Investing style is a religion

[Zaxon]

There isnt a holy grail of investment style, otherwise everyone would be doing it. What works for you may not work for me, you have to match investment style with psychology, personality and conviction.

There's two ways of looking at that. I think, experimentally, you could determine which specific investment methods have a higher probability of winning overall, and which statistically underperform. I don't think it would be a broad as "Value Investing" or "Growth Investing", but if you define a method precisely enough that you could enter it into, say Amibroker, you could find an outperforming method. Not a holy grail, but something with a edge.

But, as you say, even if we knew precisely what that winning method was, it would be totally unsuitable for a whole lot of people, because their psychology wouldn't be matched to that method.

But I don't think we should be afraid of researching into what styles out/under perform objectively, just because there are certain people who wouldn't be able to make use of the answer.

How do you decide when thats the correct action? I made huge amounts of money averaging down...
In other cases my decision to hold onto winners has cost me nearly all the invested capital - SGH being the prime example.

The same exact method is definitely going to give you winners and losers. You just hope the wins are bigger in the end.

 

[Zaxon]

The principles don't change. You don't adapt the method and principles.
But you ought to adapt to the opportunity you see.

Yup. That all makes sense.

Cut your losses and let the profit run... yea... if you could be sure the current loss is a loss and profit is an actual profit.

Sometime the market just doesn't know what it's doing and your loss is just an opportunity to buy. Sometimes it's an actual loss and sticking around is not advisable.

Very true. Hold on or buy more when the market goes down, because you know your evaluation of this company will ultimately prove right. Until it doesn't, and your left in a value trap. Or sell out early to protect your capital, only to find that the market suddenly shot up the minute you sold it all. Such fun!

 

[Zaxon]

I don't believe in neither value/momentum religion. Those are for fundamental/technical academia to complicate things and make themselves look smarter. The market always goes up, it is dead simple, anyone could make money. That is why both value and momentum religion believers believe their strategy works.

You're my favourite person right now, because I think this is the great "truth". Markets, over time, will always go up, and that's the only thing you need to know. And I think your comment is the takeaway conclusion from this whole thread.

Which speaks to using cheap, passive, index funds.

 

[gaius]

Say I own WOW all by myself. And the board decided to hand over the year's profit. All 100% of it. Or hand over 50%... either way, WOW still earn the same amount, so its value is the same as a business. True?

No, not true. I'm pretty sure your WOW business would operate differently with your company cash reduced, and pretty sure that that would have some negative impact on your future earnings, and pretty sure that that would affect the value of the business.

That shouldn't mean that WOW's dividend is any different when it pays to you and to me. It's the same amount, just worth differently on that individual, after tax basis. But that basis shouldn't influence an objective assessment of what WOW is worth.

Nope, how much WOW worth is how much investors are willing to pay for, hence influenced by investors' tax.

 

[galumay]

Nope, how much WOW worth is how much investors are willing to pay for,

Nope, thats the price. The value can be very different to the price.

 

[galumay]

Which speaks to using cheap, passive, index funds.

That will work to give you returns of slightly less than the market net of fees. While the US market has always made gains after inflation for any period of longer than 20 years holding, thats not true of some other markets, (notably Japan.)

How many investors can hold in the big drawdowns though? Twenty years plus for a potentially small return with big drawdowns in the middle is something very few investors can tolerate.

Most people want to get rich fairly fast, I reckon that has more to do with investment failure than any other factor.

 

[Zaxon]

thats not true of some other markets, (notably Japan.)
Twenty years plus for a potentially small return with big drawdowns in the middle is something very few investors can tolerate.

And that's a very real concern. Including with Australia, where we still haven't surpassed our previous peak. We've just been slowly recovering from March 2009. In a market like Japan, I'm not sure if any investment style would actually get anywhere. Possibly a trader could take advantage of the short term rises.

Most people want to get rich fairly fast, I reckon that has more to do with investment failure than any other factor.

Very true.

 

[luutzu]

No, not true. I'm pretty sure your WOW business would operate differently with your company cash reduced, and pretty sure that that would have some negative impact on your future earnings, and pretty sure that that would affect the value of the business.

