A real life warrant trade explained

Posted on | July 23, 2010 | No Comments

I have done a few posts on warrants like warrants defined and how warrants work. I was reading through financial websites and I found a few press releases on companies offering warrants to investors. In the press releases, they use the terms used in the warrant markets to I figured that I should do a post walking through what they mean. This is because one of the major reasons for the existence of this website is to make investment lingo easy to understand and implement.

As I have said before, warrants give the holder the right to buy (call warrant) or sell(put warrant) a financial asset, that ranges from a stock to crude oil to third world currency, before or on a certain time(expiry sate) at a given price(strike price or exercise)

Knowing the above, let’s dig in.

In this linked market watch article, the US treasury says that it will sell warrants to buy the First Financial Bancorp common stock(this means that the warrants being issued are call warrants). The strike price that an investor is required to buy each warrant is $12.9. Now the price of this common stock(or also called the underlying) is $14.41 meaning that this particular call warrant is defined as in-the-money because the strike price is lower than the market price of the involved stock.

So an investor can buy the buy this $14.41 stock at $12.9 and either hold on to it and wait for a higher stock price and thus higher profits or sell it immediately making a pure profit of (14.41-12.9)=$1.51. The warrant investors can only exercise the warrant before the given expiry date after which the warrant becomes useless to him.

Another term commonly used in the warrant markets is “gearing“. This is dividing the price of the underlying(in this case 14.41) by the price of the warrant(in this case 12.9). The bigger this number, the bigger the chance for big profits (like in our call warrant case) or big losses (in the case of put warrants)

Also the conversion ratio for the above example if 1:1 meaning that you need one warrant to buy one common stock. Sometimes the ratio can be 12:1 meaning 12 warrants for 1 share or whatever the suits in the offices decide.

After reading the above, this ‘’The Independent” article one examples of issued warrants should be pretty straight forward.

Finally there is this press release of an ongoing warrant that you would like to read through so as to internalize the warrant concept.  . It is also very straight forward and it seems these warrant holders are in a win-win situation. Truth be told, I wish I was a  ProUroCare Medical warrant holder because the company seems to pass some of my criteria for me to invest in it; in my light analysis anyways.

I think that warrants are just a way of eating your cake and having it because technically you cannot lose more that you have put in. For instance in the first example, you cannot lose more than the $12.9 you put in even of the stock price goes from 14.41 to zero. While the said stockholders would get their faces ripped off, at least you as the warrant holder would suffer less loss is such a catastrophe happened.

Those are warrants for you. Even if I am not for derivatives as such, because of their complexity, I must say that I am warming up to these warrants.

Rolling stock; definition and special uses

Posted on | July 22, 2010 | No Comments

When I first came across this term in an investing manual, my first thought was that it was some type of security or stock market investment but the thing is that my definition did not fit in with what the book was talking about. So I did a little research and this is what I found out about rolling stock.

Basically it is the wheeled assets that a transport company like a rail road has like the freight cars, passenger coaches and any other of the company’s wheeled assets. It is supposed to be the just those wheeled vehicles that do not have engines but the term is used collectively for both propelled and self-propelled cars. Wordiq.com has further this interesting article on the various divisions of rolling stock.

Other terms are running stock or motive power.

Apart from the fact that it is used to transport people and this from point A to point B, rolling stock has many other uses for a company. A transport company can easily use it as collateral for a loan because of the fact that it is easy to ascertain its value and life span. It is also relatively easy to insure against damage and loss unlike other things that are used to get loans like home equity, whose value fluctuates from time to time.

Another more nifty use of the rolling stock by transport companies is to make a form of funded debt called equipment obligations. Sometimes a transport company, say a rail road company wants to expand its operations. In most cases it will do a bond offering if the stock offering does not bring enough funds. Now, something that you should know is that this funded debt is insured against the company’s assets or earning power so that in case the company cannot meet its interest payment obligations i.e. in a default, the assets can be liquidated and the proceeds used to pay the investors. It works in theory anyways. To still get more money from the investing public, the company can make a special debt obligation called an equipment obligation. This special bond is backed by a particular asset like the rolling stock or a very important part of the railway. It provides better protection against loss of principal because even in the event of a default, their interest payments have to go on because the hub of the business is still functioning and thus still making some cash meaning that the debt attached to it can still be serviced. In most cases the equipment obligations that have been insured by the most important parts of a freight business have been serviced even when times were bleak.

So there is rolling stock and its uses for you. So next time you are in a passenger car or see an oil tank car, you should see that its uses in the company run deeper than just the visible function. Also if I am to invest in any bond offering, I would look for special obligations like the one fore-mentioned because of the advantage of safety of principal.

Collateral trust bonds; functions and uses explained

Posted on | July 21, 2010 | 1 Comment

It has been a long time since I did a bond post. This is mainly that my fascination is mostly in the stock markets and not in the bond markets. Also another thing that is deterring me from really getting very much involved in the bond markets is the complication. I find the stock markets easier to navigate and the jargon easier to understand than those in the bond markets. Maybe I am just not interested in it or those bond people are intentionally making everything hard to understand so that we stay out of it? There’s something to think about.

So anyways collateral trust bonds/collateral trust certificates/collateral trust notes are more or less what the name implies. It is a type of corporate bond that is backed up by the company’s financial assets, like stocks, other bonds, notes etc. They are usually issued by holding companies and they use the financial assets of its subsidiaries. These bonds that are used as security are kept in a trust so that in the event of default due to bad financial times, these kept bonds are transferred to the collateral bond holders. It normally increases the bondholder’s safety because holding companies by function hold stock in various companies in different industries so in the event of default, the stock of one of its subsidiaries would still remain valuable meaning that the collateral bond investor does not lose his cash since these valuable stocks are transferred to him.

With these bonds, the holder had the primary interest in the market value of the financial assets backing it up. These bonds are almost always well protected even when other normal stockholders and bond holders are having their eyes scratched out by adverse financial times. They are just another option for an investor to protect his principal when investing in a company. If this option is available in a company’s bond offering, pay more attention to it because of the above advantage.

Something that has to be added is that they are usually short term debt securities so do not expect to see maturities in the decades like some government bonds I saw with a maturity of 2 centuries!

As these bonds are backed by intangible assets, you can say that they are the opposite to bonds that are backed by physical assets like mortgage bonds and equipment obligations.

Each and every deal has its own unique set of advantage and disadvantages so you must read the terms of each offering before jumping in. Sometimes the issuing companies try and find ways of eschewing their responsibility if paying up in the event of a default. For instance, a company can say (in the indenture) that the assets will only be transferred to the collateral bond holders only if the subsidiary company has declared a profit over a certain amount. In the event that the profits declared is less than stipulated the bonds will not be transferred to you the collateral bond holder. This hypothetical example serves to drive the point home that you should read the fine print in each deal because no two offerings are similar.

That is basically the collateral trust bond for you future bond investors. A deal like this can make me invest in bonds but other than that, I think I will stay in the stock markets.

The types of stock markets

Posted on | July 20, 2010 | 3 Comments

This site mainly looks at investments in the stock markets like stocks, bonds, warrants and the like. There are very few times that I have done a post describing for instance what a stock market is, the types of stock markets available, the different stock markets available in different parts of the world etc

In this article, I will look into the types of stock markets, dividing it into the two major divisions; the primary stock market and the secondary stock market.

The primary stock market or the new issue market is the one that few investors are familiar with as it deals with the issue of new securities or Initial Public Offerings.  Something that you have to understand is that a company goes public to get funding for its business by selling off part of the business in form of the shares. When a company wants to go public, it has to go through an underwriter- just a fancy name for investment bank- a kind of middleman that handles the intricacies of the deal like the number of shares to be floated, the starting price of each share, which institutional investors get first dip and the like. So in a sense floating the shares is a way of the company to get long term funding from the capital markets. While the underwriters handle the details mentioned above, it is the company that receives the cash from the investors and in turn gives out the stock/bond certificates. This is the only time that a business will receive cash from the capital markets or investors in exchange for part of the business (or the financial assets) and this is why the deal is done in the primary markets.

Another way of defining the primary stock market is if the funds go directly from the investors (or the buyer of the shares) to the issuer (or the company going public).

The stock from this kind of deal is called primary stock. It is mainly stock from small to medium sized companies because they are floating shares to the funding to expand business operations. Finally freedictionary.com brings out another feature of primary stock market that the investor buying this stock is does not pay brokerage fees because these fees are already built into the price you are paying. After this is over and done with all other subsequent trades will happen in the secondary stock markets.

The secondary stock market or the after-market is the one that most are familiar with because of all the media attention. This is where the stocks and bonds are traded after the IPO is over and done with. This is where brokerage firms, stockbrokers, stock investors interact all the time as they buy this stock and sell that bond and the like. Also there is a greater variety of investments that are derivatives for previously issued shares like stock options, warrants, the  older stocks and bonds, repackaged mortgages, etc You as the stock investor does not have to deal with the issuing company to get the stock as you would have to do when in the primary stock markets. When you want any stock, you get them through a broker or another investor willing to sell them to you. The secondary markets are the ones that you know of like the London Stock Exchange, Nairobi Stock Exchange, New York Stock Exchange etc. This is where all the complicated things go on.

That is basically another facet of the jungle that is the stock market. It gets more complicated the longer you deal here and it is better you start getting to know as much as you can about the stock market and investments contained therein. It is another way of exercising due diligence in your investing career.

GREED IS GOOD!- or is it??

Posted on | July 19, 2010 | 3 Comments

The above is a very popular Wall Street motto. Personally I came to hear of this phrase through Gekko (for those that do not know of this character, he is basically the personification of corporate greed; the doing what you have to do to maximize your profits even if it means stabbing your friends family and anyone around you in the chest)

Let us look into this for phrase that most money people live by. Greed is good- for whom?

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Truth be told, i have always been fascinated by the Wall Street crowd, they seem so much more intelligent than the rest of us, they seem to have a very impressive work ethic (ever heard of wall street closing for any public holiday?) and most of these people are educated in some of the best universities in the world. Finally most, no all are the chest thumping testosterone filled males that most of us dream of being.  I read through the book Liar’s Poker by Michael Lewis (and did a review). The book really brought the life of a stock broker to life. I mean these guys are so driven to make as much money as they possibly can within the shortest time possible. And therein lies the application of this wildly popular phrase -greed is good. It is good for the individual and everyone else can pretty much go to hell.

I stock broker is one that has no loyalty to you the customer or any other investment firm apart from the firm he works in and ultimately his end year bonus. He will sell you an investment, be it a stock, bond, warrant that is so toxic that he even winces every time he thinks of it. At that time he will praise it telling you and several other potential buyers that this is the best deal that he has ever seen. The stock broker will use his (normally very high) intelligence and pick the most ignorant and greedy-for-quick-profits customers so as to pitch the investment to. Reason being if he does a very good job of exciting you, then you will not even bother to analyze the financial documents and all other factors before investing your money. He will do this because the more investments he sells for his firm, the higher the bonus will be. Granted he might lose some sleep but that check at the end of the year will justify all the wrong he has done; at least in his eyes anyways.

Security analysis and the intelligent investor both warn against trusting the advice that investment firms give to their customers. This is because they will give you information that is biased to suite the securities that they are selling. After you see that such and such a stock is good, you will call up the firm that gave you that info and buy through them. This will mean that they can subtly modify things to lead you to them. Anything for a bigger bonus.

PS; want to know what these guys do with the gargantuan bonuses. Watch this interesting documentary on the lifestyles of the wall street brokers. Ask any of these brokers if greed is good and do a poll on what they say.

In my opinion, the best thing that you can do for yourself and avoid your ignorance and greed being exploited by anyone is to be as well informed about whatever you want to invest in as possible. Another thing that you have to do is control that greed that you may have for short term profits. This is because if you are greedy, you will end up doing something stupid because you will be clouded with thoughts of early retirement or making it big.

The bible also warns us against these two vices. Case and point 1 timothy 6:11 but you man of God flee these things(love of money) and pursue righteousness, faith, love and piece. Another bible verse that helps you combat the vice that is ignorance is proverbs 13:18 he who ignores discipline(as in not being able to control yourself) will come to poverty and shame but whoever heeds correction is honored. This is very true in investing in the financial markets. If you cannot control yourself, the bloodthirsty money men will be able to smell this from a mile off and will fleece you out of house and home with absolutely no remorse.

Finally, I would like to put forward my thoughts on this that greed is only good for the money or success hungry and will generally lead to a lot of people that are not this “ambitious” into a lot of trouble.

I have never ever met a Christian wall street money man. If I do, I think you guys will be the first to know, followed by some kind of book

Liar’s poker by Michael lewis- personal book review

Posted on | July 16, 2010 | No Comments

This is a book that came out many years ago but I just recently got my hands on a copy of one. You don’t normally review a book that has been in circulation for so long but after the experience I had with reading it, I decided to write a quick review on it.

The book is some kind of biography of the author because it starts just when he is out of grad school and looking for a job. He finds one in Wall Street working for (the now infamous) Salomon Brothers as a bond salesman.

It is basically a somewhat detailed story of his experiences of his time in the firm; from being a green trainee to being one of the senior people in the firm. It also exposes the lies, self-interest and greed of the brokers in Wall Street straight from the horse’s mouth.

The title Liar’s poker was from a game the traders used to play on the trading floor with the same name. It was a game that basically encompassed what they did all day long; making bets with large sums of money, making a lot of it or loosing all of it all with the twinkling of an eye. It was a game that one had to have a very sharp mind and a very good ability to control his emotions, doing calculations in his head at the same time trying to predict what his opponent was going to do next and try to outthink him. A person who could handle the pressure of the game and win made a very good trader.

After getting employment after some sort of unpleasant run around, he gets in to the trainee program where all the other potential employees are shown the ropes of what they will be doing. Here he gets to meet many of the senior people in the firm giving the reader very detailed and somewhat satirical descriptions of them. He also explains how the trainees arranged themselves during the program and what this sitting arrangement said of each of them. For instance, the guys that sat at the back were very unruly, noisy and rowdy but at the same time most had the mental framework to make it big in the firm; they acted the way they did because they were confident in their ability to succeed.

The book does a good job to detail what happens day after day in Wall Street through the eyes of one of their own. For instance it explains that investment banking is now what the rest of us perceive it to be. There are classes some of which are more respected than others. For instance corporate finance, while still under investment banking was not respected at all. Even the traders regarded them as wimps because they never took any risk- they just sat in offices with secretaries and went to meetings with captains of industry. Descriptions like this are found all over the book making working in a Wall Street firm come alive.

The book also does a good job in detailing what happened in the levels in a firm after government legislation was changed eg what happened when the bond interest rates were set free and the like. Most of us in non-finance professions do not really see the results of some finance bill being passed but in the book we see what happens when a favorable or unfavorable one is passed.

Salomon brothers, where Michael Lewis worked, was one of the major players in the bond market meaning that it knew most about bond trading than most firms. This is where the mortgage bonds were created with a guy called Ranieri. It describes how he came to be in the bond department, how he took control and how he made this market more efficient and as gargantuan as it is.  In the midst of this, he also describes the peculiar habits that these mortgage bond traders had after they became the most profitable department in Wall Street like the wanton greed(for food and money) they displayed.

There are many instances where the mind of a Wall Street money man is shown; make as much money as you can for your firm and yourself even if you have to cheat the customer out of house and home. This happened many times in the book where brokers sold bad bonds to customers after lying to them that they were the best deals around, so that the firm would not have to lose that cash. They basically exploited the customer’s ignorance and greed for profit, all without remorse.

I could go on and one writing the bits that stuck in my mind but I would not scratch the surface. The book is written for those that are interested in knowing a lot about investing and those that just want a general knowledge of it. Michael Lewis did a good job in catering for his reader’s preferences. If you are even vaguely interested in knowing about investing in investments like stocks and bonds without really getting into the nitty gritty of it, read this book.

Incidently after reading this book, I came across a forbes article about the investing career of Warren Buffett and Salomon Brothers was featured here. This was because there was a time, near the demise of this firm that Warren Buffett came in. Needless to say, it made the book come alive for me.

