Rule #1: Phil Town on Investing

Twittering Rule #1

I'm going to start twittering in earnest pretty soon - in the next few days.  I'm thinking it will be fun to do some pithy, quick and easy bits that might be some help for your investing. 

I'll be tweeting about Rule #1, of course, but also about other resources I think would be useful to a Rule #1 investor.  As I come on them, I'll let you guys know with a quick Tweet. 

Also any motivational stuff I see, I'll pop into a Tweet, too.  And I'll put in some good "where to find it" info as I think of it or learn about it.  Where to find better tools for free, for example.  More and more stuff is coming on the internet for zippo.  Which is awesome if you know about it. 

And I'll be putting in some companies to keep an eye on that are looking particularly Rule #1-ish.  And any books or articles that are worth a look.  And I'd love to Tweet about any CEO antics you should know about.  So if you want to keep up with this stuff, follow me on Twitter at http://twitter.com/Philbtown.

Now go play.

Using Trading Tools

The arrows I use are at Investools and they make for easy analysis, but virtually every research site and online broker now has these key tools.

In Rule #1 I show you how to set them up on MSN Money, and the principle holds for Yahoo, TD Ameritrade, Scottrade etc. You may not have arrows on the chart, but it's not rocket science to read the actual indicator and make a decision.

Read them like this:

Stockpiling: You Better Know Your Business is Wonderful

Here's a letter I recently received from a Rule #1 reader:

Dear Phil:

I have done very well with Rule 1 investing, and I am very disciplined about it.

However, one of my wonderful companies, Immucor (BLUD), which meets every criteria and then some, was served a subpoena by the Department of Justice relating to anti-trust and the stock plunged as much as 34% in one day.  For many days before the announcement, the stock had been going down, even after a good earnings report in early April.  I kept asking myself, “Who’s dumping this stock?” and happily buying more.

Is there some way I could have seen this coming?  Am I correct in not panicking and taking the view (as some analysts have) that there is most likely nothing to this investigation?  Have you ever experienced this “disaster” phenomenon?

Regards,

Jan

Jan has given me a wonderful example of the difference between stockpiling (or consuming) a business and trading it.  In both cases, we want the business to be wonderful, but if we are going to stockpile this business as it goes down in price, the bar is raised for knowing that the business is wonderful.  Trading sucks up some of the risk.

Is it Fear, or is it Greed?

I got this comment from JNS on April 2:

Phil, I keep hearing the words, "be greedy when others are fearful and fearful when others are greedy". Doesn't this market seem like we should be fearful? This bull-run seems mis-leading when most stocks seem overpriced based on The Rule #1 principals. In this case, what can one stockpile?

I love the point about overpriced stocks.  Even though the market price has dropped 45% from its high, we can't assume things are on sale any more than we would if we saw an "ON SALE 45% OFF" at a jewelry store.  We have to ask, "45% off of what?" 

Please pay attention to JNS's point and do a solid Rule #1 valuation.  That said, there are things on sale if you know where to look.  But that requires you build an expertise in a few industries in the market so you can know when you know. 

So where to look now?  We look where there is great fear.  And where is that?  Certainly in the financial stocks, right?  And all over the retail market.  Restaurants.  Clothing stores.  Auto related. 

And what to look for?  Durability.  A business that will definitely be here in 20 years.

So tell me, JNS, what area of the market are you deeply interested in?  And in that area, are there values much higher than prices or is it the other way round?

Now go play.

Trading RIMM on Arrows and FACs

A few days ago I got this note from Chuck:

Thank you for the 43% gain thus far using Rule #1!  That said, I’m licking my wounds on my latest transaction. I purchased RIMM on 03/11 at 40.00/share based on a $42 MOS. I then got out on 2 reds on 03/25 at 41.71 following your advice on your blog regarding a stock that’s either moving sideways or going down.

Had I stayed in until 3 reds I would have caught the ride all the way up to 60.10 as the stock rose 7.61% today during trading hours and then another 22.43% after hours because of better than expected earnings.

With such a big run up in the last 2 days would you still get in or wait for a pull-back considering there are 3 greens? Any advice on how to trade on 2 versus 3 reds in the future?

Chuck is doing great with RIMM but had a question about when to get in (and out).  He's not stockpiling it, he's trading.  He had a MOS at $42.  Without comment on the MOS, let's look at the RIMM chart. 

How to Go from $52,000 to Retired in 5 Years

Last week I got this comment from Jarrod:

I am 30 years old no debt and have a net worth of $52,000 cash. My goal is to be retired by 35 years old. To reach that goal is now the time to go all in?

How to go from $52,000 to retired at age 35 in 5 years:

The time frame is too short to stockpile stocks and be sure to retire in 5.  We need more like 20 to make that work.  So you're going to trade using Rule #1 strategy and tools.

1.  You'll live to 95, so retirement is 60 years.
2.  You'll need at least $50,000 a year in 2009 dollars.
3.  Assume you're trading and making 30% adjusted for inflation (so 34% or so before inflation).
4.  Assume you're adding $10,000 a year for next 5 years.
5.  In 5 years you'll have $283,000 in 09 dollars.
6.  You'll have to make 18% after inflation to get $50,000 a year in 09 dollars.
7.  Conclusion: Doable, but you are not retired clipping bond coupons on some beach in the South Pacific.  You're still investing.  Better if you had more in the nest egg in 5.

