My rules for selecting stock include:
- High insider ownership and/or buying (ideally 15-20% insider ownership)
- 5+ years of stable or increasing revenue/profit
- No long-term debt
- Above average returns on equity (>12%)
- Above average net profit margins (>10%)
I listed the criteria in the order of importance to me. I would go as far as to say that the first 3 items are extremely important (“must-have”) and the 4th and 5th items are very important (“nice to have”).
Once I have selected the stock, I need to wait for a price. I will attempt to buy at a price-to-earnings ratio of 10 (or less) and a price-to-book of 2 (or less). Sometimes this works out, many times, I get close and I settle. I will definitely not invest in a business that has a high price-to-earnings, but I have been known to buy into a business with a high price-to-book (e.g. 4) now and then.
When investing, there are only two ways to make money: 1) informational advantage or 2) emotional advantage. An informational advantage includes individuals who work within a business or industry or a trading firm that has direct access to the exchange (also known as a technology advantage). I do not have an informational advantage. I read all the same quarterly/annual and press releases and I don’t have direct access into any exchange.
I have an emotional advantage. For whatever reason, my wiring for greed and fear are backwards from general society. When society becomes greedy and eager to buy, I become fearful and look to sell.
It should be interesting that I am attributing most of my success to how I was wired (luck) and human behaviour (i.e. “rich get richer” + “emotional advantage”) as opposed to any small ability that I may have reading and interpreting financial statements.
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