This is the first finance book that I have read and not skipped any pages. It is also the first time that I read a finance book and understood most of what was being said because of the jokes and side stories that are peppered all over the book.

Even if the book came out years ago, get yourself a copy and read through it; you will understand some most of the things that  happened very recently like the subprime mortgage crisis because the same characters mentioned in this book are the same ones responsible  for that debacle. It is the securities created during the time that this book was being written that played a major role in the recent market crash.

I am currently reading the big short, also by Michael lewis and it is also as thrilling as liar’s poker. Other people who have read the two say that it is better to first read through Liar’s poker because the big short is somewhat a continuation and I tend to agree with them.

TO BUY THE BOOK, USE THE BANNER IMAGE AT THE TOP OF THE POST

is this really success??

Posted on | July 14, 2010 | 3 Comments

For the longest time, i have liked reading other people’s financial success stories. It gives me a warm fuzzy feeling inside when i read of a person coming from a poor to middle class family, dropping out of school for various reasons and going on to make mind boggling fortunes. Stories like these are everywhere; especially on the internet where there is always an ad saying that so and so made so much money after struggling for so long with poverty and personal issues.

Case and point;

Warren Buffett: This guy wasn’t born with a platinum spoon in his mouth. Infact he was born right in the middle of the worst economic times in recent history; the great depression of 1930 . I was reading a forbes article about him saying that he had to really work at convincing the initial investors into letting him manage their money because he had no cred. Well he succeeded at this investing thing and at the moment, he is one of the richest men in the world and also hugely beloved by investors and frugal people alike.

Same thing with Carl Icahn; I read that at a certain point in time, he was so broke that he had to sell his car so that he could find a way to feed himself. At the moment, he is a multi billionaire.

Another billionaire that was born in the great depression and did not let his environs hold him back is George Soros.

I could go on and on but i am sure that you have a list of people whose rags to riches stories you have heard a million times. The lessons are also very valuable.

Like for instance, you could say that like warren Buffett, you must not diversify your investments so much but concentrate on a fewer bunch of investments that you know very well and thus in a position to profit from them very well. With a smaller list of investments in your watchlist, you can analyse the financial documents with greater detail, look at all the factors needed before investing etc This will also help you in becoming an expert in one area of investing thus increasing your likelihood to make a truckload of money.

You could also learn that you must do as much works as you can to avoid risk at the same time maximising your profits because in the definition of value investing, safety of invested principal plays a vital role.

Another thing that i have come to see that these financially successful people share in common is the ability to control their emotions. This ability to shut the noise out really works for you beucase you will not be influenced with what other investors around you are doing. This level headedness will make you make better desicions that are not clouded by fear, greed and all manner of  destructive human emotions. It works out to your favor if you can separate yourself from the herd mentality that most investors have and make your own decisions

There are so many things to pick from the so many success stories around but my question is why is it that most people that succeed never seem to mention God as the source of their success?

As a christian i read that “in all your ways acknowledge God and he will direct your paths” This will evidently mean that when you do succeed in anything, you must give the glory back to God and thank him for giving you the victory. But i have seen very few people doing this. Most just start talking about how they succeeded when everyone else was failing or how they made it when the whole world was against them and so much hullabaloo.

As a christian i think more of us should thank God for our victories and give the glory back to him instead of boasting about them. The more we do this (the saying that we ourselves are responsible for our success) the more it angers God because he sees this as pride; which might lead to a very ashaming downfall for you.

This is one of the reasons why i am not such a fan of motivational books- they tell the readers that they are responsible for their own success and thus leave no room for God in the hustle to move up in the world. They are all like “so-and-so made it so can you” or ”the potential to succeed is inside you; just read this book and tap into the fortunes that await you”" bla bla bla!

I am not telling you not to read them; by all means please do. But do not forget that you will succeed if God wants you to and if you do, make sure you thank him and acknowledge him as the source of your success. Pleasing God will always work out to your favor in the long run.

When and how to ask for help in your investing

Posted on | July 12, 2010 | No Comments

I am getting the opinion that high octane active securities investing is not for everyone. Not everyone is suited pitting large amounts if their money against the mentally unstable stock market. There are those who can and those who plainly cannot. If you cannot, just ask for help from a reputable person or firm. But the thing with this seemingly simple advice is that

Investing has long being a man dominated industry and that is where the problems come in.

First of it is very hard for a man to ask for help even when he is visibly getting pummeled in the market. It hurts when you have failed in an area that men are supposed to succeed. I don’t know about other men but I would hate to have to ask for help from other people in an area where my peers seem to be making a killing from all sides. They have a term for it; it is called EGO.

But is the end justifies the means the end being a good financial base where you can retire in peace and relative comfort, then it is of utmost importance that a person asks for help when it is required.

When to ask for help

In my opinion, an individual investor should ask for help in these situations;

Major losses within a very short time. This means that you just don’t have that ability to judge the market accurately and thus to keep yourself from losing your house, livelihood and everything else, ask for help.

Another reason to ask for help is if you have too many financial obligations and you seem to be struggling in allocation of the available finances in a way that everything is catered for. It makes no sense to live in an extremely tight budget just so that you can have more money to put in the stock market. That feels like a person addicted to gambling in casinos looking for a fix. Investing is not a gamble; it is meant to give you security in future. If you feel that you cannot do this by yourself, ask for help.

Another possible reason that you may have to ask for help is if you don’t seem to be good enough at asset allocation and your portfolio looks like a bomb went off there. A way to gauge this is if your stocks, bonds, funds, etc seem to be performing the same no matter how the market is performing. A good portfolio is supposed to be hegded in that when some securities are performing badly, others are performing well to counteract losses incurred in the badly performing ones and possibly get a little profit. If you cannot seem to do this well, just ask for people skilled in asset allocation.

Another problem that stems from above is where to ask for help.

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First of you could try your stock brokerage house but I am a little skeptical about the accuracy of the information that they give. Sometimes they may give you (doctored) data that makes the securities that they are selling look deceptively attractive. Also in my country, stock brokers have a very bad reputation. It is not once that they have used investor’s money to make gambles in the market, lost it all and then gone under, never to be heard from again. Sometimes entire brokerages have been guilty of this, causing investors untold losses and a compete loss in faith in the stock market. But on the other hand, there are some reputable stock brokerages that can actually give you accurate information.

You could try investment bankers. These guys have nothing to gain from an individual investor because their work is to underwrite and sell IPOs to institutional investors and other very large investors. So their advice can be better than the brokers’. The problem here is that the information they give you can be a little on the complicated side but the upside is that it is in most cases not misleading.

You could try using the free financial services like personal finance and investing blogs on the internet to improve your financial savvy. This works but you have to have good judgment and independence in thinking because most of these sites are the opinion of the writer. We finance writers are by no means absolute authorities so one must read these, see different perspectives of the same thing and then make his decisions in his investing.

But I still maintain that active investing is not for everyone; if you feel that you are just not cut out of the same cloth as Warren Buffett or John Paulson, just get a few good passive investments like index funds, good mutual funds and a few good quality bluechips and let the portfolio run in autopilot.

It is better to have peace of mind when it comes to important things like financial matters.

Where else so you get your advice and information when making your investment decisions?

dollar cost averaging and the college grad

Posted on | July 9, 2010 | No Comments

(the title sounds like i got it from a movie right?- like harry potter and the goblet of fire ) It is the first thing that came to mind.

Now that we are through with campus and out in the world, how do we deal with our finances? When still under our parents wings, some of us did not really have to think so deeply about investment, financial security and the like because when we were broke a mere phone call to the parents was enough to get some cash in our pockets..(signs)…the good old days. Now we have a paycheck and suddenly there is need to budget. The more financially prudent of us have started thinking about investment and long term financial security. How do you invest in anything like a stock, bond, hedge fund etc when the paycheck is not that big? You do not have to have a large amount of money lying around to invest; this is where dollar cost averaging comes in.

I learnt about this investing formula some time back and instantly got interested in the simplicity behind its reasoning and effectiveness (after all they do say that simplicity is genius).

Dollar cost averaging is a time and tested formula that many attest works for someone not interested in complicated portfolio management and asset allocation. Basically this is what it is and how it works.

Dollar cost averaging is where an investor invests a fixed amount of cash in securities (they may be mutual funds stocks, bonds treasury bills or whatever investments that the investor fancies) after a fixed amount of time. This time can be monthly annually, every three months etc. The idea behind this concept is that during bull markets when share prices are in the sky, the fixed amount to be invested means that the investor has to buy less of the overvalued securities. Conversely when the share prices are very low, in a bear market, the investor can buy more securities with the fixed amount he has to invest. This is something that the investor has to do without fail whether the market is good or bad.

Assuming that you are blessed enough to have a something like $200 left from your paycheck. It is very easy to use that regular $200 to build a good investment portfolio instead of saying that you will save up to a million and then put it all in a stock market investment. The little amount will also mean that you will be more careful with what you invest. You will be inclined to better picked stocks than just speculating on bad IPOs.

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get these books on value investing and dollar cost averaging; they are worth the investment
I’m no fortuneteller: so, don’t ask me where the markets are heading tomorrow. What I do know: dollar-cost averaging doesn’t require a crystal ball.(TOTAL RETURN): An article from: Black Enterprise

Security Analysis: Sixth Edition, Foreword by Warren Buffett (Security Analysis Prior Editions)

The Intelligent Investor: The Definitive Book on Value Investing. A Book of Practical Counsel (Revised Edition)

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According to investorwords.com it is called constant dollar plan. It is also worth saying that it does not only have to be the dollar as the main currency but an investor can change it to suite the currency he invests in, shillings, Euros, pesos,…. You get the drift.

The reasoning behind why this works is that an investor is not supposed to buy shares when the prices are over their book values- (the real or calculated value of the share) and so with the fixed amount that he has, he buys less of this overvalued securities. Another thing is that investors prefer to buy securities when there is a protracted bear market when the prices are way below their book values because they will be bought at a discount and thus offering a possibility for profit in the next bull market when the prices rise above the book value (I will explain this concept of book value in the very near future).

Beyond the peace of mind that comes with not having to follow each minute change in share price so that you can profit from the fluctuations, there is also a form of financial discipline that one gets from consistent practice of this dollar cost averaging since an investor has to budget ahead of time to allocate a certain amount to be invested and what amount to live on.

Another reason that value investors like this formula is because it is long term in that one sees the effects after a long time. This is no short term investing thing that a speculator sees profits after a month or whatever.

This investing formula has better results than any other investing formula and any other market timing formula that has ever been brought up. I saw this thumbs up in the intelligent investor …“No one has yet discovered any other formula for investing

which can be used with so much confidence of ultimate success, regardless of what may happen to security prices as dollar cost averaging”. But this does not guarantee a profit in all the investing ventures because there is really no way of knowing what will happen in the future and one should be wary of any investing formula that promises to beat the market or predict the unpredictable future.

Dollar cost averaging also reduces the risk of investing a large amount of hard earned cash in a single or very few investments because one can easily loose that cash. Investing a little over given time intervals in different securities reduces this risk in that if he buys a share x this month he might not buy them next month because of market conditions disfavoring the purchase.

The biggest downside that I can see with this investing formula is that an investor has to make transactions very regularly and will mean that higher fees that will eat away at returns (this demerit makes them bear a similarity to mutual funds vis-à-vis fees.

This is a personal thought but I think that a person should not treat all this available cash in this way. I am for the opinion that one should dollar cost average some set amount and keep some aside for lump sum investing. This is because once in a while a very good deal comes along and the investor will want a larger amount to invest in the stock, bond etc than what is available in the dollar cost averaging plan.

This is partly how I will start building an investment portfolio; it makes better sense than buying gadgets and cars that will depreciate in value in a very short time. I want something beneficial out of my twenties and a good financial base would be nice.

should you be concerned with market cycles?

Posted on | July 8, 2010 | No Comments

One of the most important aspects of investing in the stock market is the ability to control your emotions. The most financially successful investors have had this ability and for the most part, it has paid of in form of mega returns. I mean look at Warren Buffett and John Paulson the hedge fund manager.

The ability to control yourself in the face of life threatening crises is also important in other ways, like financial samurai showed with this post.

We all know that the stock market is one of the most unstable markets in the world. One minute, an IPO stock is flying high over its real value and the next it has lost 90% of its value for no apparent reason. Some times the price of a stock is so low that no one even wants to get caught thinking about buying into it and the next, the price has shot up to the stratosphere; again for no good reason.

An investor who decides to base his career following a visibly unstable stock market will probably have a very short career, if it does not end before it starts. Value investors claim that people that follow this mode of investing are not even worth of the title of investor; they should be called speculators because they visibly have no idea what in the blue blazes they are doing.

The ability to control yourself when lesser men are cowering and doing the chicken-little-sky-is-falling dance is something that the investor should have. And therein lies the problem. Isn’t the ability to keep calm under pressure something that one is born with?

I am for the opinion that there are some people that can keep calm when the sky really is falling and others that just do not have that ability. A good example is emergency room doctors. Patients with all manner of ailments and infections bombard them from all sides and they seem to take it all in their stride. Can you imagine having to deal with a patient with his insides hanging out, another with his half his head blown away, another with a skin eating infection and another with advanced STDs? All after lunch? Yet these people do it with a disturbing calmness. I cannot think of doing this all day every day.

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DO THIS SURVEY AND GET SOME CASH TO PAY THAT PHONE BILL

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My mum told me that medicine is a calling and not a profession; you can either do it or cannot. Somehow i am starting to think that the same applies to active securities investing. Imagine having the courage of watching 80% of your lifelong investments go down the drain and stay calm? Yet, this is something that the Benjamin Graham’s intelligent investor advocates.

For real life examples, we can start with Warren Buffett. He has this ability to keep market  excitement separate when making his investing decisions and even goes on to say that ”be greedy when all others are fearful and be fearful when everyone else is greedy”. While this seems doable in paper it isn’t so easily done in the battle fields(read the stock markets). If it was, there would be more people with net worths of tens of billions of dollars. Another one is the hedge fund manager John Paulson who shorted securities in the housing crisis, betting that everybody else in the world was wrong and he was right; and guess what it worked and he made billions. I really think that these people are not like the average John Q public. You either got it or you don’t.

Sometimes, things happen and i see that i am not suited to active high stakes investing because i have a hard time controlling my emotions, particularly when hard earned money is involved.

Over to you, do you find it easy to control your emotions when investing with hard earned money? Do you, like me, think that active investing is not for anyone because not everyone has the right faculties or are you for the opinion that anyone can learn to be an active investor and control his/her emotions?

I appreciate your thoughts on this matter.

Benjamin Graham’s The Intelligent Investor- personal review

Posted on | July 7, 2010 | No Comments

I know that there are numerous reviews for this book in finance blogs and websites but I just wanted to have my take on this book.

This is the first book I have read on the intricacies of investing in the stock market in that it deals with how exactly to go about stock investing with real life examples; not like a self-help book that gives you vague advice like let your money work for you in the stock market. This one deals with the mentality an intelligent investor should have when going about his investing ventures.

PS; here is the link to buy this text book aptly named the intelligent investor

The book begins with a speech by Warren Buffett about how he read the book when in his late teens and how it revolutionized how he handled his investing from that point on. At some point he goes on to say that to successful investing does not really require a genius’ mind just a sound intellectual framework and a way to control your emotions when implementing that framework.

This book is in a way an investor’s motivational(self help) book because it will teach you more of the mentality you need when undertaking your investment ventures and a lot about the principals of investing. The real intricate details of investing are handled in security analysis.{ We are advised that before reading security analysis, you first read the intelligent investor because this book will set the mental framework needed to build a good value investor’s foundation- but I digress}

PS; here is the link to buy security analysis

Because history tends to repeat itself there is a lot of historical information in the book showing the readers the things that happened during major economic upheavals like the during the depression of the 1930s, what caused them, the investors’ attitudes at that time and mistakes and how the present time investor can avoid falling into the same trap because, as shown in the book(in remarkable detail I might add) the same things attitudes that occurred in the past occur in the present and will without a doubt occur in the future(talk about nothing being new under the sun)

If you are interested in building your investment portfolio and you want a part of it to be dedicated to stocks, bonds, mutual funds etc, this book is a must read even if you do not intend to actively invest in them. The reason the book gives for this is that a person who takes his investments like a business is bound to be more successful than a person who takes them as a gamble. A business person makes it his business to know all the areas of his business even if he is not actively involved in them. Another reason is that knowing how to handle your investments means that you are less susceptible to be fleeced by unscrupulous stock brokers taking advantage of your business. So do yourself a favour; buy the book here and read it through very slowly. The lessons that you get therein are invaluable.

