is packed with value, and teaches you everything you
need to learn value investing.
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VALUE INVESTING ACADEMY
This course will quickly and effectively teach you how to find value stocks
to invest in! If you're interested in beating the market by picking stocks that
will outperform; this course is for you! You will learn the same strategies that I
use to pick value stocks.
This course has over 30 video lessons that will teach you 1) the mindset
behind value investing, 2) how to read a company's financial statements, 3)
how to do an in-depth analysis of a company, and 4) how to value stocks. You
will learn everything that you need to know to be able to pick the stocks that
will make you rich!!
Even though it's worth it to pay thousands of dollars to learn value
investing, I've decided that I would like my course to be more affordable, so
that everyone can buy it. I've always felt that people should be spending their
money on investing - not spending their money to buy courses to learn how
to invest.
I started off selling my course for $97, and I decided to cut the price in
half to $47, because I want this course to be affordable for all investors. I want
you to have more money to buy stocks!
This deal may not last forever because I do like to keep a limit on how
many students I accept to Value Investing Academy, so sign up today if you
are interested. You'll learn the fundamentals of value stock picking.
VALUE INVESTING ACADEMY
Now I want to introduce you to the extra special Bonus Content! I hope
you enjoy.
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CHAPTER 8 - BONUS CONTENT!!
Welcome to the Bonus Content! In this final chapter, we're going to look
at exactly how you can read through the original documents that a company
publishes to better understand the stock that we're analyzing.
You will learn to become a better investor, because you'll be able to go
straight to the source for financial data, which will enable you to be a more
educated investor.
I've always thought that it's really important to be able to read these
documents for yourself, because if you can't - you'll be at the mercy of the
people who CAN read these documents to interpret them - and bottle-feed
the information back to you. When I started investing, I used to have to watch
stock analysis videos on YouTube for every company that I was interested in.
They would have to explain the stock to me, because I didn't know how to
research the stock for myself.
We're going to learn how to read a company's annual report, and then
we're going to learn how to read a company's financial statements, which are
the balance sheet, income statement and the cash flow statement.
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STEP 1 - FIND THE ANNUAL REPORT
Every time I research a new company, I start by reading the company’s
most recent annual report. The annual report, or 10-K, gives you so much
information about the company, so I always start there. I’ve tried saving time
in the past by skipping the 10-K, but I’ve learned that you’ll really learn so
much more about the company if you take an hour to read a company's
annual report. Let me show you how to find the 10-K.
1. Go to www.sec.gov, and click "Company Filings", which is below the search
bar in the upper right corner.
2. Type in the company’s ticker symbol in the Fast Search bar
3. When you get to the next screen, enter “10-K” in the "Filing Type" search
bar. Click Documents to read the most recent 10-K
And that's basically it!! Before you continue to read - Pause, and Go find your
favorite company's 10-K so that you can practice these steps! An annual
report/ 10-K should look something like this:
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STEP 2 - READ THE ANNUAL REPORT
Once you get to the 10-K, I'd recommend scrolling right down to the
Business Section. The Business Section is by far the most important part of
the 10-K. It tells you:
What the company does
How the company makes money
Who the company’s competitors are
From there, I like to skim through the Risk Factors, because I can see
some of the risks of investing in the particular company. I find the company’s
strengths and weaknesses in this section. I like to skim through the section on
Shareholder Information (Item 5), but I pay a lot of attention to the Selected
Financial Data (Item 6). I’m going to talk more about how to read finances in
the next section of this Bonus Chapter.
Make sure you read the
Management’s Discussion section, because that has lots of great information
about the company’s future plans.
After reading the important sections of the 10-K, I like to try to answer
as many questions as I can about the business. You might need to browse
around on Google to answer these questions:
What are the industry trends for the industry the company is in?
Does the company have good management?
