Value Investing After The Rally 2009

I’ve been a busy with a couple of personal issues that have restricted me from being involved in the market like I would want to but nevertheless, I try to spend an hour a day to keep up to date on the latest econ and market news. Now, after the recent run up from the March lows, many investors are wondering whether its too late to jump in the market or whether they should wait a couple of months when and if the market corrects itself.

When and If

If there is one thing I have never relied on is market timing. For one, I straight out suck at it. Every “guru” out there claims he or she could figure out when to jump in or out of the market, but very few, if any, individuals have done so in the past, and very few if any will do so in the future. So, knowing that I’m no good at market timing, I do my best to buy a company’s stock at a discount.

I’d rather be approximately right than precisely wrong.” Warren Buffet

The next obvious question will be, how do I know what a stock is worth so I know I am getting a discount?  The most common way of valuing a company is by doing a discounted cash flow analysis or DCF.  Over the years individuals and corporations have developed complex discounted cash flow spreadsheet’s that try to pinpoint exactly what a company is worth. In my opinion, this is baloney. For one, you are trying to predict the future and something will go wrong and that’s why I rarely rely on a DCF. If I do, a pen and paper will do the trick.

Sidenote: Google “Free Discounted Cash Flow Calculator” and you will find some good ones

Ok  dummy, what do you use? Free Cash Flow Yield and Earnings Yield (Magic Formula Investing)

Formulas:

Free Cash Flow Yield: FCF/ Price

Earnings Yield: EBITDA/ EV

Are we overvalued?

I primarily uses the following tool gauge whether the market it undervalued. One, (image below), tells me its still a great time to purchase stocks despite the recent rally. This is a great way to know where we are in the long term scheme of things.

Take It On A Case By Case Basis

Due to higher priorities, I have narrowed down the stock screens I use every weekend. I still continue to screen for the magic formula every week. I am now getting a handful of companies to analyze and the best “Tip” I can give you is take it slowly and more importantly be patient. Some stocks have doubled/tripled off their lows and thus might be fully valued. At the same time, just because a stock has doubled, doesn’t mean it cannot be a bargain. Take company ‘Blue Widgets” which you figure could be worth somewhere between $30-$42. In March, it could have been trading at $10 and currently trades at $20. Would you purchase it? What are the alternatives?  Why is it going to be wroth $30? What if it goes down, will I buy more?  Are other companies in the sector equally undervalued?

The Good Ol’ Value Traps

If one thing is certain during market run-ups , is that bargains become scarce and we are left with value traps. There 1001 ways to define a value trap, but my definition is “there is no catalyst”. For example, newspapers currently do not have a catalyst that will overcome free online readership.Or, there is no reason for me to purchase a CD when digital music is available. Two value traps: UNTD and ELNK, which both appeared on the magic formula screen this week.

United Online is an Internet service provider (ISP). You might be familiar with Classmates or Netzero. The stock has not gone anywhere in the past 3-5 years. Quite frankly, with the company not having any broadband strategy , I see no reason why its stock will go up. And here’s the deal, DSL is quickly becoming a thing of the past with internet providers such as Verizon / Time Warner Cable offering faster and faster speeds at lower and lower prices.

The same could be said for ELNK”

ELNK) has reassessed its strategic direction and eschewed investment in its municipal Wi-Fi network and wireless phone business. The progression from dialup Internet access to broadband has inherently rendered the dialup segment a declining industry with no growth prospects.”- Morningstar

Value Investing Fund

I’m starting a Value Investing Fund from scratch. I’m hoping to create some kind of track record as graduation is in the near future. I’m in no financial position to be purchasing stocks, so I’m hoping this gives me an extra pinch of help when applying for a job. It’s going to be fun, and I hope someone learns one thing.