It is a book meant for those inclined to value investing but those inclined to technical investing and day trading should also give it a read if for no other reason to improve the skill in their craft.

The book does a fabulous job in blowing myths like growth in a company does not necessarily translate to profits for investors even though most of us make growth and profits to be one in the same. Another myth it blows away is that market timing doesn’t necessarily work because what you are doing is trying to predict an unpredictable future- it may work the first few times but at some point in time it will blow up in your face leaving you with some major losses. Also it beats away at the opinion that the so called money experts are not as skilled as we would like them to be. At a certain point the book shows that it would be better for these money managers not to do a single trade because they never seem to beat the market even with the numerous trades they make. This means that for unskilled individual investors, the benefits of index funds are really amplified.

Another thing that the book handles is how an investor should handle the silent tax called inflation to minimize it eating away at your returns (to me this was not satisfactorily dealt with and the explanation left a few questions unanswered). Other things that the investor is taught how to handle are things like market fluctuations and how not to let each swing affect his investments. He is taught how to take a long term approach to his investing because his improved perspective will make him make better judgments without being clouded by things like market euphoria, quick profits and the like. Other things on how to deal with investment funds like mutual funds, hedge funds etc, are also handled in the book. It gives good guidelines on how to select a good fund that has your benefit in mind and not just the managers’.

It also goes into great detail on how a risk aversive investor should handle his portfolio so that to maximize his earnings while at the same time be able to sleep at night not worrying whether or not he will wake up poor in the morning. If you are such a person the book is a must read.

On the other hand, it also deals with how a person who wants higher return from his investments while still shouldering more risk should structure his portfolio ie how he should allocate the securities to suite his wants.

The best parts for me were the commentaries because the authors really put a lot of humor in to it. After reading a chapter full of things like per share earnings and how to deal with them a chapter taking a funny twist follows where things turn to a lighter note.

Things like comparing the stock market to a manic depressive and how an investor must not follow this every whim are talked about. He says that if you cannot follow the emotions of a real life mad man then why should you follow him in the stock market just because everybody else is? References to the big foot in pick ballet slippers in cocktail parties are included to drive the point home.

Lastly to keep the review short(ish), if you are even vaguely interested in investing in the stock market, you should seriously read this book. Most people taking their investing seriously have read this book and talked about how they have benefited from the advice given.

To buy the intelligent investor  proceed here.

what is home equity??

Posted on | July 5, 2010 | No Comments

I have heard of people using this home equity to pay off debts and the like but never really understood what is was and how they can be able to do things like this. I am currently reading a book that talks a lot about this so I decided to do a little research and throw up a short post on this.

Basically home equity or owner’s equity is the difference between the value of your home and what you owe on it. Like for instance let’s say that you have mortgage payments amounting to $100k and the current market value of that house is $120k; then the equity of the home is $20k(there is a little more to it that that but you get the idea). So increasing the equity of your home is something of an investment.

Something else about equity is that the more you owe on the house to your mortgage company the less equity you have and vice versa. So this means that if you pay a larger down payment on your house and then make higher monthly payments then the higher the equity you have.

Also to make sure that you have the best chances of increasing your equity to the maximum, it is best to look for a house in a very secure place that many social amenities like schools, hospitals, malls and the like are more easily accessible. This coupled with the fact that you are making more than your required payments means that you will have a lot of equity on your house and hence the investment.

The reason that a person with a mortgage should go all out in increasing his equity is because he can use that equity to borrow more cash from the bank. Money that can be used to do other things like pay debts, invest or whatever you please. Sometimes in the course of time you may need some money and if you have equity, you can borrow using it (I personally see how this can be misused and the negative applications on how a home owner can be made to borrow more money from the financial institutions but I digress).

In some cases you can borrow up to 80% of your equity. Using the example above this would be 0.8*20000= $16000.

But something that you should not do is use your equity to borrow cash is the equity is a low amount. Use it as a last result; because you are deep in debt and you are all out of options because what you are doing is getting into more debt-which will just complicate your life. This is what I think even though you may argue that you are using this money to pay off other debts. It always pays to be careful.

There are wise ways to use up your equity and there are dumb ways to use it. Unwise ways is using the cash to get another car, going to an exotic holiday- you know blowing it on things that you have absolutely no need for.

It would be wise to use the cash to pay of some debt in that after the different debts are paid for, you only have this equity loan to pay for instead of 5 different ones.

Other good ways to use equity apart from using it to pay debts is like;

-to start a business. This will be an asset the cash flow from which you can use to pay up the equity loan among other things.

-invest in the stock market in things like index funds, bluechip stocks, rock solid mutualfunds and the like. Not to speculate on bad IPOs and some growth stocks

The point I am trying to make is use the equity on something that will speed your way to financial freedom or for dire emergencies and not make you sink deeper into the mire of debt. It is up to you to know what the reason for getting the equity loan is.

I have found this article that basically says what I have but in a different more detailed approach

That’s basically it about equity.

starting a book review section

Posted on | July 3, 2010 | 2 Comments

This is just a quick heads up

I am going to start doing book reviews for all the finance and investing books that a person interesting in investing -or just wants to gain a little knowledge in the finance world- should read.

We should have started doing this much earlier (and i feel like kicking myself for this) but you know…

We will try to be as objective as possible but not without putting up personal critisms and the like; this is a blog and not a newspaper publication.

There are a few reviews of books in the archives so i might be recycling posts now and then.

have a nice weekend btw

60 minute payday loan- personal review

Posted on | July 2, 2010 | 4 Comments

In this post, i am going to explain what this type of loan is and in a some way how they work.

We all know that most loans are extended to individuals by big financial institutions like banks and the like but the thing is that some people cannot qualify for these loans because of the requirements asked of them like collateral that the bank will use to regain their money in the event you don’t pay up on time, a fixed amount of periodical income income and the like. Well this is where 60 minute payday loan and others like it come in.

When a person that cannot get a loan from a bank applies for a 60 minute payday loan, that person is connected to lenders that review the information submitted in the form and then give you a loan.

An option like this is only recommended when you really need money for an unplanned for emergency(some of these things come out of no where like an engine overhaul, medical expenses) but sometimes an applicant just needs some money to so something that is important to him and just cannot wait.

The thing is that some loans like these have gotten bad press because of the hidden charges that they will incur so it is always important to read the fine print in any payday loan that you want to apply. Also some payday loans are just scam artists out to get you and fleece you out of house and home. So you should do a little research on the payday loan that you want to use and check the internet for people complaining that they got scammed by them. I did this and found nothing incriminating about 60 minute payday loan. Also like any debt, it is important to have a way to pay it up because in the end you have to pay it up; it is not free money that you are been given but a way to get yourself out if a problem. The best way to know that you are dealing with a scam artist is if they are asking you to deposit some money in an account for whatever reason. Legitimate payday loans do not ask for this. The only thing  they ask for is truthful information in the application that is then reviewed and then you get your cash.

Well 60 minute payday loan offers you cash up to $1500. When you apply for the loan your application is immediately reviewed and the terms and conditions of your loan are set up. If the information that you gave is truthful and can be verified, then you are contacted about the terms and conditions of your loan and if they are ok with you then you finish the third step of your application and you get the cash sent to you almost immediately.

Another reason that i can recommend 60 minute payday loan is that their affiliate program is on one of the best affiliate networks available like affiliate.com, neverblue, copeac etc. For an affiliate network to approve a program, it has to go through stringent approval process before getting included.

As with anything involving money, it is important to read the fine print before getting into them and 60 minute payday loan is one of them.

60 minute payday loan is for immediate cash issues- you know something that just crept up on you and you need money NOW. It will not cater for long term cash requirements like mortgages, car payments and the like. They will also cater for people with bad credit and  those that earn a low income and thus don’t have much hope of getting cash from bigger financial institutions.

If you are interested in getting the 60 minute payday loan all you need is to click here and start your 3 step application and truthful information and tha’ts it.

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when to follow daily market fluctuations in investing

Posted on | June 30, 2010 | No Comments

In the past, we at life-dividend have been very much against making daily market fluctuations decide when to invest in a stock,bond or mutual fund or when to sell investments that you own.

We are more to having a concrete reason to invest or divest. When choosing what to do with money that  you worked for so long to get, you must exercise prudence and common sense. This is because the ability to make that cash comes from God and thus you must go all out in spending it in ways that will please him. This means that in your endeavors of making more of it, you must be careful where exactly you put it.

In making his decisions about investing we are very much for taking a lot of time to research about the security; read thorough the company’s financial records to see if they are satisfactory, research the way the business is run and the nature of the business. For instance as a christian i would really not invest in a company that causes suffering to others through bad policies, destructive products, treating workers badly etc. It would make me feel bad about benefiting from someone elses pain and suffering. This is one of  the things that i would factor in my investing.

In the case of stocks, bonds and investment funds, you must know when to buy into a security.

Daily price fluctuations that should assist you in deciding whether or not to invest in a security are those caused by changing of the nature of the business.

For a real life example, Dell computers seem to be having problems in the running of the business. To me is seems that the nature of the business is destabilizing and is could be a good reason for me to start thinking about staying away from it. In one of the financial books i read professional investors give a decrease in the quality of managemnt and general decline in the running of the business as justifiable reasons to start thinking seriously selling the stock. Read the whole Dell story here.

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But on the other hand because this is what many value investors may think and end up doing causing a decrease in the price, another investor might decide to use this as an opportunity to increase his holdings, This is because when everybody is selling a stock, the increased supply of of the stock and the decreased demand causes a dip in prices, sometimes to below the book values making them bargains.

An investor can use this opportunity to increase his holdings becuase bargain investments are what every value investors look for. I am not saying that Dell’s stock will decrease to below book values; i am just using it as a hypothetical example. Sometimes it is important to go the other way when everybody else is going in one direction.

There is no way that you can stand out in any endeavor investing or otherwise if you are too afraid and therefore keep following the crowd mentality. Think for yourself  and make decisions not influenced by the crowd’s euphoria. This goes for other aspects in life like education, Christianity, relationships and the like.

In my opinion, the only reason that should make the investor make the sell or buy stock, bonds etc is when the prices make the securities attractive in that the price of the stock of a very well business  has fallen below the intrinsic value but everybody else seems to be averted to it for no good reason. Getting into this security when it is a discount  increases your margin of safety making this more of an investment than other junk bond like securities.

On the other hand there could be a good reason that investors are avoiding a stock, maybe the business is in a bankruptcy and there is very little hope that there is a recovery in the works. In this case investors getting in are in for a rough ride. There is really no way of knowing what the future helps and making good investment decisions or often than not comes from a experience in knowing what to look for in a troubled security.

So instead of looking at stock prices every morning and making your decisions on what to invest in, the best thing is to look for ever bargain opportunities like when temporary problem in a business cause the stock price to dip to discount levels when those that are letting themselves be led around by market  emotions run away from these for no good reason.

This is my long term value investing strategy that gets a good polishing once in a while.

true definition of investments?

Posted on | June 29, 2010 | No Comments

Some time back, i read through the intelligent investor and in it they gave a definition of an investing venture according to a value investor.

In it, they gave this definition;

An investment venture is one which upon thorough analysis, promises safety of principal and and adequate return.

Well let’e break this down some shall we?

First off there is thorough analysis. This means that before anyone decides to invest in anything, an investor must first analyze the security using all the information available on it. For instance if it is a stock, the investor must examine all the financial documents pertaining to the stock, this linked post is one that i did on the documents required in financial analysis. This means that when a stock broker calls you up and tells you that he has the investment of a lifetime and you should invest before everybody else, you must know that what you are doing is gambling or speculating, not bona fide investment.

The other is safety of principal. This means that you must see to it that your initial investment is protected well enough. This means that those mindless risks we seem to love because we stand to gain a fortune in the event of a windfall are not to be classified as investments. It is important to know what you are doing with your money; whether you are really investing or whether you are speculating in the markets.

the last thing is a promise of adequate return; not astronomically high returns, not dividends that will make you a millionaire overnight, not that stock that you heard is the next microsoft, just adequate returns. This to me means that an investor should have a down to earth sensible approach as to what he expects in his investing.

Most people have this conception that there are some professions that one can make soo much money over night and retire in Boka; well it is not in my line of work and definitely not in investing even though some time times investors hit a lucky streak and make millions within short periods.

This also means that those high yield securities like junk bonds cannot be regarded as investments.

This is what i read and from where i stand, it makes a lot of sense.

money-conscious college grads; do they exist??

Posted on | June 28, 2010 | 3 Comments

I normally read a lot of personal finance and investing blogs and they teach the virtues of being frugal with your money, being financially responsible and investing from a very young age.

Ever since i started reading these sites, my perception on money and financial security has really changed. For instance, i was only thinking of living in the moment and worrying about the repercussions later. You know, buying something that you evidently don’t need just because the advert was eye catching and you had some cash lying around.

Thank God that i did not have a credit card when i was in this mentality; i would be in major debt problems. I have learnt that one has to gain prudence by thinking how you would like your financial situation to be like 20 years from now. Another example is that i have seen that i don’t really need a souped up car. I can use the bus and thus save a lot of cash in insurance and maintenance costs. I can honestly say that i have learnt a lot in that last year about finance matters than many of the years in high school and college.

Now the problem is that i seem to be the only early 20 something that seems to think that preparing for the future as something to be grasped. Most of my friends are into partying, betting fortunes on the current world cup games(most of the time a lot of cash is lost and in the even of a win, it is blown in a club), thinking about how they are going to buy high end vehicles immediately after college, all manner of expensive toys and shoes. My advice that one should start planning for the future is usually met with blank-that-is-the-kind-of-thing-my-mum-says looks.

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Of late i have been reading a lot of posts for recent college grads advising us to get into investing and good financial management early but somehow i think that every few of us will actually come to read and implement this advice.

No wonder they say that history repeats itself. You would think that more of us want financial security because we have the advantage of seeing how bad it is for people with mountains of debt but for some strange reason most of my age mates don’t fully seem to appreciate the magnitude the problem of a life bogged down by heavy debt. I think it is that deceptive feeling of immortality that we have and thinking that those problems will never happen to us.

So what will probably happen is that most of us who are through with college will continue spending money like maniacs, stack up debt to the sky and then get married with thousands in debt. Then reality will hit home when money lenders start knocking at our doors asking for their money, mostly with very high interest rates. After that when life becomes black and white and there is no more sunshine and the blue skies are gone, we will discover there is such a thing as a frugal lifestyle and personal finance blogs. We will start reading through them furiously, clipping coupons and saving each and every coin we can while at the same time our kids are growing up and the cycle begins again with them.

I hope for our sakes i am wrong but from what i can see i really doubt it. Personally, i think that getting rich is not the answer to all of life’s questions. I think that the best life is one that’s lived with God’s wisdom, prudence and integrity and this is how i want to live the remainder of my youth and subsequent old age.

What do you think of my reasoning on the predicament on young free spending college grads?

where you MUST be rich

Posted on | June 27, 2010 | 2 Comments

I have just read a list on the most expensive places in the world to live in and i am shocked to say the least.  

Scrolling through the list, i see places where lunch in a restaurant costs $25! A full $25; that is enough for a starving college student to live on for over two weeks(where i am from), believe me i know. I sincerely cannot see myself spending that kind of cash on one meal. That would be something i would spend on a high end restaurant on a very very special occasion; but that is just me.  

I must add that there are some cities i fully expected to be on that list an others that have no business being there.  