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The most important and final question to answer is - Does the company
have a durable competitive advantage or a moat? A competitive advantage is
an edge that a company can use to outperform its competitors, and a moat is
a highly developed competitive advantage that makes a business incredibly
strong. It’s very important to find businesses with a moat or a strong
competitive advantage, because a business is much more likely to succeed in
the long term if it has great reasons to be successful. Some of the best moats
to look out for are:
Low-Cost Production - If a company has lower costs than its
competitors, it will be more profitable. Walmart has very low production
costs, so they can sell their products at lower prices than their
competitors. It is incredibly difficult to drive a low-cost producer out of
business.
High Switching Costs - Companies can secure customer loyalty by
making it very tough for their customers to switch to competing products.
For example, I’m an iPhone user, and even if a Samsung phone was
cheaper, I wouldn’t want to switch to a Samsung phone because I’d have
to enter a whole new system.
Network Effect - The network effect is when a company’s product
becomes more beneficial as more people join. It’s hard for companies to
compete with Facebook/Uber because these companies have a huge user
network, and they become more powerful as more people join.
Intangible Assets - Intangible assets include brand names, a company
reputation and trademarks. Customers love the Starbucks’ brand name,
which has helped Starbucks to be a successful franchise.
Efficient Scale - Efficient scale is when a company dominates an
industry/area, because there's a limited demand, and there's one
company that serves that demand. Utility companies are a great example
of this, because there's often one provider for each region.
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TAKEAWAYS
After reading the annual report, you should know what the business
does, how it makes money, who the business competes with, and what
competitive advantages the business has. Look to identify any moats that a
business has, because moats help to identify great businesses. You should
also understand the industry that the business is in, and have an idea of how
the management team will lead the company in the future. Doing thorough
qualitative analysis will help you discover if a company will have long term
success. Next, I’ll show you how you can understand a business’s financials.
FINANCIAL STATEMENTS
Researching a business's financials is super important, because at the
end of the day, companies are only as strong as their financial statements. We
have to remember to buy based on the business and based on its numbers.
The 3 financial statements that you will want to look through are the
company’s Balance Sheet, Income Statement and Cash Flow Statement. These
reports can be found by scrolling through a company’s 10-K or 10-Q (a
company’s quarterly report), but I often like to save time by going on
Morningstar's free stock research tool, and reading through the company’s
financial statements. Morningstar is a great tool that I'd highly recommend
using! You can access Morningstar right HERE; simply switch out "MSFT" to the
ticker you want to research.
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BALANCE SHEET
The balance sheet is often regarded as the most important financial
statement. This shows you exactly what a company owns, what a company
owes, and what’s left over for shareholders. A balance sheet helps to show if
the company has a safe amount of debt, and if the company has enough
short term assets (like cash) to cover their upcoming expenses.
When I look at a balance sheet, I like to key in on these lines:
Current Assets
Total Assets
Current Liabilities
Total Liabilities
Short Term Debt
Long Term Debt
Shareholder’s Equity
I also have a few things that I like to look for when I’m checking a
company’s balance sheet:
Current assets should exceed current liabilities
Total assets should exceed total liabilities
Assets and stockholder’s equity should increase each year
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BALANCE SHEET RATIOS
I like to check these ratios when I’m looking at a balance sheet:
Quick ratio - (Current assets minus prepaid expenses and inventory)
divided by current liabilities (should be greater than 1)
Debt-to-Equity ratio - (Short term debt + long term debt) divided by total
shareholders’ equity (should be less than 1)
Those are some of my basic rules that I use when I’m checking out a
company's balance sheet. It should raise some red flags if a company’s
balance sheet doesn’t pass one of these tests, and you should look into the
situation. Usually, it isn’t a problem if a company has one bad year, but it’s a
good idea to steer away from companies with gradually worsening balance
sheets. Next, I like to check out a company’s income statement. The income
statement shows how much revenue the company brings in, how much it
pays in expenses, and how much the company keeps as earnings.
In the next page, I'll lay out the basic things you need to check in an
income statement, and walk you through how I analyze it.