It would operate differently, but then its value need to be reappraised. To do what Monty is doing would be double counting.

Say WOW's equity is $100. It earn $20.

From that $20 it pays out 50% dividend, kept 50%.

The moment Monty appraise it, he must appraise it at the $100 Equity. i.e. equity that produces the $20 profit.

To appraise it post the dividend payout... i.e. appraise it as though its equity become $100+$10 retained. That's for the next year. Or the assessment after the point of purchase.

Nope, how much WOW worth is how much investors are willing to pay for, hence influenced by investors' tax.

I didn't deny that investor's individual perspective doesn't affect the "worth" of a company to them. Was saying that their individual circumstances doesn't objectively make the company more or less valuable.

Sure, if enough investor are in the same boat and so they appraised it based on their tax impact etc., the market price will reflect it. But that's market price, not value.

 

[Value Collector]

I'm a bit slow here,

I am starting to think so because you are just not getting the point.

If WOW pays all of that earning out in dividends, it is worth less [~$16].

But if it were to keep all that earnings, it's worth more [~$36?]

It's the same company, earning the same amount in both scenario. So how is it valued less in an objective sense?

Because in one case it is paying out all earnings, and won't grow.

While in the second case it is retaining earnings and putting those retained $$$ to work earning 25% return.

Say I own WOW all by myself. And the board decided to hand over the year's profit. All 100% of it. Or hand over 50%... either way, WOW still earn the same amount, so its value is the same as a business. True?

Say you own all of WOW, and they have $100 of equity earning 25%, and at the end of every year they hand over the $25 to you, the most you can pay is $250 if you want a 10% return, because that $25 dividend will probably never grow, so that income stream is only worth $250 if you want to earn 10%PA

However

If they retain the $25, the equity and earnings, compound so they will have

$125 Equity and $31.25 earnings in year 2
$156 Equity and $39.00 earnings in year 3
$195 Equity and $48.00 earnings in year 4
$243 Equity and $60.00 earnings in year 5


So after 5 years of retaining and reinvesting earnings, equity and earnings have more than doubled at the company that retained earnings,

So a company you believe genuinely has the ability to retain and compound earnings at high rates is worth more to you than one that earns at the same rate but has no ability to retain and deploy earnings at high rates.

Don'tknow... I find it to be a strange way to value a business

I am pretty shocked you don't understand this stuff already,

btw, how did he/yuo come up with that 10% required return mean $1 is worth $2.50 etc.

Simple, If you need to earn 10% to meet your investing objectives, and you find a business $100 of equity inside earning $25, you can afford to pay $250 for that equity and you will still get your 10% return.

eg $25 of earning is 10% return on your $250 investment. This is why most shares trade at "market prices" above their equity value.

 

[Value Collector]

And that's a very real concern. Including with Australia, where we still haven't surpassed our previous peak.

The market has actually well and truly surpassed the peak when you factor in reinvested dividends.

People that say we still haven't recovered are just neglecting to account for dividends.

 

[luutzu]

I am starting to think so because you are just not getting the point.

Dude, that's a bit unnecessary.

Because in one case it is paying out all earnings, and won't grow.

While in the second case it is retaining earnings and putting those retained $$$ to work earning 25% return.

Yea, I get that if earnings is retained the company would be more valuable.

But why should I pay for it? Isn't it my owning that I decided to retained in the company?

Let say I'm trying to sell you WOW, all of it. And I tell you...

VC... brother... this WOW is worth $110.

You say... no, I worked it out and it's worth only $100.

I use the same calculator, work out that it's $100 too. But my reasoning to you is...

Yea, but if you keep the earning it's going to earn next year, keep it back in the company, it's going to be worth more. Wouldn't it?

Yea it will. But why should you pay for that earning that you kept back?

Right?

Who's the slow one now? Ey?