Cities that i expected to be there are  

Tokyo Japan; from what i have heard, it is not a cheap city to live in. They say that lunch costs around $18, a kg of rice almost $9 etc. By the way it sits at the tippy top on this list  

Oslo, Norway- Lunch 43 US DOLLARS! can you imagine paying that kind of bakes on a single meal? What is you are taking someone out to lunch? I think broke ass students and teenagers really have to be creative when planning a date. Either that or it is a lonely life for them A kg of rice is over $5.6 and a movie ticket is $16. If i ever have to live there, i think i will have to wait for the dvd instead of going to the movies.  

Nagoya, Japan- the second Japanese city in the list. Japan just seems to be a very expensive place to live. With lunch at $19 and a kg of rice at  $9.14, i shudder  to think about what low income earning people eat. There was an article i read a while back talking about the plight of homeless townies in Japan. They were saying that most of them have to spend their nights in cyber cafes because cruising the internet all night is cheaper than booking a lodge. In some cases, there are those who couldn’t afford this option.  

Yokohama, Japan- If you are thinking of traveling through Japan on a shoestring budget, i suggest you reconsider because there doesn’t seem to be such a thing. Yokohama is the 5th most expensive city in the world to live. The commentary says that this is because they have thriving industries, so you could expect that the living standards are quite good. But what about the people who cannot live up to the high cost? How do they survive?  

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Stavanger Norway- The living standards in this little city seem to be on the high side because of the riches from oil. With a kg of rice at over $5.7 and lunch at $33, i can see why this place is on this list. I mean, a kg of rice where i live is less than a dollar and lunch is around $5-6 in a decent place. A $33 meal would be in one of the most expensive joints in the city.  

Kobe, Japan- Japan again. I would love to back pack across this place to see how much it would cost a frugal traveler to live here, counting every single coin. If God blesses me with some extra cash, i am booking a flight and going a reco there. Apparently a movie ticket costs $20. I wonder what a guy has to do to impress a pretty Japanese girl there; sell an organ?  

Copenhagen, Denmark. It should be on the list because of the high income workers earn here.For a person so used to counting every penny, i dont think i would be able to pay $8 per night for a dvd. But if i was earning $x,xxx per month, i would probably reconsider it.  

Cities in switzerland include, Geneva, Zurich, Bern and Basel. With $25 and above lunches, i can see why the rich boys like this place so much. But something that i have been asking myself is that we all know Switzerland for the skiing but the basic needs cost the proverbial arm and leg. How much does a weekend on the slopes cost? It is something that i would like to experience before i grow old and slow.  

Cities that shouldn’t be here are those that are situated in the third world. My reason is that a third world city with astronomically high living expenses means that inflation and food prices are through the roof; not  that the living standards are so good. It means that there is a very large discrepancy between the rich and the poor. From something  i read, this cannot be good for the political climate in a country. When the income gap is too wide, civil war is always around the corner.I mean just look at what was happening in thailand.  

African cities that should be ashamed to be on this list are Libreville Gabon with its $27 lunches. They are saying that the country has a lot of oil and lumber but we all know about the political unrest in that country dont we??  

Abidjan cote-d-Ivore ranks 17th most expensive city to live on earth. Apparently there is a thriving agricultural industry but i dont think that this justifies the high living costs. I am not surprised that there has been civil war in this country. It always happen in a mineral rich third world country. I cannot even begin to think what city dwellers that cannot afford $27 for lunch eat.  

Abuja, Nigeria. Another African country that should not be on this list. I have a friend that told me that this place is one of the most inhospitable places to live. Apparently most of the townies in Nigeria have to struggle to live everyday. The living standards in this country leave a lot to be desired. Lastly let us not forget the political unrest that has plagued the country for the longest time now  

Kinshasa Congo also makes it to this infamous list. With lunch at $20, and a kilo of rice at $8.5, i would assume that there are many people that consider three square meals an obscene luxury in this city. This country has also been plagued by a lot of political unrest so you can be sure that the high living costs in Kinshasa are not because everybody is so rich.  

Another city that i in my opinion should not have such high living standards is Rio de Janeiro Brazil. From what i gather, there is a very large discrepancy between the rich an the poor. While there are so many business choppers flying over the city, there are so many that cannot afford to use $25 for lunch.  

Cities that i expected to be on this list and aren’t are London, all South African cities and Miami. I also expected the big apple to rank higher on the list.  

That’s just what i think about the list on expensive places. You can read the whole list here
  

It it just me or is the world becoming a place for rich people? It seems that people who have no desire to reach the millionaire status(like the new me) really have no place here. I havae just been hearing that such and such a place is the playground of the rich; never a paradise for the poor, middleclass or broke ass students   I guess it is the world we live in huh?  

is a university education really that important??

Posted on | May 19, 2010 | 17 Comments

When i was younger, like in secondary school and high school, i had teachers that drummed it into our heads that to succeed financially in this life, you needed a college education. It went without saying that the harder the course you chose to do in campus the more money you would make.

It never crossed my mind that this advice that the teachers were giving was hypothetical because most of the primary school teachers did not have degrees and while the secondary school teachers did have them, they were really not as financially well off as they had made us believe that college educated people are supposed to be.

I took the advice they gave as the proverbial gospel truth and applied myself to getting the best grades in the hardest subjects like maths and the sciences and then get the hardest course i could get in campus. I did this because of something called delayed gratification- this is the foregoing of present pleasure for a greater more satisfying one in future. In my mind, the sleepless nights and the lack of any form of social life would be repaid by a better income than most of my peers. To cut a long story short, i got really good grades and subsequently a notoriously hard course in campus.

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Well i am starting to question the wisdom of the advice that i so tenaciously stuck to. Questions that keep swirling in my mind include; is it always that very good grades are a prerequisite to financial success? if the better the grades the deeper your pockets, then why aren’t these professors(that teach thing that for the life of me cannot seem to get my head around) the richest people around? What about the high unemployment rates among new graduates?? If times are so good for those guys that graduated before me, then why is it that i see them still in the campus grounds(some even coming back to do other courses-shouldn’t they be out there making fortunes)?

Of late, the fire of these questions has been rekindled by an article that i read in the wall street journal . It was titled a lament for the class of 2010. It is basically a reality check for the green new graduates that the real world isn’t what we have been made to believe by the so called generation x and the oh so misleading main stream media. It is talking about how ivy league grads(graduates of some of the best schools in the world- harvard, yale etc) are having to do menial jobs like clerks, delivery jobs and the like because of lack of gainful employment. On top of that, they have colossal student loans to pay. Some are even going back to school for other degrees and in so doing getting other student loans. This is extremely thought provoking  article here. It posed more questions that answers in the solutions that it gave to this problem.

To make matters worse, there is this article that i read some time back(i had to google keywords to get it) about the bleak situation that college grads in china(keep in mind that china has one of the largest economies in the world). Many grads are living like paupers because they cannot find gainful employment. This is not the situation that we were promised when i was younger. They told us that when we got good grades, the money would just follow. Well clearly this is not entirely accurate.

New york times offers some kind of solution. According to them you can always chose not to go to university. In this somewhat convincing article, plan B- skip college they say that those how skip college education have a better chance of employment than they college educated counterparts. Even though the pay will not be as good as the elusive white collar job promises, at least you wont have to excessively pound the pavement looking for a job because according to their research, it seems that these blue collar jods will need workers in the tens of thousands. You can read the linked article at the beginning of the paragraph. To me it makes sense but there is one little kink. How many adolescent precollege kids actually read this article and thought deeply about what it says? Most teenagers would rather look up celebrity gossip websites and magazines that read things that will complicate their fun lives. Most of those that read this article are either graduates or are in college. The people that this article is supposed to help are probably indifferent to it.

So that said, i have a solution that does not entail dropping out of college or eschewing higher education. In very few words, here goes. TRUST IN GOD WITH ALL YOUR HEART AND LEAN NOT ON YOUR OWN UNDERSTANDING. This bible verse sums up all we need to do. I am for the opinion that it is God that directs us to get income sources and find joy and happiness in his life. If a young person trusts in him, them there is no reason why He should not give you a way to take care of your bills and food and stuff.

I mean, if ivy league grads are having a hard time getting good jobs, what about the rest of us that are in universities that nobody ever heard of?? I have seen and countless semi educated people make more money in a day that college grads make in a year(thats the truth). So instead of trusting in the school you go to, the course that you do, the connections that your parents have(this is mostly how the luckier ones get jobs), trust in the King of kings for a livelihood and i am sure beyond any question or shadow of a doubt, that He got your back for life.

This is the new direction that i have decided to take and i hope it is the right one.

value investing; underrated or overrated??

Posted on | May 17, 2010 | 1 Comment

Sometimes I think that this concept of value investing is under rated.

By value investing, I mean instead of being cautious in your investing endeavors and taking your time to research the company that has caught your eye, perform due diligence by going through the company’s financial documents and making sure the company is sound. Researching the stock brokerages you use would also go a long way in ensuring that your cash is safe from the thieves who break in and steal

Why I say that it under rated is because no matter who much the virtues of cautiousness in investing are preached, there are so many people that will not listen and will always want to do their own thing. There is a common misconception that the stock market and investing in general are like casinos where you get a lucky streak and make it rich with a few trades. The fact that there are a few people that have made millions and billions in the stock markets just serves to fuel this (somewhat deceptive) fantasy.

The idea that one can make a colossal amount of money and with it, all the debt and other money problems disappear into nothingness makes people lose all common sense and just put their money in “investments” that a level headed person would normally not touch. For instance, we all know that at a certain point in time, google and Microsoft were unknown startups but in a few short years they have become phenomenally successful, making millionaires and billionaires(these are mostly the people that invested large amounts of cash when the stock was not a blue chip but a worthless penny stock Just this fact, that you can become so wealthy by just getting in the right IPO at the right time makes people not even want to look at any financials or analyze the company’s future prospects. I mean will it matter when the stock blows up and makes me a millionaire after which I will cash out and retire?? This happens all the time even if when many of the IPOs are low quality. This mistake has caused unprecedented destruction on wealth. The most recent is the stock bubble in the late 90s.

Even with so many examples in the past, we learn from history that we never learn from history. The thrill of making a windfall because you bought a stock at the right time will make the sense of value investing be thrown out the window. Needless to say, more often than not, things never really work out for the investor’s benefit. The ones that bought the stock at the right time, watched it rise will not want to sell it because it seems that it will continue rising forever. They will not know when to sell because they did not analyze the stock and thus have no idea what the book value of the stock is and consequently how grossly overvalued it has become.

To make the point that value investing is very beneficial and can be profitable, seeking alpha as a post on the merits of value investing.

It goes without saying that those that under rate the aspects of value investing get burnt. I am for the opinion that when you want to invest in something, get to know it very well and then go in. This goes for many aspects of life like business, relationships etc, not just wealth creation.

On the other hand you can say that value investing is over rated. This is because when you stick to these maxims like due diligence, poring through financial records, going through the company with a fine tooth comb will mean that you will not get those once in a lifetime stocks that make you more money than the rest of the portfolio. This stock can very well be an IPO, a company that is rolling out a new product in a very important industry, a company that just revamped its management or whatever. The common sense of value investing will mean that you will miss out in these sweet deals that are evidently very rare.

I think this money making business is just confusing. What do you think??

blast from the past; a few posts that shouldn’t be forgotten

Posted on | May 13, 2010 | No Comments

I was thinking to do a post on shorting and longing stocks and in the middle of the prep i decided to shelve it and link to a few good(read highly rated) posts that i did months ago but have since fallen into oblivion.

Here we go;

1. Please do not invest in mutual funds: When i had just started reading more into financial things and investing, i came across a few demerits of mutual funds that caused me to be vary weary of mutual funds. This post deals on the demerits of mutual funds and the things that these investment companies will not tell you. It bashes mutual funds and elevates the virtues of index funds.

2 Why the banking industry should be abolished; This post bashed the bloodthirsty faceless corporations that are today’s banks. I could have been more thorough if i had described how these banks came to being but there wasn’t enough space.(i personally don’t like long drawn out posts). I can assure you that they came about because of manipulators and plain old human greed. In this post, i show how banks legally counterfeit money by using something called fractional reserve banking. I tried to make it as easily understandable as i could so if you have any questions, please email it or post it in the comment box.

3. secrets of the self made millionaire; simply put, this is one of those motivational posts that most of us like reading so much. Everyone wants to be a millionaire and this post shows some guidelines on how to be just that. Now sometimes i think that finally getting this coveted title of multimillionaire is over rated because of something that i read in free money finance about a millionaire who gave millions of dollars to charity. Why i am saying that it is over rated is because if this title is so valuable, he wouldn’t have given out all that cash.

4. the alpha woman; myth or fact. This post started as a discussion about these high flying women but the comments just seemed to inflame some readers to no end. The comments were almost becoming a flamewar. Needless to say i decided to steer away from the more controversial posts like this one. In the retrospect, the argument was kinda fun.

5. the types of economic depressions. i wrote this post when the recession was still raging and there was talk of it degenerating into a depression. The only depression that i have ever read about was the one of the 1930s and so i wanted to show readers what i had found out about this economic disaster. Even though i cannot really say that there is a real danger of a depression, i think that you should read and get to understand them a little bit more.

6. are savers losers??. This post was insired by one or robert kiyosaki’s teachings that at the moment don’t really agree with. It makes a little sense but then i guess it is for the hearer to decide. Another post inspired by robert’s teachings was the criticisms of his latest book, the conspiracy of the rich.

There are others but i think i will stop there.

even super-investors make mistakes

Posted on | May 12, 2010 | 4 Comments

I was reading through yahoo finance and I happened to come across this article that shows the losses that Warren Bueffett has made in his time as the CEO of Birkshire Harthaway. Here is another set of mistakes that cost the company billions.This link also includes lessons learnt.

A quick over view of some of the almost fatal mistakes that he made in the past are;

1. A mis-prediction of what would take place in the future and thus buying a stock at a price that was retrospectively too high.

2. Getting caught up in the emotions of the stock market and thus making you not perform the required due diligence. In this respect, he said that the investor that can control his emotions is at an advantage. Something like the human nature and investing post i did a few days ago.

3. Being attracted to near exponential growth in a company while in fact a level headed investor should be skeptical of it.

Instead of spoiling the evidently well written articles, i think that you should read through them. Quite interesting.

Reading the articles actually make me feel good about myself. This is not because I am a sadistic pig that likes watching people losing a lot of hard earned cash. No. I feel good because I see that the super investors that most people in the financial world look up to are just as human as the rest of the small individual investors.

It also makes me see that these people at a certain point in time were small investors will pitiable portfolios and very little skill in the way of analyzing stocks, analyzing bonds, performing due diligence and the like. They have made it in their chosen fields because of being willing to learn from mistakes and always honing their investing skills with an awe inspiring single minded resilience. While they are not perfect money minting machines(evidenced by the losses) they are always trying to be better and better. Persistence in something you want will always work for you.

Seeing them lose a lot of shareholder’s cash makes me see that they are human and that I also can make it in whatever I apply myself to doing.

Those were a young investor’s random thoughts

robert kiyosaki’s conspiracy of the rich- my criticisms

Posted on | May 11, 2010 | 2 Comments

Some time back, I did a personal book review on Robert Kiyosaki’s book the conspiracy of the rich.

I did not want to break any copyright laws so I just did an overview of what the book was all about without saying much in the way of criticism. This post will deal with just that; the criticisms.

While I credit the book in increasing my understanding of the recession, (I read it online when the recession was still raging)there was a lot of advice that was given in the book that a normal small individual investor really cannot use and profit from on a consistent basis.

One of them was the new rule that eschewed diversification of investments and preached the virtues of focusing and specializing. On paper this seems doable but the problem that I see is that this can only be done with very experienced professional investors who know how to look for good quality stocks and put a whole lot of cash in the deal. This will then be helped by the skill sets and policies that are in their disposal to make a major killing. Here, I am thinking that only hedge fund managers can use this advice to their advantage and not be hurt. The book does not say this. It puts the rule in such a way that any john Q public can focus his cash on fewer investments and not be hurt if the selection was badly done.

