Ben Graham and the Growth Investor

HEWITT HEISERMAN JR.

www.EarningsPower.com
Hewitt.Heiserman@earningspower.com
Earnings Power Chart and Earnings Power Staircase are property of Hewitt Heiserman Jr.
All rights reserved. Copyright 2016

Use a Checklist to Solve Difficult Problems:

Disciplined, repeatable, explainable process improves performance

Just 25% of stocks = 100% stock market gains (83-07)

And 1 Out of Every 5 Stocksa Significant Loser

Lesson: If you are picking individual stocks, you need a method that tilts the odds of success in your favor. One
out of every three companies out of business in 10 years, Cisco Systems John Chambers predicts

A checklist is a series of hurdles. As long as a company jumps over the hurdle, keep moving forward. Some
companies will get to the finish line (Buy), but many others wont

Growth Investors Checklist:

1

Earnings quality:

Authentic earnings power?

Profitable growth?

Competitive advantage:

Low-cost provider
High switching costs
Intangibles (brands, locations, IP, etc.)
Network effect
Ecosystem

Intrinsic value:

Price-intrinsic value

Position sizing:

Do I have an edge?

Sell (exit strategy):

Subjective:

Position dominates portfolio

Thesis no longer valid
Intrinsic value declines
Better idea comes along
Objective:

PCB < 0.80x

Position profit % portfolio > -1.0%
Reward-risk score (actual) > -1.0x
Price-Moving Average (200-day) < 1.0

Talks @ Google Investor Series:

10

Sanjay BAKSHI
Tobias CARLISLE
Larry CUNNINGHAM
Aswath DAMODARAN
Pat DORSEY
Mebane FABER
Tom GAYNER
John HEINS
Howard MARKS
Michael MAUBOUSSIN
Mohnish PABRAI
Tom RUSSO
Guy SPIER
William THORNDIKE
Whitney TILSON
Donald YACKTMAN

Grateful/Gratitude: No man is an island. (John Donne, 1572-1631)

The Haverford School

Haverford, PA

#1 Boys lacrosse
team (U.S.) in
2011, 2015
Source: Laxpower.com

12

One of Worlds Most Beautiful Campuses (Forbes, 2010)

Kenyon College
Gambier, OH

Most NCAA Championship Titles (July 2015):

1 UCLA (I) 112
2 Stanford (I) 107
3 University of Southern California (I) 100
4 Kenyon (III) 60 (Mens swim 34, Womens swim 23)
5 Abilene Christian (II) 57 (Mens outdoor track 19)

13

Laura Hillenbrand,
Author,
Seabiscuit
Unbroken

Chuck Huggins, CEO, Sees Candys, 1972-1985

John C. Bogle
The Vanguard Group
founder, former CEO
Vanguard assets: $3 trillion (12/31/14)

One of 20th Centurys 4

Giants of the investment
industry, Fortune (1999)

14

Nobody knows
nothing.
Most of us should have
most of our money in
low-cost index funds.
Press on, Regardless!

Other Voices, Barrons, Sept. 12, 2005

15

Disclosures/confessionals:

16

Unlikely Google earn $10B by

2014. (Actual: $14.4B.)
In 2011 I bought a stock went to $0
(my first bankruptcy)
Test every claim I makethis is my
process but its your money
Writing book #2, The Checklist
Investor (Myles Thompson,
Columbia University Press, 2017)
Owns Alphabet C (GOOG)

Six (6) Categories:

Yield:

Growth:

Net assets:

People:

Special
situations:

Other:

Interest income

Growth-andincome

Book
value/tangible
book/net-net

Insider buying

Tender
offer/leveraged
buyout

Green-socially
responsible

Dividenddistribution

Secular

Stub (tracking
stock)

Smart money
investor buying

Initial public
offering (also,
busted IPO)

Thematic
(demographics,
macro, etc.)

Synthetic

Cyclical

Commodity

Intrinsic value
investor buying

Spinoff

Short sale (betting

on failure)

Covered call
writing

Speculative (prerevenue)

Intellectual
property

Activist investor
buying

Merger arbitrage

Stock buyback

Distress/turnaroun
d/Chapter 11 BK
Short squeeze

17

Microsoft in the 1990s: A Growth Stock

18

A hypothetical $10,000 investment in 1990 grew to almost $1 million by the the end of the decade, a 100-bagger, in the
parlance of Fidelity Magellan Funds Peter Lynch

Benefits of Owing a Growth Stock:

Make lots of $$$more control over your life, help others, etc.
Defer capital gains taxesyour principal compounds faster
Save money on commissions, bid-ask slippage costs
No exquisite timing requiredbuild a position over years
Emotional satisfactione.g., joy of discovery, pride of ownership,

But: Growth investing is hard

19

Now Its Not This Hard

And Its Not This Hard

Almost ten
times harder
than getting
in to Harvard
Stan Phelps
Forbes, Aug. 5, 2014

Introducing the Price-Earnings (P/E) Ratio:

Amazon
(AMZN)

Alphabet
(GOOG):

S&P 500:

Apple
(AAPL)

Price (stock):

$507

$682

1865

$94

EPS (2016):

$4.46

$34.53

$90.66

$9.08

P/E ratio:

114x

20x

21x

10x

Stock prices as of Feb. 12, 2016, S&P 500 EPS from Barrons.com (2/8/16)

Key point: The price-earnings (P/E) ratio is a measure of expectations. The higher the P/E, the higher
the expected growth; and the lower the P/E, the lower the expected growth. For simplicity, net cash is
excluded from these calculations.

22

The Growth Company Trap

The faster the expected growth, the higher the P/E, and the lower the subsequent investment returns

Annual forward returns, 1964-2009

Highest P/E
(growth)

23

Obstacles:

Poor earnings
quality

GAAP income statement has four (4) structural

limitations. So, just because a company is profitable
in the GAAP sense of the word does not mean that
it has authentic earnings power.

Competitive
advantage
wanes

Successful companies attract imitatorsgood for

consumers, bad for owners. Also, product
imagination-commercialization-diffusion rate is
increasing, which reduces corporate lifespans

Premium to
intrinsic value

We predict by extrapolation, so growth stocks often

bid much higher than intrinsic value (fair worth).

Tip: To minimize these risks and tilt the odds of success in your favor, use a growth checklist

24

Growth Investors Checklist:

1

Earnings quality:

Authentic earnings power?

Profitable growth?

Competitive advantage:

Low-cost provider
High switching costs
Intangibles (brands, locations, IP, etc.)
Network effect
Ecosystem

Intrinsic value:

Price-intrinsic value

Position sizing:

Do I have an edge?

Sell (exit strategy):

Subjective:

Position dominates portfolio

Thesis no longer valid
Intrinsic value declines
Better idea comes along
Objective:

PCB < 0.80x

Position profit % portfolio > -1.0%
Reward-risk score (actual) > -1.0x
Price-Moving Average (200-day) < 1.0

Generally Accepted Accounting Principles:

To create comparability, all U.S. companies follow GAAP

GAAP is Roberts Rules of Order for corporate America
When you open an annual report, 10-K or 10-Q and look at financials
statements, thats GAAP
Businesses need GAAP like motorists need traffic lights
But: Net income, EPS, are not fixed or precise numbers

26

Hedge fund manager

Bill Ackmans
recommended reading list
Earnings quality pioneer Thornton Oglove says
Berkshire Hathaway should de-conglomerate,
because the parts are greater than the whole. In
time, spinoffs of spinoff, Oglove says. (Source:
Barrons, Other Voices, Nov. 14, 2015)

27

Quandry: Free Cash Flow or Economic Value Added?

Alphabet (GOOG) year ending Dec. 31, 2015 (millions except per-share)

Income statement:
Revenue
Less:
COGS
SG&A, other
Investment fixed capital (#1)
Investment working capital (#2)
Intangibles (R&D, other) (#3)
Interest exp./cost of cap. (#4)
Other misc.
Taxes
Total expenses
Net income
Earnings per share (EPS)
Shares outstanding (diluted)
% GAAP profit

28

Free Cash Flow:

GAAP:

Economic Value
Added:

$74,989

$74,989

$74,989

28,164
15,183
8,509
827
12,282
104
168
3,763
$69,000
$5,989
745
$8.04
37%

28,164
15,183
n/a
n/a
12,282
104
(395)
3,303
$58,641
$16,348
745
$21.94
100%

28,164
15,183
n/a
n/a
8,241
5,699
(227)
5,214
$62,274
$12,715
745
$17.07
78%

Benjamin Graham (1894-1976)

29

Born in London in 1894, Grahams family came to

New York City the following year.
Graduated #2 from Columbia University in 1914
at age 20, then offered teaching jobs in English,
mathematics, and philosophy departments
Choose Wall Street instead, because his father
had died, the family was poor, and he needed a
larger income to support his mother and two
younger brothers.
Nearly ruined by speculation during the
Depression years, Graham changed his
approach; started buying his famous net-nets,
reasoning that if things didnt work out he could
always liquidate the assets at a profit. With this
hard money strategy, Graham then averaged
20 percent a year during 1936-1956, versus the
markets 12.2 percent average annual gains
Goal: Exploit Mr. Markets sometimes manic
personality. In the short term the market is a
voting machine, but in the long run it is a
weighing machine."
Taught investing class at Columbia during 19281956, and students included Warren Buffett,
Walter Schloss, Irving Kahn, and Bill Ruane
Turned class notes into Security Analysis (1934).
The Intelligent Investor was published in 1949.
Wanted to do something foolish, something
creative and something generous every day.
Gave presents to employees on his birthday,
figuring he was the lucky one.

Bens Margin of Safety Tenet:

Protect Against Miscalculation or Bad Luck

Warren Buffetts
metaphor:
Build a bridge to
support a
30,000-pound
truck but then
you have a
weight limit of
10,000 pounds

30

Alphabets Margin of Safety: Data Centers Around the World

31

Two (2) Types of Investors, Ben Says:

32

Type:

Defensive:

Enterprising:

Goal:

The defensive (or passive) investor will

place his chief emphasis on the
avoidance of serious mistakes or
losses

The determining trait of the enterprising

investor is his willingness to devote time and
care to the selection of securities more
attractive than average

Buzz words:

Burn rate; cash flow positive;

sustainable growth; hard-money;
lemonade stand discipline

Whiteboard; pre-revenue; first-mover

advantage; Unicorns

Profession:

Commercial banker (pessimistic, risk

adverse; lend you an umbrella when
sun shines)

Venture capitalist (future-looking visionary)

[Alphabet: In 2015, invest $12.3B on R&D
plus as much as another $11.6B on growth
capex, growth acquisitions]

Income statement:

Free cash flow

Economic Value Added

Adjustments:

Expense investment in fixed, working

capital because you do not know if
these outlays will pay off

Expenses intangibles over estimated useful

life; deducts opportunity cost of
stockholders equity.

Other:

Income statement was created for

creditors

proposal:
The GAAP income statement is too
venture capitalist for defensive investor,
and is too commercial banker for the
enterprising investor
from now on:
Free cash flow = Defensive income statement
Economic Value Added = Enterprising income statement

33

Alphabet (GOOG) 2011-2015:

34

Alphabet 2011-2015:

35

Enron 1996-2000:

36

Coal Mine Canary (If the Bird Dies, Sell)

Defensive:

Enterprising:

Both:

Autozone (92-99)

Bethlehem Steel (96-00)

Allou Health & Beauty (98-02)

Centennial Technologies (93-97)

Boston Market (93-97)

Bombay Company (91-94)

CML Group (92-97)

CKE Restaurants (95-97)

Enron (96-00)

EDS (00-02)

Crown Cork & Seal (95-00)

Polaroid (95-00)

Fine Host (95-96)

HealthSouth (96-01)

Sunbeam (93-98)

Gap, The (96-02)

Ikon Office (93-98)

Warnaco (94-99)

Gateway (97-01)

Rite-Aid (95-00)

Xerox (96-00)

Krispy Kreme Donuts (02-04)

Sherwin-Williams (91-00)

Lucent Technologies (97-00)

WorldCom (97-01)

Measurement Specialties (98-01)

Tyco (3/00-12/01)
United Airlines (94-01)

37

Source: EarningsPower.com

Charles Munger: If you buy a few great companies, you can sit on your ass.