Q: How to get more when you have less?
A: Leverage.  Other people's money.

Q: How do you get other people's money?
A: Four ways:

1. Trade on margin: 50% loan.  You'll more than double your return to $558,000.
2. Trade derivative (options) so your dollar represents only a small portion of the underlying security
3. LP: Raise $600,000, 34% ROI is $2.4 million in 5 years.  You keep $500,000. Plus you got $40,000 a year to manage it.  This is more or less what Buffett did in the 50's and 60's.
4. Put half the money in a startup and help make it go big.

GE CEO Buys Stock... So Buy GE, Right?

The other day, Mike left a comment here on the blog about GE. Here's a quote from his comment (taken from Bloomberg):

Last year was “a tough year, and we expect 2009 to be even tougher,” Immelt wrote.

The CEO, while accepting responsibility, made it clear he intends to see GE through the crisis. Today, as GE shares dropped to the lowest price since May 1993, he bought 50,000 shares in a show of confidence.

“The current crisis offers the challenge of our lifetime,” Immelt said. “I’ve told our leaders at GE that if they are frightened by this concept, they shouldn’t be here. But if they’re energized, and desire to play a part in transforming the company for the future, then this is going to be a thrilling time to be a part of GE.” [By Rachel Layne, Bloomberg]

Hey, you gotta like it when a multi-millionaire puts up his own money to buy 50,000 shares.  Now if he mortgaged his house and bought 5,000,000 shares I'd get excited.  And check out the financials on GE, right?  Notice the debt has doubled twice in the last ten years while earnings and sales and book value have doubled once or less.  And it would take about 35 years to pay it off out of cash flow.  Red flag there.  Not to mention a 3% ROIC. 

And what were they doing with the debt?  Over 60% of it went to pay dividends or buy stock.  WHAT???

They were borrowing money to prop up their stock price?  You gotta be kidding!  And worse, like GM, they were borrowing to pay dividends.  That is almost criminal. 

No CEO should pay dividends because investors expect one.  They should pay a dividend because they have cash they can't invest with a high enough return.  Period.  Anything else is semi-fraudulent and certainly misleading.

In other words, GE was either being run into the ground by incompetence or by traitors who were acquiring businesses that didn't pay off.  So traitors or incompetents.  Either way, unless they change management, how is this going to improve?

It's cheap, but it also has almost no equity at all right now.  Debt is 5 times the equity.

Now go play.

What to Do if You Don't Have the Money

A few days ago Hanno wrote me to ask how to stockpile or consume good businesses in this market if you have $1000 or $3000 to invest.  Let's start by reviewing the difference between trading a stock and stockpiling a business for someone with very little money:

Trading a stock using tools requires very little capital.  Read Rule #1 and go to it.  You can certainly do it with $1000, although with that small amount to invest you'll incur trading costs that chew up a lot of your profits. You move in with the Big Guys, you move out with the Big Guys. 

The problem with trading in this market, as some people learned in 2008, is that when you are trading against the trend you keep getting in just as the stock price turns and drops.  An unrelenting down trend will cause you to have many slightly losing trades - I call it "the death of a thousand cuts" in Rule #1. 

Trading in a market like this can be deadly depending on whether you are correctly determining the overall trend of your target stock.  In my next book, PAYBACK TIME (coming out September 2009), I show you how to find the points in time when the trend is changing.  It will help you trade better.

And stockpiling stocks?  PAYBACK TIME teaches  how to stockpile, to consume.  We very rarely get an opportunity to simply load up the truck and forget about it.  No trading required.  We are in one of those opportunities right now.  You can pick McDonalds, GE, Burlington Northern and many more, figure out the payback time for your investment, and buy in for the long term hold. 

But stockpiling takes some kind of cash flow and that's the rub for Hanno.  What to do if you don't have any?

Payback Time

The day after I told Manny (Kiplingers) to get in, the market shot up 500 points. Nice call on the market if I do say so myself.  And pure luck.  I was thinking it would continue down for a while.  But businesses are cheap and that’s what we really care about.  And now it's time to figure out what to buy.   You guys asked me about Apple, (AAPL), Altria (MO),  Verizon (VZ), AT&T (T), Microsoft (MSFT) & ConocoPhillips (COP).  I’ll dig in on these, but only after you tell me what they are worth and why.

As always, I want you to do the homework.  You sent me two opinions of value for AAPL – Charpe197 thinks $286 is retail.  Lynn suggests the right retail value is $151.  Since I didn’t see their work, I can’t say for sure why the difference in value, but I thought I’d add another layer of information for those of you who are looking to buy some businesses right now.

The Bottom

I just sent this email off to Manny Schiffres, the Editor of the Kiplinger Letter and my debate opponent on Closing Bell with Maria Bartiromo (and I copied Maria).  Manny rather sarcastically asked me to call him when we reached "the bottom".  Well, I called him, so to speak.

We're close enough to a bottom to be buyers.  But selectively and only in businesses we want to buy as they continue to go down. 

Keep in mind that we could easily see the Dow at 5000 or 2500, although I think they are going to swap out some of the Dow stocks to shore it up a bit and keep that from happening.  In any case, we buy in now and hope it goes down so we can buy in cheaper down the road. 

Here's the email: