Learn Investing Secrets

Unfortunately, it can sometimes be quite hard to figure out if an investment is right for you until it's too late' the stock might go through a drastic increase or decline in price, or you might only have a limited time to invest in a certain company's stock before a merger or split.

To help you take advantage of the investment opportunities that present themselves to you, here are a few useful tips that might help you to decide whether or not an investment is the right one for you.

Price

Obviously, the price that a stock or bond is currently selling for can make a big difference on whether or not the investment opportunity is right for you.

With all of the investment opportunities out there today, it might seem difficult to decide which one is the right one for you. When it really comes down to it, though, having such a large variety of options is more of a therapy than a hindrance… it allows you to customize your investment portfolio to your individual tastes much more than you would be able to with only a few choices.

Unfortunately, it can sometimes be quite hard to figure out if an investment is right for you until it's too late… the stock might go through a drastic increase or decline in price, or you might only have a limited time to invest in a distinct company's stock then a merger or split.

To help you take head start of the investment opportunities that present themselves to you, here are a few useful tips that might help you to decide whether or not an investment is the right one for you.

Price

Obviously, the price that a stock or bond is currently selling for can make a big difference on whether or not the investment opportunity is right for you. If you're trying to invest on a limited income or you simply don't have the money to spare for large investments, you might want to reconsider inner high-priced stocks unless you're fairly categorically true that they'll show you a good return. Even then, you might want to consider marketing partial shares over time instead of several shares now.

History

The history of a particular stock or bond can tell you a lot. If the price for the particular stock has all over been quite low and suddenly rises over time, there's a good fair expectation that it will drop in that case confronting too long and if you invest when it's high you might lose money on the deal. On the other hand, if a documented stock has been upgrade steadily or has taken a slight dip from its usual prices (without any girl friend news causing the drop) then you might have a good go at making money in the long run.

Time

Some investment opportunities have a time limit close to them… perhaps a coterie is selling shares for a prescribe period of time in order to find investors for a new branch, or a schoolmate is preparing to merge with or split from another. You should use lesson till deciding to invest in one of these opportunities, and investigate the stock prices for the companies involved. If they've performed well in the past, there's a good reduction that you'll be able to come out on top in the deal. If, however, the playfellow has had problems (especially recently), you might be preferred off to let this one pass you by.

Recommendations

Where you hear in respect to the investment opportunity can have a large current on how good the opportunity in very sooth is. the press from market professionals can usually be trusted to be good, but you should never act on a stock tip that you receive as part of a junk e-mail or an unsolicited advertisement. You should also take extreme care if you happen to work for the order that you've heard the tip about… depending upon what you buy and when, you might have problems with insider trading meaning that you had exit to information that the general public didn't.

Other Circumstances

Of course, there are other set of conditions that might surface that aren't mentioned here. If this happens, then seek the communique of someone that you trust or simply follow your own instincts.

You may freely reprint this essay provided the following author's fortunes (including the live URL link) remains intact:

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Someone who reads the blog sent me this email:

Geoff,

In a previous email to me you explained how Warren Buffett values a company.  The text that your wrote was:

"He wants his investment to increase 15% in value. For every $1 of capital he lays out today he wants a day one return of 15 cents. That means a 15% free cash flow yield or buying a bank with an ROE of 15% at 1 times book or buying something for less than a 15% initial yield as long as it is growing."

I understand that no problem whatsoever.  However, I am just curious.  How does he apply a margin of safety (for example 50%) to this fcf yield valuation?  Thanks for the help.

Chad

He doesn't.

Buffett has said that with something like Union Street Railway - bought back in the 1950s - he saw the margin of safety was that it was selling for much, much less than its net cash. For Coca-Cola the margin of safety was the confidence he had in future drinking habits around the world.

Buffett felt sure people would drink Coca-Cola in larger and larger amounts per person per day in countries where Coke had been introduced more recently than in the United States. History was on his side. Per capita consumption of Coke had been rising everywhere for years. In contrast, history was not on the side of Union Street Railway.

Passengers - Union Street Railway

1946: 27,002,614

1947: 26,149,937

1948: 24,224,391

1949: 21,209,982

1950: 19,823,933

1951: 18,736,420

Bad trend.

But Union Street Railway had $73 in cash and investments – not a single penny of which was needed to run the actual business. The stock traded between $25 and $42 during 1951. So, even at its high for the year, Union Street Railway's stock was trading for more than a 40% discount to its net cash.

At its low, the company's cash covered its stock price almost 3 times.

Union Street Railway had a big margin of safety.

But so did Coke.

Buffett believed both Union Street Railway and Coca-Cola had an adequate margin of safety when he bought them.

With Coca-Cola it came from human drinking habits. With Union Street Railway it came from the cash and investments on the balance sheet.

Buffett was as confident in Coca-Cola as in Union Street Railway.

It's just that his margin of safety in one case was people's buying habits and in the other case it was the cash on the balance sheet.

Buffett doesn't apply some standard 50% margin of safety to an intrinsic value estimate.

He just looks for situations where he's confident his investment will earn an adequate return from day one far into the future.

And he wants to pay less than the stock is worth.

But that doesn't mean it's necessary to do an actual intrinsic value calculation and then slap on some percentage discount to that value.

It just means seeing the obvious.

It means seeing that Coca-Cola is priced like it's going to have a fine future when it's clearly going to have an extraordinary future. Or seeing that Union Street Railway is priced like the business itself isn't just worthless but worth such a big negative number that it offsetts the huge amounts of cash and investments the company piled up over half a century.

It's not about rules. It's about common sense.

Just ask yourself what's the chance you'll lose money on the stock - in the long run - if you buy it at today's price.

Buffett figured the chance was very, very low for both Coca-Cola and Union Street Railway. There was no rule to give him the right answer in both cases. He needed to apply a little common sense thinking to each stock's unique circumstances.

Talk to Geoff about How Warren Buffett Apply His Margin of Safety

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