Another rule that RK preached was leaning how to use debt to make money. This flowery piece of advice seems so easy to do but he does not at all mention exactly how this is done. Not everyone can do to the bank and ask for a loan to invest, get it and use it to make millions more. It is only experienced money managers that have the ability to do this. This is because the super investor is not investing on his own behalf but on behalf of a large company with deep pockets. He will also need to have a good credit worthiness and reputation before he can get cash from a financial institution so that he can invest in an idea. Again the book does not at all mention how the individual investor should go about this and “get richer beyond his wildest dreams”

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Something else that I got at the end of the book is that to make fortunes in the stock market you need to use information to your advantage. He said that you do not need money to make money, just information. He said that instead of investing cash in a stock and making cash after the stock has gone up(bull market), you only need to wait for a bear market and short the stock. At the time that I was reading the book, I did not know the intricacies of shorting stocks and so you can guess that my imagination was captivated with this new concept. After scouring the internet I found out that to successfully short stock, you needed experience, nerves of steel, VERY deep pockets and a very skilled financial team behind you. No wonder that it is mainly hedge fund managers and professional investors that sort stock and make killings. The book did not even give any hint like this.

Truth is that I can go on forever looking for kinks in the book but I will stop here. To cut I long story short, I don’t think that Robert kirosaki should be regarded as a professional investor that dishes out credible investment advice. What he does, and I say this to his credit, is to get people out of complacency when it comes to money matters. He is uncannily skilled in this respect. Hey, he made me research about shorting stock and in the process leant a lot of other things.

follow this link to buy the book for  less that $10 and make up your own opinions

What is you take after reading the review and the book??

the human nature; the investor’s enemy

Posted on | May 10, 2010 | 2 Comments

For some time now, I have been reading many articles and books about investment, particularly those dedicated to value investing. There is a lot that I have learnt from them about analyzing stocks, analyzing bonds, looking for margins of safety when investing, financial documents that an investor has to analyse, other factors that the investor has to look into before making his investment in the company etc

In all this reading, something that seems to interfere with the investor in ways that cannot be controlled is the human nature.

Let me illustrate. In value investing, we are told to analyze a security by finding out many characteristics like book value, intrinsic value etc. The authors say that one must not invest in a stock unless it is selling at a price that is below this book value so that you will get a discount. The reason given for this is that an investor will have a good margin of safety because the stock can still fall a few points before the invested principal is touched. This margin of safety will mean that you will be in effect safeguarding the cash that you have invested in the stock. What is implied in advice like this is that one has to scout the stock market for these bargain issues. This is where the problem comes in.

Human nature will see short term profits in popular stock and jump right in. We see a popular company that seems to be growing at exponential rates and just indiscriminately buy into the stock before even getting a single financial statement or prospectus to help in decision making. More often than not, this exponentially growing company’s stock is grossly overvalued but we never seem to see that. All we see is the hype the media, websites, finance gurus and the like telling us to BUY, BUY, BUY!!!. It is no wonder that many people have lost so much cash in the markets because they never took the time to study the hole they would be throwing money into.

Due diligence must never be thrown out the window when looking to grow the cash that you have. It makes no sense to work 10 hours a day and then dump all that cash in a worthless media hyped IPO making stock brokers wealthy at your own disadvantage. If you cannot take time to analyze a security for investment, don’t get into it no matter what the stock broker or the neighbors say.

In the intelligent investor, they say that the human nature Is the hardest thing to control and the investor that can keep his emotions in check when undertaking his investment ventures is more likely to be more successful than one that follows the emotions in the market; easier said than done.

There are very few people that have the stomach to watch stock prices loose 80% of their value and not lose any sleep or sell the stock because according to them, the company had not become in any way compromised and the price drop is just because of human emotions following what the market feels. I think that is why dividendmonk advocates for a watch list when investing. This would help an investor analyze stocks and invest or sell when the fundamentals of the company change.

My take is that human nature is hard to control but not impossible. I think that if we can be realistic in investing and have well put out goals when investing, we can avoid the stresses caused by the market emotions.

What do you think on this??

how to use due diligence in your investing

Posted on | May 5, 2010 | No Comments

In most cases, this is value investing in a nutshell; due diligence.

For those unfamiliar with this very important term, due diligence is basically exhaustive research of all the aspects of a business whose stock or bonds you with to buy. So in a sense, this is the aspect of value investing that this site deals with and in the research looking for a margin of safety good enough to attract you to that security.

I along with others in the value investors circle believe that is is of major importance to do your research in whatever stock or bond you want to invest in. This research will help you to ascertain whether the security is worthy of your hard earned money.

I have dealt with part of this due diligence in other posts.

When you want to invest in a stock you need to look at the financial documents of the company. This documents include annual and quarterly reports, proxy statements, balance sheets, conference calls from the CEOs of the said companies etc. A more comprehensive explanation of this documents are found in this earlier post in financial documents needed in security analysis.

Other off the record things that you should look at when undertaking due diligence is whether the management is sound. What i mean by this is whether the management agree with each other or whether there are always senseless squabbles all the time. Another thing you could do to gauge the quality of the management is to see whether they are able to create a good working environment for the workers. The simple reason for this is that a motivated workforce increases the quality of the company that will invariably mean higher dividends in future for you the shareholder.

When undertaking due diligence, it is advisable to look into financial record 5-10 years back from the present so as to be in a somewhat good position to judge the quality of the company.

Also there was a time that i did a post on how the investor analyses a stock for investment and i guess this is a good a time as any to link to it . This will also help.

When analysing for bonds, the same is taken into account but since at some point i did a post on how to analyse bonds for investment there is no reason to repeat all that was said. Just read through the linked article for more information.

Another thing that i read in a finance/investment book/guide is that check to see how much of the stock is owned by big investors like banks, bard companies, insurance companies, you know, the big dogs. If more than half is in the hands of these institutional investors, look elsewhere for stock and leave that one. IPOs normally have this disadvantage.

So basically that is due diligence and what the security analyst and super investors like the oracle or omaha do all day long.

how do you undertake your research??

how to get ripped off by stockbrokers

Posted on | May 4, 2010 | No Comments

This post has been partly inspired by a movie that i recently watched called boiler room.

In it there are these very shrewd stock brokers that were in the business of selling stocks of IPOs to the public over the phone. What they did is that they would get a the telephone numbers of people from God knows where and talk them into buying a stock that will be floated in the market in the coming days.

Personally i was very impressed by the way the smooth talking brokers ripped so many people(mostly professionals like doctors and businessmen who are supposed to know better) off  their cash using financial lingo that if you knew what there were saying, couldn’t fall for it.

To fall for such conmen calling themselves stockbrokers, follow this advice;

1 BE AS IGNORANT AS POSSIBLE ABOUT FINANCE AND INVESTMENT

This is the first thing that they used. They made people believe that the stock market was a  place where people in the know went to get cash in the truckloads. They made people believe that the stock they were selling you was quote “the next Microsoft” and you would become rich with a 40% return with a single stock in the next few weeks! Needless to say so many people fell for it hook line and sinker.

So if you want to see all your life savings and maybe your house go poof, then don’t learn anything about finance an investments and then after that ignorance if fully ingrained, go invest in the stock market.

2.TRUST THE STOCKBROKER WITH YOUR LIFE AND MONEY

When your stock broker calls you with the deal of a lifetime, don’t even ask for the financial documents of the company and do your own research. Just do exactly what the broker tells you even though that it is known for a fact that brokers make money each time you, the client makes a trade, whether it is a winning or losing trade. Don’t even consider that he just wants you to buy stock no matter how useless so that later on you will trade it again probably making losses for yourself and making him more commissions in the process.

In that movie most of the clients were convinced by the broker to implicitly trust them even to the point of giving up their life savings to the brokers. Needless to say these clients almost invariably lost all their cash.

3.DON’T DO ANY RESEARCH ON THE BROKERAGE FIRM THAT YOU WANT TO INVEST THROUGH

This is another classic way to maker sure that you lose a lot of cash in your investing. When you fail to research your brokerage firm, you may just end up with bunch of thieves calling themselves brokers and cause your financial ruin caused by mismanagement of funds and illegal trading with YOUR money.

In this movie, the said firm had a terrible reputation among other more reputable firms so an investor who made just one or two calls to find out about the “firm” couldn’t have lost their money.

4.BE UNREALISTIC ABOUT YOUR EXPECTATIONS

When you think that you will get 30 to 40 percent returns in one stock in the span of a few weeks, then you are a prime candidate for unscrupulous brokers who will take advantage of this ignorance and greed to take you for as much as they can at your expense and their profits of course. Don’t even pay attention to the fact that most stock market annual returns are in the single digit figures and just this small fact makes more seasoned investors satisfied.

Continue expecting astronomical returns and see where that ends up, (probably with your demise)

This promise of gargantuan returns was another weapon that the crooked brokers used in netting their fish and it worked very well i might add.

5.DON’T MAKE RECORDS FOR ALL THE TRADES YOU MAKE

When follow this through and not keep track of all times that you have traded stocks and by what amounts, you put yourself right in the chopping block for crooked stock brokers to slice you up. They are in a position to alter your accounts at will, add more imaginary charges on you with impunity because you have no records to show how you account and portfolio should look like. In the end you will just watch your money go down the drain and have nothing to do about it.

Infact this is how the now infamous bernie maddoff made his fortunes.

I did not get this from the movie but is still serves the purpose

There you have it. These are the main points that when followed to the letter will make sure that your savings and probably your investing career will be shot to hell

why IPOs are a bad investment idea

Posted on | April 29, 2010 | 4 Comments

This is a short post to get you thinking about whether or not you should invest in that IPO.

I know that initial public offerings cause a lot of excitement in the investing group but I have reason to believe that they are not the best of investing  ideas.

First off, an initial public offering is where a company is broken up into stocks and then sold to the public in the stock exchange for the first time.

Here is the somewhat similar IPO definition from investopedia.

While people think that this is the best of times to pick up the stock, I think that it is one of the worst for a number of reasons.

First off in value investing you have to look at the history of the company- as in how it has been performing, the dividend record, the earnings ratios and a whole lot of other information that will consist of due diligence where the investor is looking for a margin of safety to safeguard his invested capital. A company that has just floated its shares for the first time does not have all this information that will help the investor invest in it or not. Because of this, I think it is just best to keep away from them.

Another reason why I think that IPOs are a bad investment idea is the fact that maybe the company doesn’t really need the money(this is one of the main reasons that a company goes public-to get more money for expansion). The management, or the owners may just be taking advantage of the fact that there is a raging bull market, where stock prices are going up thus making them sudden millionaires. I happen to think that if you invest in a company going public for this motive, then there is a possibility that you as the shareholder may end up in a puddle in future because they won’t really care for you but only for themselves. This will probably be followed by huge salaries, a lot of benefits and you will experience dividend cuts with no apparent reason.

Still another reason to stay the H-E-double hockeysticks away from initial public offerings is because of the big dogs. These big dogs include the big banks, insurance companies, big investment funds and large corporations that always get the stocks at a price lower than the prices that the individual investors; before the stock starts public trading. This will means that you will get the stock after the price has gone very high up over the book value. This will mean that you are giving up you margin of safety to get a stock that is probably not even worth the hustle.

Want proof? Go through this linked article on failed IPOs and see what I mean :]

On the other hand staying away from an IPO could mean that you miss the opportunity of a lifetime, am talking something like Google, or Microsoft or something that has made millionaires and billionaires. But I guess this is the main reason why people invest in IPOs despite the risk, but I still think that is is a huge gamble to invest in them.

what is capitalisation rate??

Posted on | April 28, 2010 | No Comments

Here is more “financial mumbo jumbo” for you . I have been reading financial books on stock and bond investing and this term kept coming up.

At first I thought that it was the somewhat related to market capitalization but on further research, I found that it was not. Here is what I found out about capitalization rate and what factors affect it.

Capitalisation rate or cap rate is just another way used in valuation of investments, just like price/earnings ratio, price/book ratio etc. The cap rate is basically the discount ratio used to determine the the current value or expected cash return on any investment like a stock or a piece of real estate.

It is just another method that the value investor uses in his research for a good enough stock to invest in. It gives him/her another perspective of the same investment. What I mean is that while two companies may have the same price/ earnings ratios, or same market caps, the difference in their capitalization rates may help the investor make his decision as to which is the more attractive investment.

This term also recurs a lot in real estate investment but it has the same use (I will not go into this)

When getting this cap rate there are many factors to consider. They are almost the same as all other factors for stock selection and they include;

1 A very good consistent dividend record. The only thing that would warrant the interruption of dividend payments is that there is a raging bull market that the company wants to take advantage of by ploughing back some of the increased profits to use in expansion with the understanding that the dividends are cumulative. Don’t want to be ripped of your cash do you?

2 A good managerial term. Although there is no way of quantifying this aspect, a good management will lead to further success of the business. A book I read said that a good way to gauge the management is by the salaries they award themselves. If they just increase their salaries all the time and add bonuses and stock options without any measurable achievement in the company, then this is red flag that the management cares very little about you the stock holder and you should be weary in investing in it. Some time back I read that Warren Buffett is very much against the large salaries that executives award themselves saying that they should be paid with sedated Chihuahuas.

3 Long term expectations of the company. This is yet another thing that cannot be easily quantified because it essentially means predicting the future. But my view is that is the company is making new products and steadily increasing the market capitalization, goodwill, earnings and the like then their future prospects look good. A good example is Microsoft with windows 7, Apple with the string of innovations that I really don’t have to mention, Google still trying to rule the world etc. Think that they have good future prospects even though their stocks are grossly overvalued.

3 Financial strength and capital structure of the firm. After the stock prices, this is what most investors first dig into- to see the efficiency of the company in using shareholders cash. Without mentioning it, this will be revealed after a careful analysis of financial documents. A good financial base will attract even the most skeptical of value investors

These are the main things but others include, future earnings and current dividend rate.

Now on a strictly personal basis, I really don’t think that this cap rate is so important to the stock investor. This is because most of the factors that have been mentioned will already have been catered in other valuation techniques. Also there are so many factors that are hard to quantify that make the calculation tedious and thus increasingly inaccurate. But this is my personal opinion and I am open for correction or further insights into this method of valuation.

If you have something that you could add to make cap rates more understood, please comment J

Is active investing really for you??

Posted on | April 27, 2010 | 2 Comments

It is no secret that there are a lot of people who lost a whole lot or cash in the recent recession. I have been reading a lot of articles that of late people do not trust the stock market because it really doesn’t feel safe anymore. At the same time other super investors are making a whole lot of money mostly hedge funds

Active investing is advocated in this blog i.e. actively selecting stocks and bonds, looking for a margin of safety, considering many other factors, poring through financial documents and after all this, investing in the most attractive stocks. While this may seem easy on paper, I can assure you that it is harder that you think or else people would still be flocking into the stock markets.

In investing (and also in life), it is important to know when to ask for help and where to get help from. Even professional investors have a group of advisers that help them in most of their investing ventures.

This is when you know when to ask for help;

1. Major recurring losses in the stocks or bonds that you actively picked. I read in a book that if you lost more than 40%  of your invested capital over 2 years is a red flag to get help FAST.
2. If you are always broke or always find yourself living from paycheck to paycheck but still want to invest. This should mean that you need the help of a financial planner who will help you allocate who much of your income to investing and how much to cater for your day to day expenses.
3. If your portfolio looks as if a bomb exploded in it. You own growth stocks that you bought because they were advertised as “the next Microsoft”, mutual funds with excessive fees which you bought because the fund advertised that they were getting some very good returns but you failed to look at the numbers closely and now the fees are eating away at the returns(which aren’t as good anymore). These and more factors that cause a lot of chaos in your portfolio will mean that you should ask for help.
4. A major change in your financial situation- either you recently got a windfall like an inheritance or won the lottery or on the flipside a major financial obligation like college or whatever. A situation that you find hard to deal with in rerouting finances and still keeping the integrity of the portfolio should mean that you need help from the pros.
5. Not really knowing where to start. This occurs when a person wants to start investing but the problem is that he does not know where to start and what mode of investing to concentrate on. If this is your situation then look for a financial adviser to get you started in the road to investing. He will probably recommend a few books and a few websites so at to give you a good financial education base before getting in the crazy world of investing. It makes no sense for a person to get into the markets just because you have some cash burning a hole in your pockets.