Upper-Right Box: Microsoft ca. 1990s - Authentic Earnings

Power and Profitable Growth

38

Garmin: $10,000 grows to $44,000

40

First Cash Financial: $10,000 grows to $86,000

41

Apollo Group: $10,000 grows to $78,000

42

Dell Computer: $10,000 grows to $1.3 million

43

Cisco Systems: $10,000 grows to $631,000

44

Paychex: $10,000 grows to $257,000

45

Quality Systems: $10,000 grows to $70,000

46

Hansen Natural: $10,000 grows to $2.6 million

47

Chicos FAS: $10,000 grows to $73,000

48

Monster Beverage: $10,000 grows to $61,000

49

In Sum: If Your Thesis is Growth

50

Avoid companies in the upper-left, lower-left, lower-right box

Look for companies in the Earnings Power Charts upper-right box; GAAP net
income here is twice-blessed. (John Bogle: (Measure thrice, cut once.)
Even better: Look for an earnings power staircase pattern (this is your hallmark
of profitable growth)
Wall Street and Main Street both prize companies with growthespecially highquality growth
Companies that shine using in the Earnings Power Chart probably have some sort
of competitive advantage, which enables them to enjoy higher gross profit margin
(higher prices and/or lower input costs), and/or turn over capital faster. Companies
that have durable competitive advantages have higher intrinsic values than other
companies

Growth Investors Checklist:

1

Earnings quality:

Authentic earnings power?

Profitable growth?

Competitive advantage:

Low-cost provider
High switching costs
Intangibles (brands, locations, IP, etc.)
Network effect
Ecosystem

Intrinsic value:

Price-intrinsic value

Position sizing:

Do I have an edge?

Sell (exit strategy):

Subjective:

Position dominates portfolio

Thesis no longer valid
Intrinsic value declines
Better idea comes along
Objective:

PCB < 0.80x

Position profit % portfolio > -1.0%
Reward-risk score (actual) > -1.0x
Price-Moving Average (200-day) < 1.0

A Competitive Advantage Is a Moat to Protect the Castle:

How long will the positive earnings

power trajectory continue?
One clue is whether company has a
competitive advantage, or moat.
How wide is it? How deep?
A CA enables a business to charge
a higher price (higher margin)
and/or turn over capital faster than
everyone else
The deeper and wider the moat (if
any), the more valuable the
business.
What is Alphabets moat(s)?
To sharpen your analytic skills,
when you have an encounter with a
business, determine the nature and
durability of its moat, if any

Intrinsic Value Drivers:

Period:
Revenue growth:
Profit margin:
Investment rate fixed capital:
Investment rate working capital:
Tax rate:
Cost of capital:
Add: Net cash
Divide by: Shares outstanding
Intrinsic value per-share

53

Forecast:

Post-forecast
(terminal):

Growth Investors Checklist:

1

Earnings quality:

Authentic earnings power?

Profitable growth?

Competitive advantage:

Low-cost provider
High switching costs
Intangibles (brands, locations, IP, etc.)
Network effect
Ecosystem

Intrinsic value:

Price-intrinsic value

Position sizing:

Do I have an edge?

Sell (exit strategy):

Subjective:

Position dominates portfolio

Thesis no longer valid
Intrinsic value declines
Better idea comes along
Objective:

PCB < 0.80x

Position profit % portfolio > -1.0%
Reward-risk score (actual) > -1.0x
Price-Moving Average (200-day) < 1.0

Price-Intrinsic Value:

Alphabet C (GOOG):
Price (stock):

$682

2/12/16

Intrinsic value:

$755

Morningstar (2/9/16)

Price-intrinsic value (PIV):

90%

$683/$755

Reward (upside profit):

$72

$755-$683

% upside to IV:

11%

Intrinsic value is the amount of money that a company will earn over its remaining life, in
current dollars. To protect against miscalculation or bad luck, as Ben Graham advised,
buy intrinsic value at a discount. The lower the price-to-intrinsic value (PIV), the better.
Always remember that intrinsic value is just an estimate, and stock prices can go much
higherand lowerthan we may think is possible.