Say you own all of WOW, and they have $100 of equity earning 25%, and at the end of every year they hand over the $25 to you, the most you can pay is $250 if you want a 10% return, because that $25 dividend will probably never grow, so that income stream is only worth $250 if you want to earn 10%PA

However

If they retain the $25, the equity and earnings, compound so they will have

$125 Equity and $31.25 earnings in year 2
$156 Equity and $39.00 earnings in year 3
$195 Equity and $48.00 earnings in year 4
$243 Equity and $60.00 earnings in year 5


So after 5 years of retaining and reinvesting earnings, equity and earnings have more than doubled at the company that retained earnings,

So a company you believe genuinely has the ability to retain and compound earnings at high rates is worth more to you than one that earns at the same rate but has no ability to retain and deploy earnings at high rates.

Again, yes I agree it will be worth more in that future. But I as a new owner is being asked to pay for that future today.

So if those earnings being retained.. i.e. my earning being retained and reinvested... Those are mine. Why should I now revalue and pay extra now for that future my money made possible?

Doesn't make sense.

I am pretty shocked you don't understand this stuff already,

Simple, If you need to earn 10% to meet your investing objectives, and you find a business $100 of equity inside earning $25, you can afford to pay $250 for that equity and you will still get your 10% return.

eg $25 of earning is 10% return on your $250 investment. This is why most shares trade at "market prices" above their equity value.

Yea alright, that part makes sense. Calculator didn't have e nough coffee

 

[gaius]

... That's for the next year. Or the assessment after the point of purchase.

So your valuation ignores all future years? or contains an unknown not known until next year??

... But that's market price, not value.

So the true valuation should be off by the tax effect amount on the day the market price fully reflect the true valuation?

 

[Value Collector]

Again, yes I agree it will be worth more in that future. But I as a new owner is being asked to pay for that future today.

So if those earnings being retained.. i.e. my earning being retained and reinvested... Those are mine. Why should I now revalue and pay extra now for that future my money made possible?

It's worth more today, because it has some sort of system or advantage that is allowing it earn high rates of return, and if you aren't actively looking for those sorts of businesses you are missing out.

Let me try and explain it to you one last time, and if you still think I am wrong before you respond read through it again, because I can assure you I am right.


Lets say there are two Bank accounts for sale.

Bank account A - has $100 deposited in it and it will pay out 25% Interest ($25) for life, you can never add extra money into the account, it just sits there and pays you $25 once a year.

Bank account B - Has $100 deposited in it and it will also earn 25% Interest, however it will retain 50% of its earnings in the account earning 25%, and pay out the other 50% to you once per year.

The fact that Bank account B is able to retain earnings and reinvest them at above market rates gives it a huge advantage over Bank account A.

So if the two accounts were selling at the following prices which account would be the best investment?

Bank account A - $250

Bank account B - $285

If all else was equal, which would you buy?

I will give you a hint, Bank account B has to sell at over $385 before it makes sense to choose Bank account A at $250.

This is what roger's calculation was trying to work out, eg how much was WOW worth when it was retaining earnings and reinvesting them back into its businesses.

Of course you are going to try and buy investments as cheap as you can, thinking about things like this is how the value investing approach includes growth, and to try and decide whether future growth has been priced in, or is it still good value when the future growth is factored in.

 

[luutzu]

So your valuation ignores all future years? or contains an unknown not known until next year??

So the true valuation should be off by the tax effect amount on the day the market price fully reflect the true valuation?

It doesn't double count to my disadvantage.

Say I reckon WOW's earning power is $10 from now into eternity. And based on that estimate I figured it's worth $100.

The fact that it kept back 30%, pays out 70% of that $10 earning shouldn't make it more or less valuable. I mean, it still earn $10.

To say that if it kept back more then it's worth more... that's mathematically true. But that's assuming I haven't already paid for and own it; that it wasn't my earning that's being kept back and being compounded.

It also assume that the dividend paid out is paid to someone else and not to me. Which doesn't make sense because it's paid to me as I own the thing.

Say I have $100M in my bank account. I call up Monty and offered it to him for $150M.
Why would he buy $100M in cash for $150M in cash?

Using his logic I tell him that if he kept all the earning and compound the $100M earning for next 5 or 10 years, it'll surely be worth $150M, at least.

That's not going to work on him, or will it?