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INCOME STATEMENT
On an income statement, I focus on these key line items:
Revenue
Cost of Revenue
Operating Expenses
Net Income
And I also like to check for a few things:
Increasing revenue and earnings each year
Research and Development investments. This shows that the company is
working to create better products.
Rising profit margins (net income/revenue) The company should be
becoming more efficient.
INCOME STATEMENT RATIOS
Profit margin - Net income divided by revenue (great to see this
increasing)
COGS to Sales ratio - Cost of goods sold divided by total revenue (great to
see this decreasing)
Next we're going to be checking out the Cash Flow Statement. This is the
last financial statement, and this is super important to easily find where a
company is spending it's money. This is one of the most important financial
statements to understand as an investor, because this is where you see how a
company spends it's money.
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CASH FLOW STATEMENT
The last financial statement that I check is the Cash Flow Statement.
The Cash Flow Statement gives you a better insight on what a company does
with its money. This can help you to understand if the company is investing its
money well.
The cash flow statement is divided into 3 sections: cash from operating
activities, cash from investing activities and cash from financing activities.
Cash from operating activities shows how much cash is earned from the
company’s normal business operations. Cash from investing activities shows
the money that the company spent on investing in equipment, assets, or even
in shares of other companies. Finally, the cash from financing activities section
covers money spent on dividend payments, share buybacks (or sale of new
shares), and loan repayments (or raising money from new loans).
The most important number from the Cash Flow Statement is Free Cash
Flow. Free Cash Flow is equal to Operating Cash Flow - Capital Expenditures.
Free Cash Flow is very important, because that is the amount of cash that the
company makes every year.
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I don’t spend a ton of time looking over the Cash Flow Statement, but I
like to check that:
Free Cash Flow and Operating Cash Flow increase every year
That’s basically it for the Cash Flow Statement! I will add that if there is a
huge increase in the investing or financing section, and it seems unusual, you
should do some research on the matter. But other than that - you've just
completed the Cash Flow Statement, and since the Cash Flow Statement is
the last of the financials - you've learned how to read financial statements!
The best way to learn how to read annual reports and read financial
statements is to pick your favorite company, and start reading their reports! I
know it probably doesn't sound very thrilling to read financial statements, but
it is an incredible skill to have, and it's critical for stock picking.
In the next page, I'm going to run through some important takeaways
from this chapter! That should help to give you a good understanding of the
big topics that you need to know.
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RECAP
It’s best to check the company’s most recent Balance Sheet to get a
quick snapshot of the business’s current situation. For a balance sheet, you
have to remember that Assets = Liabilities + Shareholders’ Equity. Assets are
everything that the company owns, liabilities are everything that the company
owes, and shareholders’ equity is the difference.
The Income Statement shows the revenue that the company brought in,
the expenses that the company paid, and what the company kept as earnings.
It’s important that revenue and earnings are increasing every year.
And finally, the Cash Flow Statement shows where the cash goes that
the company brings in. It's ideal to see that Free Cash Flow is increasing every
year.
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THANK YOU!
I hope you've enjoyed the Value Bible! I hope that this book has given
you the steps to invest for the long term!
I know we've covered a lot in this book, so I want to give you a bigpicture recap of how you can take action!
First, revisit page 78 to learn how you can apply everything that you've
learned to invest for the long term.
Second, if you're interested in seeing long term success in stock picking,
I'd highly recommend that you check out my course called Value Investing
Academy. You will learn exactly how to pick stocks so you can see success in
your portfolio - and sleep easy at night. Click the link below to enroll now.
VALUE INVESTING ACADEMY
And lastly, I'd love to hear from you! Please send me a DM on Instagram
saying that you've finished my book! I would love to hear how your experience
was, and I'd love to help you in any additional way that I can. Also, you can
check out my Value Nation podcast that I'm launching the first day of 2021 as
I document and share my journey to becoming a better value investor.
THANK YOU for reading this book! I hope that you have lasting success
in investing. Have a great day my friend :)
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