These are the pointers that I would use to gauge whether I need help in investing or whether active investing is for me.

Do you agree with them or do you have a few of your own? I would love your comments.

Why I don’t envy super investors and neither should you

Posted on | April 26, 2010 | No Comments

I refer to people who have made millions or billions of dollars through investing as super investors. The one that I have mostly mentioned in this blog is Warren Buffett. Another super investor that is recently getting a lot of publicity is the hedge fund king John Paulson that made billions in the recent housing debacle in the US.

Sometime back a reader made a comment in the book review conspiracy of the rich post suggesting that we really have no chance in beating the professionals at the game of investing but my opinion is different here. While I wouldn’t mind a few billion in my bank account like these people, I really don’t wish I was the investors that they are.

This is because I really do not think that investing is a game but rather a way to build a good financial base that will ensure financial security in future. Instead of trying to beat the investors in the game in that who will make the most amount  of money within the shortest time, I think that people should set a financial goal that they want and then work towards it in the given investment horizon that they have.

Like for instance, if a young lady in her early twenties wants to retire with at 60 with a portfolio of 3million net will mean that she will have almost 40 years to make the desired goal. After this is in place, then she can focus on a mode of investing that best suites her- aggressive investing if she knows how to analyse and pick stocks and read financial records or passive investing by selecting index funds and a few mutual funds and probably a few good blue chip stocks to invest in.

With this in place, there are a few things to consider so as not to be derailed vis-à-vis the three million goal. They include;

1. Trading only when absolutely necessary. What I mean is that she should not sell a stock just because the stock prices have fallen for three consecutive days for no apparent reason. By rarely trading and “disturbing” the portfolio, she will drastically reduce the brokerage fees.
2. By controlling what percentage of her assets she wants to be stock market related. This will help her figure out what amount of risk she is taking on. She can then reduce the risk by adequate diversifying or if she is not skilled In this area, hire a professional to rebalance the portfolio from time to time.
3. She should be realistic in her expectations of the returns that she wishes to obtain in the stock market. Being realistic will mean that she won’t be swayed to sell the stocks she has and buy the most recent riser because of the higher returns. This calls for a level head because it is not really easy to watch people get higher returns as you sit back. The little voice will always tell you that you should jump in before it is too late.
4. When investing in mutual funds, she should look at the fees that they have and avoid the funds with too many fees. This is because these fees eat away at your returns no matter how good. The excessive fees in mutual funds is a reason why many people avoid them

With this mentality in place, she or anyone else shouldn’t really worry about who beat the market or made the most cash last year in the market. I think that in the grand scheme of things it doesn’t really matter who got to their goals first but what matters is who got there. This is not only true in the financial circles but in also in life.

What are your thoughts on this? Is beating the market and other investors that important? Your thoughts in the comment box are appreciated.

list of finance sites for East African investors

Posted on | April 22, 2010 | 2 Comments

Kinda thought to do a little round up linking for today’s post

There are a few sites that i read to keep myself informed as to what is happening in the financial world. Apart from the normal wall street journal, the new york times, cnn money and yahoo finance, there are a few kenyan blogs and sites that i read that concentrate on finance and investment. these are;

bankelele- This is one of my favorite ones. The site deals with the stock market and the banking sector in Kenya and sometimes the rest of East Africa. There is also news articles in there about local companies listed in the stock exchange. I think the best thing about the site apart from the simplicity is that the news is given from his opinion, not like something that you read in the papers. By the way he was interviewed as kenya’s best blogger by afrigator sometime back so that means that the site is a big deal.

ka-investor- Same as bankelele, kainvestor deals with finance and business concentrating in east africa. The difference between him and bankelele, is the odd post that has nothing to do with finance like true love didn’t last. It is also a blog well worth reading.

kachwanya.com- kachwanya’s site really isn’t about finance and investing but there are some posts that would help an investor to keep his head on his shoulders instead of loosing it in market euphoria. A post that i read recently that had this effect was the one on not to invest unless you know what you are doing.

rich.co.ke This website will keep you in touch with some details about local listed companies with things like podcasts, current stock prices according to their ticker symbols. the difference with this site is that it also includes news wraps from major publications like the wall street journal and the like. The other thing that i like is the easy to use interface.

the Nairobi Stock Exchange website- this site is the place to begin for an investor actively looking for a stock to buy. It has enough information on any one stock that would help and investor in making his  his decisions. You get financial documents, current stock prices, news on major changes in the management in a company an the like. You should visit it.

Uganda Securities Exchange website. Even though their stock exchange is much much younger than the nairobi stock exchange, you get most of the information that you would need if you want to invest in a ugandan company.

I do not know any financial blogs in Uganda dealing with finance and investment so a link to one you know would be appreciated.

Dar-es-Salaam Stock Exchange website. This website will give you most of the required information needed if you want to invest in a Tanzanian company. While the stock exchange there is also quite young, the information you would need as well as current information in the financial circles is found in this site.

These are the main sites in eastern africa dealing with finance that a youthful investor (like myself) reads through from time to time.

Over to you, is there a website blog or forum that you read through to keep in pace with the financial world that i haven’t mentioned??

admin’s update

I recently got a tweet informing me that here are a few financial sites i missed. They are;

sokodirectory.com this is a web portal of sorts with a lot of information about the east african stock market, the banking sector, real estate etc. There is a lot of other things like a classified section, a stock watchlist and like. It is quite nice and easy to navigate.

smartbizafrica.com. It is more or less like sockodirectory but the only difference is that it has more of a newspaper feel to it. What i mean is that like a newspaper website, there finance and investing are just sections. There are other sections on lifestyle, travel, breaking news etc. You know, sort of like a the daily nation website.

It seems that i will be adding more to this list as time goes by

what is the “bull market”??

Posted on | April 21, 2010 | No Comments

In investor circles this term bull market and the corresponding bear markets are thrown around all the time( like so and so  is bullish or bearish about the market) so I figured that I do a short post on this simple concept for a reader who has no idea what a bull market is

Basically a bull market is a type of market trend where prices of securities have been steadily rising for a long(ish) period of time, like a few months, sometimes years (rare). Market trends basically fluctuate over time, when the fluctuation is upward, this is termed as a bull market and when the fluctuation is downward, then we are looking at a bear market.

Bull markets arise are normally seen in countries experiencing a prosperous period-an economic boom and also when the country is recovering from an economic upheaval like a depression or a recession or as investorwords puts it, investor psychology where most investors actively investing cash are feeling a bullish causing them to pay higher prices for securities than a normal situation would warrant. When many investors are doing this, the market trend is bound to go upwards.

That said let us briefly look at the characteristics of a bull market;

1 the first detector that a bull market is raging in my case is when there is a lot of speculation in the buying of securities where investors really do not exercise due diligence in the selection of securities like looking for a safe enough margin of safety and other factors in stock selection but rely on their bullish feelings in investing.

2 Another indicator of bull markets is market prices for most securities listed in a stock exchange are so much higher than their book values or intrinsic values. Also a value investor will also notice that most price/earnings ratios are very high. This point goes hand in hand with the first one.

3 Another indicator of a bull market is a very strong and growing economy, either an emerging market or a big stable economy. This is because the stock market mirrors the economy and so when the economy is on the up and up, more often than not the stock market follows suite.

4 A value investor looking for a bull market will also notice that most companies are not paying out dividends or in general there is a low dividend payout ratio. This is because most businesses want to capitalize the (short lived) prosperity and plow back as much cash back into the business and thus increase profits. When this happens, we could hope for a bull market.

5 Another characteristic of a bull market that is a little related to the previous ones is that there is a lot of demand for securities and very little supply. This is because since everyone want to make money from the securities everyone want to buy and very few want to sell driving the prices higher and higher. A disadvantage of this is that many poor quality IPOs are floated to take advantage of the price increases and the fact that investors have thrown common sense out the window. When a level headed investor sees this, he knows that there is a raging bull market and will thus take measures that the situation warrants.

6 There is also a lack of volatility in prices since all the prices of securities are going one way, up- but then this goes without saying.

Invesopedia has a longer more detailed article on bear and bull markets that you would like to read through for a better understanding.

So basically if you are an investor or speculator looking to profit from market fluctuations, these are the main points to look at.

Any additions or corrections on the concept of raging bulls bulls??

investing in bargain issues

Posted on | April 20, 2010 | No Comments

Basically a bargain issue is a security(stock, bonds warrant etc) that is selling well below the book value or its intrinsic value.

In value investor circles, investing in bargain issues is the only true investing there is because of the obvious advantage that you are getting something at a lower cost than what it is really worth. These bargain issues are identified by the fact that they sell at less than their stated book value or intrinsic /book value is far above than the current market price of the share. The main advantage is that buying into a bargain issue provides a significant margin of safety since there is a lower risk of loss if a price drop occurs.

while most of the time these figures are calculated in the company’s financial documents and all the investor has to do is look them up, accountants have become very clever at hiding the real value of the business behind fancy and often confusing number-work and so the meticulous investor may want to calculate the numbers himself. this is how it is done;

1 when looking at the past earnings of any one company, a trend may be detected and future earnings be estimated eg assuming that for the past 10years, the company’s earnings have been increasing at around 5% per year and there is reason enough to believe that this trend will continue, the investor can use this 5% and estimate the next years earnings. After getting this figure the investor then multiplies it with a figure depending on the company-(this figure can be for example the number of years  that you have used in the study etc) and you arrive at the new figure which is supposed to be the calculated book value of the security. if this figure is very much above the current market price  then the investor can tag this as a bargain issue. The value investor can invest in the company right then and there but in most cases he also does further analysis like things that i mentioned in this stock analysis post. That’s all there is to it.

value investors call this valuation type method of appraisal. This method runs a little dip but revolves around the same concept

2 Another method (that i got from the book “the intelligent investor“) is a variation of the above and it is basically ascertaining the value of the business to a private owner. Just in the method of appraisal there is a lot of speculation in the expected future earnings. But the major deviation in this method is that more attention is paid to the net assets or working capital of the business. What i mean is that if the net earnings have been steadily increasing over the past few years and the business has a very strong asset or working capital base, then it will mean that the company’s securities will have a higher value. if this value is sufficiently above the current market price of the stock, the price you see in the evening news, then the value investor can also tag this as a bargain issue and proceed with further analysis to make sure that his money is safe-  if he so wishes

this are basically the most common ways of spotting bargain issues. But things are easier said than done and in the near future, i will do a post on where value investors look for undervalued stocks or bonds

I have found an interesting article that helps you in calculating stock prices and thus help you detect bargain issues.It will help you so give it a read.

any comment like additions or whatever??

value investing vs speculation

Posted on | April 19, 2010 | 2 Comments

This will be a short post on the difference between investing and speculation in the eyes of a value investor. I will concentrate on the definition of investing as given by the father of value investing Benjamin graham.

From a value investor’s standpoint investment venture is one that after thorough analysis of the nature of the business from more than one perspective promises safety of invested capital and a return proportional to the time, effort and resources required in the analysis of the stock. This means that a value investor has to go through the financial documents of the business and look at all other factors that affect the price of the stock or bond (of the derivatives) like management, type of industry etc as covered in this past post. With all this a factor accounted for, the investor then decides whether or not to invest in the company.

Another distinguishing aspect of value investing is that it is done in the view that the investor will hold the stock or bond for as long as he has to and not because the stock price has temporarily decreased. The only time that the investor decides to sell the stock is when the underlying structure of the business has changed for the worse like increasing ineffectiveness of the management, increasing complications in the company’s financial documents or something that makes the investor feel that the inherent value of the stock has decreased in bad ways that make him start losing sleep at night

A last thing about the mentality of the value investor is that he looks for undervalued stocks ie those selling below their calculated intrinsic value. This is because the as the stock price sells higher and higher above the book value, the risk for loss of his invested capital increases and vice versa. This means that an undervalued stock of a business with good fundamentals and an adequate margin of safety will definitely leave a bona fide value investor salivating

Now to speculation…

This is the exact opposite of investing. The speculator puts his money in a stock without any tangible facts backing the action. He will concentrate on what the market is saying about the stock, what his stock broker will tell about the stock and other (flimsy) information sources. The speculator mentality is making the most money in a stock within the shortest time possible which is totally opposite with the value investor mentality where he tries to make a fortune over a fairly long time, with the periodic “breaks”

Another thing about the speculator is that he will not be with a stock or bond or stock option or warrant for the long haul but for short periods- hours or days- waiting for it to raise a few points and lock into the profit by selling at the new higher price. So to some extent speculation is just like day trading and if you are not careful will lead to your financial death

When the speculator things that he has got the next winner, he will put a whole lot of money in the venture to try and maximize the profits. This has an advantage and a disadvantage. The upside is that is his hunch is correct he will definitely make a killing but if it is wrong, then a lot of money will be lost.

While speculation is intensely exciting as compared to the more boring and time consuming value investing, studies have shown that the speculator loses more money in the stock market than he makes so in the long run, speculation is not worth the initial short lived excitement.

So basically that is the difference between investing and speculation for you. It is important to know whether you are a real investor or speculator when it comes to wealth creation and building.

If you get really good at value investing, you can get on this list of successful stock investors after making yourself a couple of million

important financial ratios for value investors

Posted on | April 9, 2010 | No Comments

In most of the previous posts, I have put forward that due diligence and looking for adequate margins of safety is of utmost importance if one wants for have a successful career in value or fundamental investing. You must be very good at analyzing and finding sense in the company’s financial records to ascertain the investment- worthiness of the business.

In that regard this post will be a continuation of more financial ratios that a value investor has to look at when looking for a place to invest his money. In this case I will dwell on mainly ratios that compare prices to other factors.

P/B ratio- this is also called price to book ratio or market to book ratio or price to equity ratio- the price used in the calculation is the market price of the company. The book value is the value of the company as by what the accounting books say ie total tangible assets minus total liabilities. Therefore this ratio is calculated by dividing the total market capitalization of the company and the calculated book value from the financial documents. Another way of arriving at this P/B ratio is by dividing the market price of each share by (book value of the company/total outstanding shares of the company). If this ratio is lower, then the stock is either undervalued or there is something wrong with the business. It also gives the value investor a clue as to whether he is paying too much for the shares

Price/ tangible book ratio- this ratio is exactly the same as the above but in this case the intangible assets like goodwill, intellectual property and other things that cannot be quantified in the financial documents are subtracted from the book value. If this ratio is less than or equal to 1, this means that the stock is trading at or below its book value and this in itself shows an undervaluation that will attract a value investor. When the value is higher than 1, it signals an overvaluation and will give the investors a clue on how far the stock would fall if bankruptcy or an economic upheaval would occur. Very high figures are a turnoff.

NB- The above ratios are relatively new so this seeking alpha post should help you understand further what they are and how they are used. They came about because of misleading book values in the company’s financials and the increasing uselessness of price to earnings ratios.

Price to cash flow ratio- In this case the price used is the market capitalization of the company. The company’s cash flow by definition is cash receipts minus cash payments over a time period say a financial year . Therefore this ratio is obtained by dividing the company’s market capitalization by its cash flow for the most recent financial year. It serves to show the health status of the company but more preferred by value investors than p/e ratios because it is not as easily manipulated. It is used by investors to measure the ability of the company to generate real assets and thus its future financial health.

Price to free cash flow- in this case the market capitalization of the company is divided by the annual free cash flow. In the case capital expenditures  are subtracted from the company’s cash flow. The higher is ratio, the more valuable company is.

These are the four most important price ratios that are being used most in value investor circles. We will be editing these pages from time to time to keep them up to date.

the types of investors-upgraded

Posted on | April 6, 2010 | 2 Comments

Many months back when this website was still new, I did a post on types of investors but after looking through my archives and re-reading through, I saw that it needed an upgrade mainly because there are other things about investors that I have learnt in the past while. So here it is.

When one decides to get into investing, there are a few things that he will have to look into, like the which securities he prefers to invest in, be it bonds, be it stocks, or warrants, stock options, liquid investments or futures, real estate etc. There is no shortage of investments for an investor who wants to get very rich and for this reason I will delve into types of investors in the stock market.