 

[gaius]

.. But why should you pay for that earning that you kept back?

That's investment. I pay money for a return because the company would put the money into better use.

 

[luutzu]

It's worth more today, because it has some sort of system or advantage that is allowing it earn high rates of return, and if you aren't actively looking for those sorts of businesses you are missing out.

Let me try and explain it to you one last time, and if you still think I am wrong before you respond read through it again, because I can assure you I am right.


Lets say there are two Bank accounts for sale.

Bank account A - has $100 deposited in it and it will pay out 25% Interest ($25) for life, you can never add extra money into the account, it just sits there and pays you $25 once a year.

Bank account B - Has $100 deposited in it and it will also earn 25% Interest, however it will retain 50% of its earnings in the account earning 25%, and pay out the other 50% to you once per year.

The fact that Bank account B is able to retain earnings and reinvest them at above market rates gives it a huge advantage over Bank account A.

So if the two accounts were selling at the following prices which account would be the best investment?

Bank account A - $250

Bank account B - $285

If all else was equal, which would you buy?

I will give you a hint, Bank account B has to sell at over $385 before it makes sense to choose Bank account A at $250.

This is what roger's calculation was trying to work out, eg how much was WOW worth when it was retaining earnings and reinvesting them back into its businesses.

Of course you are going to try and buy investments as cheap as you can, thinking about things like this is how the value investing approach includes growth, and to try and decide whether future growth has been priced in, or is it still good value when the future growth is factored in.

I'm not disputing the fact that if equity are retained and reinvested into the company, it will be worth more. But that more is in the future, a future where I already own it. So I can sell it for more in that future, but I wouldn't pay more for that future today.

Timing.

OK. Say a bank account has $100M in it today. It earn 5% p.a.

If you were to buy it today, are you going to pay $100M, or are you going to pay $100+5% interest on it today?

We know it's going to be worth $105M next year... just why should you value it at that future price today when you're paying for it?

 

[luutzu]

That's investment. I pay money for a return because the company would put the money into better use.

Put it another way...

Say you're selling me a brand new car. Brand spanking new.

I tell you that it's not new at all. It's used.

Dude, you just bought it and it show 0Kms on it.

Then I said, mate... after a year of me driving it, it ain't going to be 0Km.

You're not going to sell me yuor new car at a used price now will you?

 

[gaius]

Put it another way...

Say you're selling me a brand new car. Brand spanking new.

I tell you that it's not new at all. It's used.

Dude, you just bought it and it show 0Kms on it.

Then I said, mate... after a year of me driving it, it ain't going to be 0Km.

You're not going to sell me yuor new car at a used price now will you?

I wouldn't buy a car if it can't drive. Remaining at 0km after a year doesn't help its value.
On the other hand, the car worth more if it can run more kms over its remaining life.

 

[gaius]

We know it's going to be worth $105M next year... just why should you value it at that future price today when you're paying for it?

Of course, I won't be paying 105 for 105. I would pay, say 102, earning about 2.9%. If you happy to sell it at 100, I could earn 5%, thank you very much.

 

[luutzu]

Of course, I won't be paying 105 for 105. I would pay, say 102, earning about 2.9%. If you happy to sell it at 100, I could earn 5%, thank you very much.

Come on, admit it, you know I'm right.

btw, here's an almost accidental discovery of mine using Buffett and Graham's approach [or rather, my understanding of it]...

Sigma at 72c a share:



See that 7.47% pa return there? Higher than the market's implied expectation of 2.45%.
So when the market price expects 2.45% but based on historical earnings it's at least 7.47%, you're ahead if you buy.

Then if the future is brighter, that's just extra cream with cherries on top.

Sigma is currently at 80c or so... so far, seem to be somewhat alright.


Here's the same for the WashingPost when Buffett bought it.




Buffett weren't kidding when he said he expects to earn 15% on the first day he buy anything.

Well, that's according to his biographer.

Of course that's just mechanical algo. But pretty damn good I reckon.



As for Monty's formula... he overpaid by about 10%. Which as we've been discussing, kinda make sense doesn't it.