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Smart Investments, Redlands, Ca.

A Few Thoughts on Investing, by Barrick Smart

DIVERSIFY

Diversify your Holdings. Over the years, we have heard a number of theories for successful investing.  Almost all of them have something to say about diversification.  Everything from “Don’t put all of your eggs in one basket” to “Put all of your eggs in the same basket and watch the basket like a hawk.”

The reality is that volatile financial markets necessitate diversification.  Not just the number of investments, but also market sectors.  An example of what not to do might be owning a diversified portfolio of 30 different technology stocks an hour or two prior to the tech bubble bursting.

Here’s what to do: If you are going to structure a stock portfolio, you should include stocks from at least 10 different market segments in your portfolio. If you are using mutual funds (maybe in your 401k?), you need to make certain the funds you choose provide proper diversification.

PARTICIPATE

Be a Participant:  Invest. Sooner is better. Have you ever noticed that life happens in small increments?  Investments work the same way. You can gain financial independence in about an hour if you buy a winning lottery ticket. But this strategy has obvious difficulties. The guaranteed way isn’t as much fun, but works every time: You opt to live a little bit beneath your means and invest 10% of your income every month.

SEEK EXCELLENCE

Don’t buy an index. Current investment philosophy suggests that owning a stock index (such as the Standard and Poor’s 500) rather than constructing a portfolio of quality mutual funds is a simpler and safer way to invest. Of course, by owning an index, you own the definition of average. Therefore, what you can expect is average results. Simpler, yes. Better, we think no.

Consider the idea that virtually every trade or profession has STARS. Tiger Woods, Warren Buffett and Steve Jobs come to mind. These are the people that make a habit of producing superior results. The investment management business has its share. STARS regularly produce more in an up markets and lose less in a down market.  Seek to find the STARS, and you will get better than average results. It happens every day.

UNDERSTAND

Understand what you own.  It makes sense to have a basic comprehension of the investment under consideration. If you are looking into a stock, you need to understand the basics of the business, and why it makes money. Also, why it might grow in the years to come. Who are their customers? 


What sort of products do they offer? Who is their competition, and why are they better?  We think that a good understanding of a company and its business encourages a longer term commitment. If you understand and approve of the business, you are more likely to be involved; you’ll read the annual report and vote your proxy, maybe even go to the annual meeting.

In short, we think understanding leads to ownership – not just trading. And ownership, over the long term, builds wealth.

COMPLEXITY

Be skeptical of complex strategies. Smoke and mirrors are the antithesis of careful investing. You may have heard about the “Wizards of Wall Street,” sometimes also known as Financial Engineers. These folks lie awake at night thinking up complicated investment strategies that rely on mathematical models to provide the profit and limit the risk. While providing profits and reducing risk seem like worthwhile goals, the problems reside in the math. The use of options, futures or other derivative securities to produce profit and reduce risk is only as good as yesterday’s Dow Jones closing averages.

Somehow, we always learn about the pitfalls in a complex strategy after we own some. So we think it makes sense to simply be skeptical of strategies that rely on engineering. Learn to rely on sound business practices, solid financials and hard-nosed management.

If the profits are based on anything but the performance of the business being considered, be suspicious.

QUALITY

  Buy quality – not quantity. Beware of the allure of low priced stocks. The sales pitch goes something like this: “you can buy THOUSANDS of shares for just a few hundred dollars – it just needs to go up a few cents and you’ll make BIG money.”  In truth, that’s a pretty rare occurrence.  Usually, the big money ends up with the person offering it to you.

ONE PRODUCT WONDERS

When considering a company for possible investment, pay close attention to their product portfolio.  For example, a pharmaceutical company with only one drug; a one product technology company. These can be companies that have hit on something successful that propels them into becoming an entire industry. Or, it could be a flash in the pan. Be careful to think about their next step, and invest with caution. And follow their progress.

A thought on one industry mutual funds, also know as “index” or “sector” funds: These products offer the investor the opportunity to own a portfolio of stocks, all of which are from a narrow market segment, in one handy package. The problem, of course, is that investors often use these funds improperly. They should be used to further your diversification while enabling exposure to a particular industry, not to place bets on market activity.



TRUST

If a company goes astray with a regulatory agency or has an ethics problem, run for the door. Don’t hang around to hear all of the denials. It’s important to be a proactive investor. Waiting for a company to come back after breeching the public trust is a losing strategy. Move on.


WATCH OUT FOR BUBBLES

  Lots of money is made while the bubble fills with air.  Of course, you never know when the bubble will burst. And when it does, you’ll know first hand that markets can go down MUCH faster than they go up, sometimes all in the same day.

The most reliable strategy is to leave early.  Of course, you’ll need to recognize the early warning signs.  A few follow:

Investors begin to talk as if profits are a foregone conclusion.

Values seem ridiculous, when compared with alternatives.

The market begins to get extremely volatile, with speculators running from investment to investment. This phenomenon is known as a “frothy” market.

New opportunities are offered “on the come” rather than on a sound financial basis.

A long term investment is measured not in months or years but rather in hours.

One further note: It is all but impossible to time a bubble properly. We think it makes the most sense to try and develop a discipline that allows you to grow more skeptical as the markets advance, and optimistic as they decline. And remember that you are a long term investor, not a trader.

PLAN AHEAD

  Invest only funds that can stay invested for long periods. One thing that I have noticed about the financial markets is that the LONG term trend is up. But there are plenty of short-term setbacks. Even if you have carefully constructed your portfolio, you will surely experience a down market. For careful investors, when others are selling (the definition of a down market) this is usually a BUY signal.


INCOME

 Try to own investments whose income or dividends keep pace with inflation. There are many companies that have long term records of rising dividends, and lots of mutual funds that do the same.  There are plenty of examples of investors who have owned a company for many years that are earning double-digit dividends on their original investment.


MARGIN

  Just don’t do it. Margin, also known as “leverage” is simply investing using borrowed money. The problem, of course, is that using someone else’s money amplifies the risk, because you at some point must pay the money back. If your investment has a short term setback, you could be forced to sell to protect the borrowed amount. Somehow, it always seems that the piper must be paid at a very inconvenient moment. If you invest your own money, you have staying power.

       
  We see investing as serious business. We must admit as to being a bit annoyed when someone refers to “playing the market.” We are not playing. Our world seems to focus on short term thinking. In the real estate business, they

call it “flipping.” In securities it’s known as “trading.” We promote “investing.” Investing is the practice of building wealth, through careful investments, over a long period of time. The traders of the world, through their high volume of transactions, help the investor class by providing liquidity to the markets.

Let them play the market. We’re here to build wealth.