There are basically two types of investors there is the fundamental investor and the technical investor

THE FUNDAMENTAL INVESTOR

The fundamental investor is also known as the value investor and his mode of investing basically entails analyzing the business with a fine tooth comb and looking whether the business has the potential of being a money maker. This is done through a number of ways like analyzing the company’s financial records, looking for a margin of safety in the potential investments to avoid loss if the unpredictable future works against him, like a recession or God forbid a depression. The value investors spends a whole lot of his time looking at the financial ratios of a business and comparing to the ones that he has set for himself in that if a business comes short as to his needed expectations, he keeps looking. A hypothetical example is supposing a fundamental investor has set that he will invest in a company whose p/e ratio is between 20-25. This means that he will avoid businesses that are below or above this figure. p/e ratio is just one of the hundreds of ratios that he has to look into(read thru this financial ratios post and see what I mean)

The reason why a value investor goes to all this trouble is because of the mentality among value investors that when you buy a stock, you are basically buying a small piece of a business and thus he will want to have a good reason to buy part of the business. In other words, he will want to own the business even when he cannot get the daily stock quotes. So to have this confidence in your stock holdings, you must analyze the whole business and make sure that it is viable, profitable, in the right industry, etc

THE TECHNICAL INVESTOR

This guy basically follows and profits from the periodic ups and downs of the stock market. By charting then and trying to predict them, the technical investor profits from bull and bear markets. For the best results, this is done with sophisticated tools like charting software and a very skilled workforce. The technical investor cares not what type of business whose stock he currently holds, because the probably won’t hold it for long. With the research at hand the technical investor will use all sorts of instruments available to him. I did a post on what a few of these in the weapons that hedge funds use post. These techniques are also used by value investors day traders and some speculators but with varied results

Investmentclubhelp.com also refers to technical investors as the “momentum investor”.

In the types of investors post, I stated that there were five types of investors, the accredited investor, the sophisticated investor, the qualified investor, the ultimate investor and the inside investor. Looking at these types of investors keenly, you see that they will either fit into the fundamental or technical side of investing.

There is also day trading, something that I have reservations on because of I am for the opinion that short term investing is not investing so holding stocks for a few hours or days cannot be termed as investing. The authors of the intelligent investor and security analysis also concur on this point.

Not to be the bigot, what do you think of the classifications and my opinion of short term investing??

before investing in income bonds…

Posted on | March 31, 2010 | No Comments

I have not done anything on bonds for a long time. The last thing I did on them was the post on how investors analyse bonds.

This post will concentrate on income bonds and whether they are any good as investments so if you are new to the bond investing, I would suggest that you read through this linked article on understanding bond investing.

These bonds are also called adjustment bonds and are basically they what you get when you cross a normal [straight] bonds and preferred stocks.

This means that they will have the following characteristics;

-first off, these income bonds have longer maturities than normal bonds and sometimes are even referred to as long term investments.

-on the maturity date, the income bond holder has the undisputed right to have all his initial principal paid to him but the interest payments will only be paid to him if the company had enough cash to pay up. This means some safety for his hard earned cash and this alone serves to attract value investors to them and avert other investors because when you look at it, there is actually very little promise of payment of invested capital.

-because of the fact that they do not have to pay interest requirement to bondholders unless the cash is available, they are used by an issuing company to raise badly needed cash and to avoid receiverships and consequent bankruptcies. This is why other types of investors other than value investors are averted to them because the risk of loss is always ever present.

-in some issues if the interest payments are bypassed, they are not accumulated to the next payday. This in itself is a major disadvantage of income bond investing that an investor has to take into consideration.

-in the indenture, the interest requirements are to be paid to bondholders when company earnings allow so this means the probability of loss of interest by the investor is always an issue. This is where they are similar to preferred stocks because in the case of preferred stocks, directors can decide whether or not to pay interest payments. If the interest payments are not paid a default will not ensue making these income bonds very advantageous to issuing companies.

-These income bonds are rare but there is a possibility that they will be more available since in they come with a tax loophole for the issuing company offering more tax savings than preferred stocks(I happened to mention about the savings in the preferred stock post.

this linked article explains fixed income bonds from a different perspective.

So basically these are income bonds for you. You will find them an interesting option if you, like me, are inclined to value investing. We like troubled issues because in some cases, these is where you can get good issues selling at a large bargain because the management was not paying enough attention to the numbers.

It is also the best place to apply the oracle of omaha’s advice that ‘’be greedy when others are fearful and be fearful when others are greedy” in that when they are running away from the income bonds of troubled issuers, run to them and analyse them more carefully.

important financial ratios in stock analysis

Posted on | March 30, 2010 | No Comments

Of late I have been moving deeper and deeper into stock and bond analysis, like how an investor analyses a bond, how an investor analyses a stock, documents needed for stock analysis, not to mention all the types of stocks and bonds and liquid investments for investors.

In this post we look at a list of all the ratios that all investors should know how to calculate for any given security. Knowing these ratios will help you in knowing the bargain issues. [it would be better for your understanding for you to take some time to read thorough the linked posts above]

I will not go into in-depth explanations on what each of these mean and how they are used… not now anyways.

These important financial ratios include;

P/E ratio or price earnings ratio- this is the company’s total market capitalization(market cap) dividend by its total earnings for the last 12 months. In other words, it is the price paid per share relative to the company’s earnings per share. It is always a figure like 10 or 74 etc

Market capitalization.- This is not exactly a ratio. It is the product of the number of shares in the hands of investors and the current market value of each share. This ratio is used in categorizing companies by their size ie, small cap, mid cap and large cap companies

Assets turnover- net sales or revenue divided by total assets, used to see how well the assets are used to make money for the business and so the higher this figure the better

Return on assets- net income dividend by the end-of-year total assets and then the figure multiplied by 100 to make it a percentage

Return on equity- calculated by dividing the financial year’s after tax, after preferred stock dividends and before common stock dividends income by the book value. The bigger this figure and the faster is it growing the better because it means that the company is becoming more efficient with available resources

Return on capital invested[ROIC]- calculated by (net income after taxes)/[total assets-cash in hand-non interest bearing liabilities]. It is another efficiency test for the company

Current ratio- simply current assets divided by current liabilities. It is used to measure a company’s liquidity and its short term financial strength, it will look something like 5 or 5x meaning that the current assets are five times the current liabilities

Coverage ratio- the number of times that a company’s expense is covered by the earnings

Interest coverage- used to measure the company’s ability to pay interest on outstanding debt like corporate bond interest etc. Equal to [earnings before interest and taxes for a fiscal year]/interest payments for the same period. The higher this figure the better because it will mean that the revenues very easily cover their financial obligations n times over

Total debt/equity or gearing ratio. This measures a company’s stability. It is equal to total liabilities of the company/total shareholder’s funds. The higher this ratio the more the interest payments the firm is to pay in future as it means that the company has borrowed a whole lot of money.

Working capital per share- this measures a company’s liquidity. Calculated by subtracting current liabilities from current assets and then dividing the answer with the total number of shares outstanding (shares in the investors hands)

Earnings per share- total profits of a company divided by the total number of the company’s shares. In most cases, if this figure is growing it means that the company is growing. But investors are warned in financial books not to base their investing on only this value and that it should not be so high.

Dividend per share- total dividends paid to shareholders for the previous financial year dividend by the number of common stock outstanding

Book value per share- a company’s book value divided by the number of shares outstanding. BTW the book value is a company’s total assets – total liabilities-intangible assets like goodwill

Cash flow per share- operating cash flow- preferred stock dividends and the answer is dividend by the total number of shares outstanding

cash per share- indicates the amount of cash in the firm as compared to the number of shares outstanding. Calculated by [cash + marketable securities]/number of shares outstanding

Dividend yield- this is calculated by dividing the total dividends paid out by the current price of the stock

Dividend payout ratio or payout ratio- ratio of dividends paid out by the company to the company’s earnings in a financial year

Pre tax profit margin- net profit before taxes divided by net sales

Total debt/ total capital ratio- this one shows the proportion of a company’s debt to its total capital. It is used to measure the company’s capital structure and financial solvency

Leverage ratio(assets/equity)- this is the total assets of the company divided by the total shareholders equity. It is a measure of the company’s leverage ie the degree of utilization of borrowed money. Highly leveraged company’s place themselves in a bad place like danger of receivership or bankruptcy if they cannot pay their debts

Other key pieces of information include

Float- this is the total number of shares of a company that are available for the investing public

Shares outstanding- number of a company’s shares that are in the hands of investors

Sales(both domestic and foreign)- the amount of money in whatever currecy that the company has made is selling it products

Research and development as a percentage of revenue.- Research and development in a company uses money so this ratio tries to measure the amount used in R&D as compared to revenues in a financial year.

Gross profit margin- calculated gross profit/sales *100=x% meaning that for every dollar(rupee, shilling, peso euro whatever)generated in sales, the said company has 20 cents left to cover basic operating costs and profit

EBITDA margin- the initials mean earnings before interest taxes depreciation and amortization. It is used to measure a company’s operating cash flow using its financial documents like the income statement and the like. It is calculated by adding depreciation and amortization back to pretax income

These are the most important ratios that the investor looks into in the actual stock analysis. I will be adding more to this list as time goes by and form a life dividend financial dictionary

(you may want to bookmark this page )

tax evasion and tax avoidance explained-updated

Posted on | March 26, 2010 | No Comments

This is an update of a post that i did some time back, i just got some now info so i thought of cleaning it up

We have all heard of those stories about high fliers, CEOs and movie stars facing a very long time in prison because of failing to pay their taxes. Most of the time, it is normally tax evasion but there is a legal way of paying less taxes and it is called tax avoidance. This post serves to enlighten my readers on the difference between the two.

What is tax evasion??

Basically tax evasion is where a person unlawfully reduces the amount of taxes that they are to pay up by either understating his taxable income (the percentage of a person’s income that is to be taxed), manipulation of tax law, adding tax deductions (exemptions for the tax payer to pay less tax) that do not apply to him or just refusing to pay the taxes, transaction using cash so that no paper trail is left for the taxman to follow, stating your assets in another person’s name, having debts and receipts like stock dividends paid through other people’s names, keeping double records for a business: one doctored for the taxman and another accurate one for business continuity, demanding tax refunds that you are not liable for, businesses understating their sales, using illegal tax shelters etc. All this and others that people use to pay less taxes

This is criminal and those that are unlucky to be caught or don’t have the government in their pockets get prosecuted and imprisoned or fined.

It can be argued that once in a while a person may be unable to pay taxes and this can be dealt with leniency but the problem comes when it is done over and over again by people who definitely know what they are doing and there is a motive behind it like CEOs reducing expenses so that their companies can report higher returns at the end of the financial year, or when highly paid lawyers are used to manipulate the law for the corporations

I assume this is enough about the illegal tax evasion and now for tax avoidance

What is tax avoidance??

In contrast, tax avoidance is the legal minimization of the taxes due to a person using established financial tools and laws and whatever else that it lawful. Some of the instruments that a person can use is municipal bonds because interest on these is not considered taxable income, using tax shelters, trusts, using all the tax deductibles lawfully due to the individual, using tax planning opportunities like estate planning, salary reduction plans, shifting assets to family members that do not need to pay taxes on the income(this is a permanent shift compared to the illegal temporary shift in tax evasion) and a myriad of other things some of which are covered in this article, changing your country of residence to a tax haven like the famous Monaco etc

Wikipedia has a little more to add on both tax evasion and tax avoidance.

I had briefly mentioned tax avoidance in the tax credit post so you might want to re-read it for better understanding.

Tax avoidance is also referred to as tax mitigation or tax minimization or tax planning so let this not confound you.

My dollar plan recently did a post on 13 tax deductions that you wouldn’t want to miss and i thought that i should link to it to give you guys more examples on this advantageous aspect of taxation

Tax law being what it is(it is super duper complex in this part of Africa), it is important that you talk to a tax lawyer or a tax advisor so that you get to know all the tax deductibles due to you instead of breaking the law to get something that you could have got legally.

If this has not been understood or there is something that you would like to add, the comment box is all yours

UNDERSTANDING THE BASICS OF MORTGAGES

Posted on | March 25, 2010 | 2 Comments

This post will be outlining the basics of how mortgages work. This is sparked by the previous post about equipment trust certificates where I happened to mention that these types of  corporate bond are similar to the working of mortgages.

It just figures that like with all things financial you should first understand how these mortgages work before getting that mini mansion in Runda .

A mortgage is in essence a long term loan given out by a financial institution like a bank or a mortgage lender (called the mortgagee) to a person(called the mortgagor) with the property itself as the security. When you the mortgagor fails to make the required periodic payments interest included, the mortgagee seizes the property and you loose all the payments that you made. On the flip side after all the payments plus interest are made, the ownership of the property is legally turned over to you and finally you can call yourself a bona fide home owner.

There are several types of mortgages i.e.

-fixed mortgage loans where the periodic payments are fixed all through the lifetime of the mortgage, also called the conventional mortgage

-adjustable rate mortgage loan where the periodic payments fluctuate depending on a number of variables

-non conventional mortgages

-home equity mortgages- mortgages where the home is the collateral

-subprime mortgages- a type of mortgage designed for those who cannot afford to make the payments on a conventional mortgage and so this one is designed so that the principal is not to be paid until a couple of years into the loan payments

-interest only mortgages- as the name implies, you will only be paying the interest on the mortgage and because of the lower payments, you can build up enough cash reserves to pay up the remaining balance minus the interest in some stipulated time in the future

-reverse mortgages- with this one you must be past 62yrs of age and you must live in your home. They are basically used to borrow cash with the property as the collateral but they are not the best because of the high interest rates involved

-balloon mortgages-

And many many others. Its just like all the types of stocks that I have handled in the past

When getting a mortgage, there are a few major things that are stipulated in the contract

*principal- this is the total amount of money that you borrow from the bank or mortgage company to pay for the house you desire so much

*interest- the extra amount the lender charges you for giving you the loan

*real estate taxes- part of these taxes are added to your monthly charges

*home owner’s insurance- you will have to buy insurance for the house to protect yourself against hazards like fire, theft, extreme weather etc

*term- this is the time period for the mortgage i.e. the time over which you the mortgagor is expected to pay up all the monthly payments. Because homes are expensive, this term is normally very long like 40 years long in some cases. The shorter the term, the higher the payments because there is a fixed amount of cash to be paid over a short time.

*amortization formula- this is the repayment formula that the mortgage lender comes up with so as to spread the payments over the term to make them sufficiently bearable.

Apart from the insurance and interest on the mortgage loan, there are so many other fees that are involved making this a major financial obligation. These fees are covered in this “how home mortgages work” article so it makes no sense in repeating them. But they are quite a bundle.

With this in mind you can start actively shopping around for a mortgage and not be confused with the jargon because the object of the post was to demystify mortgages and help get you out of that seat.

As with all other industries imaginable there are predators in the mortgage business that manipulate people and downright steal from them using misinformation and taking advantage of the inexperience of first time home owners. So before you go to a mortgage lender, the lifedividend people beg you to please do your research and do your shopping before getting in bed(so to speak) with any lender. Make sure you are getting what you deserve no less.

what are equipment trust certificates??

Posted on | March 23, 2010 | No Comments

Equipment Trust Certificates are an investment vehicle that I have never mentioned or posted about before, mainly because they do not feature much in this website(i am very much inclined to stocks, bonds and rock solid investment funds). I just find it worthwhile for readers to know all the major investments available for them apart from the conventional stocks, bonds and mutual funds

This post will be dealing with a type of bond so to fully grasp everything, it would be better if you first read through this linked article on understanding bond investing

Basically equipment trust certificates are instruments used by companies mainly airlines and railroads to acquire expensive equipment. Let’s say that a shipping company wants to buy a container ship or an airline wants to buy a big plane. They may have many options of financing the purchase and an E.T.C just one of them. What happens is that a third party arrangement is set up (called a trust) that manages everything. A trust certificate is sold to the investors as an evidence of the agreement and all the terms of the contract like the fact that the lease payments are to be diverted to the investors, time periods etc. This third party trust then leases (its like a long term rent) the aircraft, ship or whatever to the company and the payments that this company makes are diverted to the investors through this third party trust. After all the payments are made in the given time as stated in the trust, the company receives legal ownership the plane or ship etc and the whole thing ends there. Even if the company was using the object, it wasn’t legally theirs and in the case of a bankruptcy the company stands to loose the payments already made and the object of their desire(so to speak) but in the flip side, they don’t pay taxes for it because technically they don’t own it as yet.