55

The Shrinking Corporate Lifespan:

56

Over the next five years, 32 percent of U.S. public companies will get de-listed, via acquisition, bankruptcy, etc. The cause
of this increased disruption is because product imagination-commercialization-diffusion cycles are faster than ever, so
companies move through their lifespan faster now than before. The landline telephone took 39 years to reach 40%
penetration, but just 6 years for the cell phone, and 3 years for the smartphone.

Incremental Return on Incremental Capital:

Alphabet (GOOG) 2011-2015

57

An Alphabet Bet:

Status: Prerevenue. Question: Large investments today = large earnings tomorrow?

58

Resource: Valuentum Securities

59

Resource: Old School Value

60

Ben Grahams Hard Money, Depression-Era, Net-Nets

Buy stocks the way we buy groceries, not the way we buy perfume

Alphabet (GOOG)($M)

12/31/15

Cash & ST investments

$73,066

$73,066 @ 100%

$8,667

$11,556 @ 75%

Receivables
Inventory
Total

$81,773

Less: Liabilities

$27,130

Net-net working capital

$54,603

Margin of safety:
Buy target (net-net):

61

$0

$0 @ 50%

66%
$36,038

Shares outstanding:

745

Fully diluted

Bens offer:

$48

Actual: $682 (2/12/16)

Growth Investors Checklist:

1

Earnings quality:

Authentic earnings power?

Profitable growth?

Competitive advantage:

Low-cost provider
High switching costs
Intangibles (brands, locations, IP, etc.)
Network effect
Ecosystem

Intrinsic value:

Price-intrinsic value

Position sizing:

Do I have an edge?

Sell (exit strategy):

Subjective:

Position dominates portfolio

Thesis no longer valid
Intrinsic value declines
Better idea comes along
Objective:

PCB < 0.80x

Position profit % portfolio > -1.0%
Reward-risk score (actual) > -1.0x
Price-Moving Average (200-day) < 1.0

Key Points:

63

What percentage of my portfolio (capital) to put in a given security?

Do I have an edge? An edge is a legal advantage you have over everyone else.
Four types: info, analytic, behavioral, and structural.
If you have an edge, exploit it; i.e., bet big. (To wit, in 1948, Ben Graham put 25%
of his firms capital in GEICO, then up about 17x in eight years. After the 1963
Salad Oil scandal, Warren Buffett puts 40% of his partnerships funds in
American Express, then up about 5x in five years.)
Always determine the consequences if you are wrong? What are they? And can
you afford them?
If you dont have an edge, a) start small, b) build a position over time as you get to
know company better and/or you get a better entry point (lower PIV), and c)
always have an explicit, well-defined, sell strategy

For Men Especially: Guard Against Overconfidence!

64

Curt Schilling invests

entire $50M net worth
in his video game
business 38 Studios,
which in 2012 went
bankrupt
See, also, Hunt
Brothers and silver,
Long-Term Capital
Management

More, see
https://www.aaii.com/journal/article
/2-the-psychology-behindcommon-investor-mistakes

My Overconfidence Story - Investing in a BK:

My Story:

65

In 2011, buy China MediaExpress (CME)

because it passed my three tests as

described in IETC: authentic earnings

power, competitive advantage, low PIV
$200M in cash, no debt; double-digit
revenue growth; P/E 8x

Deloitte audited financials

AIGs Hank Greenberg owned $80M via
his Starr Asia and an associate had a
board seat
Starr Asia and an IB analyst confirmed
the cash; TV screens in buses; contracts;
etc.
But, the business was a fraud (my first
bankruptcy).

My Epiphany:
Impetus to write The Checklist Investor
Also, I added to checklist certain
objective (quantitative) criteria to prevent
me from never turning a another small
loss into a big loss
Now, feel like I have more control over
portfolio, which provides greater peace of
mind. Never wonder, What should I
do?, as with CME

How Well Do You Position Size?

66

Everyone starts with the same hypothetical $100K; and everyone

gets the same trades; i.e., same frequency and size of winners,
losers)
After 50 trades, portfolio sizes range from $0-$13 million.
Position sizing and individual psychology were the only two
factors involvedwhich shows just how important position sizing
really is, Dr. Van Tharp says.
To learn more: Tharp, Dr. Van. Definitive Guide to Position Sizing
Strategies [2nd edition], The Van Tharp Institute, 2013)

67

Growth Investors Checklist:

1

Earnings quality:

Authentic earnings power?

Profitable growth?

Competitive advantage:

Low-cost provider
High switching costs
Intangibles (brands, locations, IP, etc.)
Network effect
Ecosystem

Intrinsic value:

Price-intrinsic value

Position sizing:

Do I have an edge?

Sell (exit strategy):

Subjective:

Before
China
Media
Express:

Position dominates portfolio

Thesis no longer valid
Intrinsic value declines
Better idea comes along

onl
y

Objective:
and
After
China
Media
Express:

PCB < 0.80x

Position profit % portfolio > -1.0%
Reward-risk score (actual) > -1.0x
Price-Moving Average (200-day) < 1.0

Selling Obstacles: Show Me a Good Loser

Watch for behavioral risks, such as endowment effect, pain-pleasure asymmetry, desire to avoid making a loss official.

69

Safety Switch:
If the
machinery is
breaking down,
hit STOP to
prevent further
damage

70

Safety Switch 1/4 Price-Cost Basis (PCB):

Price (stock):
Maximum loss (%)
Sell @
PCB

$50
-20%

Bet size (percentage)

$40

$50 - ($50 x .20)

0.80x

Decide before you buy the size of your bet (i.e., your maximum percentage loss
from cost basis
If the stock falls below your predetermined maximum loss, you were either early
or your thesis is wrong. Either way, dont turn a small loss into a big loss... SELL!
Maybe you sell 50% of your position if it falls -10% from your cost basis, and the
other 50% if it falls 25%.
For William ONeil of Investors Business Daily, any stock that falls 7-8% from his
purchase price (cost basis) is an automatic sell.

71

You May Not Catch a Bid if Bad News is Unexpected

-35%

LinkedIns stock closed at $192 on 2/4/16 and opened the next morning at $125. So, watch position size!

72

My Favorite Holding Period is Forever W.E.B.

Yes, but:
If you buy-and-hold the wrong
company, you may suffer a
devastating loss, and thus have to
work longer before you can retire;
or, you may anger your clients or
bossyou may even find yourself
in the unemployment line.

73

Uranium Resources (URRE):

-99.84%

Buy at the top ($150) and hold until now turns hypothetical $10,000 into $17

74

Arch Coal (ACIIQ):

-99.93%

Buy at top ($670) and hold until now turns hypothetical $10,000 into $2.81.

75

Safety Switch 2/4 Position Profit % Portfolio:

Growth type:

Utility:

Large -cap:

Micro-cap:

Pre-rev.:

Max loss from CB:

-10%

-20%

-35%

-75%

Portfolio (capital):

$100,000

$100,000

$100,000

$100,000

$1,000

$1,000

$1,000

$1,000

$1,000/.10

$1,000/.20

$1,000/.35

$1,000/.75

Position size (initial):

$10,000

$5,000

$2,857

$1,333

Position % portfolio:

10.0%

5.0%

2.9%

1.3%

Position sell @

$9,000

$4,000

$1,857

$333

1% rule (your bet):

1% formula:

If you limit the loss from any single position to one percent of your portfolio, you can lose ten times in
a row and still have 90 percent of your capital. If 1 percent rule too restrictive, then have a 1.5 percent
rule, 2 percent rule, etc. But, have a rule. If you get knocked out of a company you like, buy it back on
installment basis after the selling pressure ends, provided no smoking gun emerges.

76

Safety Switch 3/4 - Reward-Risk Score:

Intrinsic value:

$65

Price (stock):

$50

Reward (expected profit):

$15

$65-$50

Reward-risk score (RRS), target

3.0x

Invest probabilistically

$5

$15/3.0

Sell @ $65; RRSa =

3.0x

$15/$5

Sell @ $75; RRSa =

5.0x

$25/$5

Sell @ $45; RRSa =

-1.0x

$(5)/$5

Sell @ $40; RRSa =

-2.0x

$(10)/$5

Sell @ $25; RRSa =

-5.0x

$(25)/$5

Risk (your bet):

77

To tilt the odds of success in your favor, never lose more than one times your bet. In other words, if
RRSa is -1.0x or worse, sell. (If you have read Dr. Van Tharps, my RRS is his R-multiple.)

Safety Switch 4/4 - Price-Moving Average (PMA):

Billionaire hedge fund

manager and philanthropist
Paul Tudor Jones: My metric
for everything I look at is the
200-day moving average of
closing prices. Ive seen too
many things go to zero, stocks
and commodities.
To learn more, read: Jack
Schwager, Tony Robbinss
Money: Master the Game

78

Corporate BOND Market (VICSX)-2/12/16

What is the backdrop? Wind at your back, biking downhill, etc.

79

Corporate EQUITY Market (VTSMX)-2/12/16

What is the backdrop [asset class performance?] Wind in your face, biking uphill, etc.

80

Microsoft (MSFT) 1990-1999

The 200-day MA during the 1990s provided mostly a support level. Whenever PMA(40 weeks) < 1.0, the
stock crossed back above the trend before too long.

81

Microsoft (MSFT) 2000-2009

-50%

-50%

In the 2000s the 200-day MA often acted as a resistance point. If a company falls below its moving
average, make sure you have an edge

82

Alphabet C (GOOG) ending 2/12/16

+ 6%

83

Interactive Brokers (IBKR) ending 2/8/16

-24%

84

Deutsche Bank (DB) 2/16/16

-45%

85

Oil ($WTIC) ending 1/29/16

-70%

86

Horsehead Holding (ZINC) ending 2/5/16:

-99.48% in less than a year

87

Linn Energy (LINE) ending 2/8/16

At $14,
-50%

At
$7.00,
-50%
At
$3.50,
-50%

-99%

At
$1.75,
-50%
At $0.37, -70%

Lesson: Down is not the same as cheap. Also, these charts are logarithmic, not linear (i.e., logarithmic is a more
accurate depiction of price changes, because they are shown in percentage terms)

88

The More You Lose, The Harder To Recover:

89

You lose:

To recover:

Bagger:

-10%

11%

0.11x

-25%

33%

0.33x

-33%

49%

0.49x

-50%

100%

1x

-75%

300%

3x

-90%

900%

9x

-95%

1,900%

19x

-99%

9,900%

99x

-100%

#DIV/0!

#DIV/0!

e.g., China MediaExpress

The Point Is, If Your Ship is SinkingGet Off!

Quality of earnings pioneer Thornton Oglove: You never know how highor lowa stock will go.

90

91

Alphabets CAF BADAAL Review: 8.9 out of 10

92

Self-Assessment-What Grade Are You In?

93

Grade:

Skill/mindset:

Beginner:

Stock price

Intermediate:

Net income; earnings quality (Earnings Power Chart)

Advanced:

Competitive advantage (durability); value drivers,

intrinsic value, price-intrinsic value

Expert:

Checklists; mindful position sizing; reward-risk score

(forecast, actual); exit strategy; use subjective and
objective exit strategies; establish controls to prevent
turning a small loss into a big loss; investment journal
(winning percentage, expected return); post-mortem;
and investment strategy in writing

Action To Take:

If you want to improve your investing results, what skills and mindset do you need to acquire and/or develop?

Action to take 1/2: Define Your Strategy in Writing

Criteria:

Buy:

Own:

Sell:

Idea sources; quantitative,

qualitative factors; etc.

Position size; How

follow the narrative; etc.

Qualitative,
quantitative factors;
etc.

Question? What is your investment strategy? Is it in writing? What are you margins of safety to
protect against miscalculation or bad luck?
If you make a mistake, determine the cause and then add a question to your checklist to avoid
making the same mistake twice.

94

Action to take 2/2: Create an Investment Journal

Buy:

Sell:

Company name
Company symbol
Date

Date

Price

Price

Shares (quantity)

Shares (quantity)

Thesis (e.g., growth, spinoff)

Thesis (e.g., intrinsic value degrades)

Intrinsic value estimate

Reward-risk, target (e.g., 3x)
Capital (portfolio balance)

95

Reward-risk, actual

If you forget everything else, remember this:

Do Not Turn
a Small Loss
into a BIG LOSS!
Rule No.1: Never lose money.
Rule No.2: Never forget rule No.1.
Warren E. Buffett

96

Thank you

Saurabh

Thank you

Google
97

The end!