So in a sense it is just like a mortgage.

I first read about this investments in Benjamin Graham’s security analysis and apparently they were used in financing the purchase of railway equipment but now these equipment trust certificates are now used in a wide range of industries like airlines, shipping, road transport, generally transport companies needing high cost movable equipment.

Something else that is worth saying about these ETCs is that they are a form of secured corporate bonds-( read more about this here) and the investors’ principal is protected by the issuing company’s assets. In the case of bankruptcy these investors(bondholders) are legally entitled to receive first right to the company’s equipment and get their money back.

As for the maturity period it is intermediate to long term like 1 to 15 years sometimes above this

Generally these are equipment trust certificates for you. Something that I have come to realize with investing and life in general is that you never get the whole picture until you get into the activity itself. So when you decide to invest in these trust certificates, the terms could be different to what you have read here.

Do you have anything else to add or correct or whatever?? The comment box is all yours

other factors to consider in stock picking

Posted on | March 22, 2010 | No Comments

Of late I have been delving into the details that an investor should look into when selecting securities to put his money in. I did a post about the financial documents that an investor has to read to make an informed decision, I did a post on the types how an investor analyses a stock, and yet another on how an investor analyses a bond. There was also another important concept to consider called margin of safety.

In line with the most recent of investing posts, I am going to do one on other things that a value investor has to consider when making investment decisions.

General stability of the company- in value investment circles, this is measured by the maximum decline in per share earnings (how much each share earns) in any of the past say 7 years, or any figure that you please as against the average of the three preceding years i.e. you have the per share earnings of a company going back 7 years from now. Take the average of the earnings of the preceding 3years and use it to measure how far the earnings have decreased or increased in each of the last 7 years. Increase or no or little decline is favorable.

General growth of the enterprise. Another very inportant factor in stock picking. This should not be explosive over a really short time because a company whose growth and earnings increase in biblical proportions, like growth stock have the tendency of falling away in the same fashion(am thinking the tech bubble in the nineties). It is better to invest in companies that have satisfactory growth record over a given time say 7 years and have shown fairly good performance in bad times(this are mostly blue chip stocks)

Profitability- a lot of profit is always an attraction to investors since they are mostly followed  with high annual growth rates in earnings per share. This is more often than not a show of the general strength or weakness of the company. The company has strong fundamentals if the profitability goes on for a fairly long time. Lets be real, there is no way that you will want to pick stock that is and has been unprofitable for its investors

Good financial standing- This will be brought out in the analysis of the company’s financial documents. A good consistent financial standing is always a requirement in an investment stock.  An investor’s criteria for this financial standing can be a ratio of 3 to 1 for current assets to current liabilities, meaning that the liabilities of the company are covered three times by the current assets

The stock price variation over the given period-  an investor is inclined to stocks that have had a favorable increase in price over a given period over those whose prices have remained stagnant or have fallen for no good reason

Dividends- If the company gives them, an indicator of the favorableness of the company is whether these have been awarded to the investors consistently in the past without fail. The company should be particularly favorable if this dividends were also continued in a very bad economy like in the past recession. Companies that continued their dividend payments while others were failing should be given some consideration.

The industry that the company is in- there are some industries that are more are more poised for more profit than others and while this is something that the investor has to consider, he must mot spend too much of his time looking for the next big thing since there is no way of really predicting what will happen in the future and so he should concentrate on things that are quantifiable.

So those are the major factors that you should consider before you invest in any stock and they have worked out very well so far.

UNDERSTANDING HEDGE FUNDS(real life scenario)

Posted on | March 17, 2010 | No Comments

One of the major reasons why i started this site was to make financial news easily understandable. This was because there was a time when i used to go through the financial pages of the wall street jounal, CNN money or the new york times and wonder why people were making so much noise over things that very few people understood.

So in explaining financial concepts in a simple language(i really try hard to make this stuff easily understandable) i assume that readers start seeing sense in the financial pages.

So i was reading though the wall street journal and found this post on hedge funds increasing in popularity and i remembered that i did a post explained how this hedge funds work(here is the hedge fund working post). So i assume that someone who does not know what hedge funds are, after reading my post will easily understand what Brian low is talking about.

After reading through my post explaining what hedge funds are, do you find it easy to understand the wall street journal article in hedge funds??

HOW TO KILL YOURSELF IN THE STOCK MARKET

Posted on | March 15, 2010 | 3 Comments

The easiest day to  put a noose around your neck in the stock markets and it is called short term investing, popularly known as day trading.

Basically this is where an day trader(this is what they are called) hopes to make money in the selling of various securities, be it stocks, warrants, stock options after having bought them at a lower price. The biggest difference between this guy and other investors is that he only holds the securities for hours at a time and not days or months or years like other real investors

While a large number of people do engage in this dangerous game, there are a few things that they do not consider;

Sometimes a trader may buy a value stock in the morning in the hope that the price will increase by a few points in the course of the day but the opposite happens and the stock’s price decreases. Because the trader wants to reduce the paper losses has already incurred, the will desperately try to sell the secutities at any price, even if it it lower than the price he bought them at.

This difference in the price he bought the stock at and the price he sold at is called market impact. While in that trade, the loss may not be so significant that is causes his death, this small losses pile up over time and in the grand scheme, a large loss is incurred. Those pennies and dimes really add up.

In another scenario, a day trader can be desperate to buy shares of the next big startup and this end up offering a higher price for the stock that the current price so as to lure sellers to part with it. This market impact will is a small loss that will pile up over time and will happen each time you desperately buy or sell shares desperately trying to get into “the next microsoft”

This i got from Benjamin Graham’s the intelligent investor that when one gravitates towards day trading than to investing, the turns  long term gains into ordinary income. This also contributes to your demise because ordinary income is taxed higher than the long term gains. I will not put figures here because the tax rates vary from country to country.

Something else that will cause your death in day trading is the costs. Each transaction has a fee and so each time you trade a fee is deducted whether you make cash or not. So it goes without saying that the more you trade the higher this transaction fees and the less returns you take home.

So this post generally shows why value investors like Warren Buffett are for value investing meaning analysing the stock, analysing the bonds and scrutinising all the companies financial documents before buying even a single security.

On the other hand there are those that swear that day trading is profitable like the webmasters in this linked site. Personally i am averted to anything remotely speculative in investing.

Do you agree with my point of view when it comes to day trading??

DOCUMENTS NEEDED IN SECURITY ANALYSIS

Posted on | March 12, 2010 | 2 Comments

This post will be dealing a little on bonds so to understand it better, it would be nice if you read through this linked post on understanding bond investing

When one wants to seriously invest in stocks, one just doesn’t google “best media hyped stocks for 2009” and the first option that comes up is what he/she will put his money in. No. That is when the work begins because the has to find the stocks that have the best chance of giving him returns that will satisfy him  in that they will compensate the work he did in finding them.

So this begs the question; how does one find a good stock. There is but one answer. Due diligence. An investor has to look through numerous financial records of public companies looking for those that suite the requirements that he has set. This post will not deal with these requirements per se but on the documents

These financial records that the investor looks at are;

The financial statement. This consists of

1.The balance sheet- which show the financial position of the company as at the closing date(a single day). That is why the heading is always “as at dd/mm/yr” it is a detailed record of what the company owns (its assets) both tangible like machines and furniture and intangible like goodwill and its liabilities(what it owes) that include bank loans, debts incurred in running of the business etc.

2.The income statement/profit and loss statement/statement of revenue and expense- as the name implies, it show the earnings for the period covered (financial year). You may have noticed that they are always entitled “for the year ended dd/mm/yr”. It is not always year because some companies issue these results quarterly so basically, it is for the financial period ended. They contain sales, non operating income, gains and losses from all the various business transactions, depreciation and depletion of assets,  income taxes, dividends paid, etc. it basically shows how cash flows through the business.

The prospectus- This document is used by companies offering securities for sale. It basically describes the business and how the proceeds from the sale of the securities(IPO) will be used, the company’s market cap, everything that you would want to know about the directors like their contacts, resumes, amount of shares each hold etc

The interim statements- these include the company’s earnings only for less than that company’s financial year.

Conference calls from C.E.O.s. some companies have regularly scheduled conference calls where the CEOs talk about the companies present standing to the shareholders.

These are the four major documents that an investor needs to know how to analyse but this is not the end of it there are so many other sources of information that an investor can go to find more information.

This include;

Periodic reports to public agencies- they are just like financial statements but more detailed

Statistical and financial reports

Requesting specific information from the company. If the shareholder still cannot find information he is looking for from the above sources, then he should contact the company and ask for it since technically being a stockholder means that he owns part of the business and thus entitled to most of the information pertaining to the business.

Pro-forma statements-but alert investors normally ignore them because they are kinda useless. What I mean is that companies misuse them and mislead their shareholders. Initially they were meant to provide investors with a better picture of long term growth by removing short term non recurring expenses but now they also include normal expenses like shareholder’s dividends, costs of mergers and acquitions. So to avoid being thrown off, the investor should not take it seriously.

I wanted to keep this post really short (something that I have failed to do) because in the near future, I will redo it in vivid minute (and disturbing detail).

Are there any other documents that any investor out there uses in stock analysis for his stock portfolio?

HOW AN INVESTOR ANALYSES A BOND

Posted on | March 10, 2010 | 2 Comments

This is a post primarily about bonds so to understand it well, it would be nice if you first read though this linked article on understanding bond investing

In all aspects of life there is a modus operandi to be followed and this goes without saying in value investing. While there is always the option of throwing away your hard earned money in any media hyped stock or bond, the results may not be as good as when you sit down and do your homework on a security before investing in it.

I have covered an overview on how stocks are analysed and this page will look at how bonds are analysed by value investors.

1.First of there is to be the realization that bonds are not for safety [as I have suggested in earlier posts-hey i am also learning ] but investments with limited returns. The investor in essence gives up yield for more safety of hard earned principal. This is because there are also a lot of risk associated with this investment as seen in part of this article.

2.An investor should focus the bond part of his portfolio on bonds with returns higher than high grade bonds(their yields are always very low because the are more or less very safe from default) with a lower risk of loss of principal that is not as high as those of high grade junk bonds. This makes sense to me because it mean that one should also be just as concerned with the returns as with the safety of principal.

3.Avoid companies with a high credit risk. This risk comes from them being inherently unstable (financial, management etc) and having too much debt relative to their income. A combination of these two can erode the margin of safety i.e. the number of times that the interest payments are covered by earnings. This is independent of the size of the company because even a large company with too much debt relative to their cashflow means that they are very much prone to hard financial times during upheavals.

4.when analysing individual bonds there are a lot of things to include in the analysis like the industry that the issuing company is in, the quality  of management, the number of times that the interest payments to bond holders are covered with the earnings, financial structure, sources of cash, value of the business and such things should weigh heavily when considering to invest in a bond.

5.The very popular buy and hold method of investing should have no real basis in a value investor and he/she should give the securities a very long hard look from time to time and assess whether they are still fit to hold after reanalyzing all the aspects of bond investing as mentioned above. She must not sell or buy because of market fluctuations or anything that fickle.

6.Market timing must have no place in the investors analysis unless it is favored by all these other factors. What I mean is that if after a fundamental analysis of all the things that are analyzable(what is mentioned above) then he can use market timing to buy the very attractive bonds at a price lower than what he was originally prepared to pay. Market timing should not follow interest rates of other temporary unpredictable things

7. Finally to avoid the inevitability of defaults (when a company cannot pay the interest payments or the principal back to the investors because of financial difficulty meaning that the investors lose everything), he must diversify his bond investing and avoid junk bonds unless his diversification is good enough to handle the danger of default of these very risky issues

Basically this is basically how anyone can analyse a bond and thus pick superior ones for his portfolio(this beats just following market trends). In the near future I will revisit this post with figures and everything.

As you can see there is a lot that goes into bond investing just like i showed you with the stock analysis post. And I haven’t even said anything about the analysis of the financial structure of the companies….

(this is the life of a value investor)

THE NEW FACE OF KENYANTYKOON’S BLOG

Posted on | March 6, 2010 | 6 Comments

This is the new face of kenyantykoon’s blog. i moved from wordpress.com to wordpress.org and had to map the incoming links from kenyantykoon’s blog to lifedividend.biz.

I think that these new sites look more professional and it will be easier to be taken more seriously by you my dear readers.

It is still kenyantykoon’s blog and my new unsername is kt, only a leaner meaner version of me and the site.

I hope the migration has not been too much of an inconvenience.

KT’s NOTE

i was having a little problems when working out the kinks and most of the site was offline but we are live again.

WHAT EXACTLY IS CAPITAL STOCK??

Posted on | March 1, 2010 | No Comments

I have come across this financial term many times when reading through investing books and various financial pages but have never really had a clear cut definition of what capital stock is. So after some research, this is what I came up with.

To understand this very well we first have to briefly look at what a corporation’s charter(or articles of incorporation) is. This is a document that provides for the creation of the business as a corporate entity. It details everything that about the corporation like its objectives, capitals and management structure, operations etc. basically everything that makes up the corporation.

That said….

Capital stock is a broad classification of all the shares that claim ownership of the issuing company and thus encompasses or is subdivided into  other subclasses of stock like common and preferred.

All the intricate details on the subdivisions of capital stock into common stock, preferred stock, total volumes of each to be issued etc is all put down in the charter of the corporation.

So one can say that capital stock is simply the business itself in that lets say I have am the sole owner of a business. So in stock terms, I own 100% of the capital stock. So if I want to raise more money or go into business with other people (partners), I would sell part of the business to them, say 30%, leaving me with 70% of the capital stock. This stock which is divided into the other types of stocks that I have written of in the past can be sold to the public in an IPO(initial public offering) to raise more money for expansion or whatever. These shareholders are entitled to a dividend, voting powers in the companies affairs or whatever privileges the initial (capital stock) owners decide these new shareholders should have. A slight difference between capital stock and the other subdivisions is that the capital stock holders of the business(the incorporators) are the ones to set the price of the common, preferred shares which could be based on a large number of things like the balance sheet position, goodwill, future prospects, privileges that each stock classification enjoys etc.

As the above implies a company can have different classes of stock outstanding but when it only has capital stock outstanding, it can be sometimes referred to as common stock.

Something else about capital stock that is worth mentioning is that according to free dictionary, it is the total stated or par value of the permanently invested capital in the corporation. Also according to the dogs of the dow, “capital stock does not bear a relationship to the asset value or stock outstanding. Capital stock must first be issued and listed inorder to be publicly available for stock market trading. Capital stock is usually listed as a corporate asset in the charter and capital stock contribution additions are typically noted in corporate charter documents”.

The best explanation that I found on capital stock is from this wisegeek article.

That’s about it, it is not a new type of stock, just another word for the same old things

WHAT IS A REVERSE STOCK SPLIT?

Posted on | February 24, 2010 | 1 Comment

The past two posts have been about what corporations do with their stocks. I have handled stock dividends, cash dividends and stock splits.

the difference between stock dividends and cash dividends was handled on my other site (ACKERTALK.BIZ) and the difference between stock splits and stock dividends here.

In this post we will deal with the opposite of the stock split.

What is the reverse stock split?

READ MORE….

the difference between stock dividends and stock splits

Posted on | February 23, 2010 | No Comments

In the previous article I differentiated between stock dividends and cash dividends and I think that the difference came out well

In this post, I will differentiate between stock dividends and stock splits but since stock dividends were fully accounted for in the previous post, I will concentrate on stock splits.

Basically stock splits basically increase the number of stocks that the shareholders and still keeping the proportion of shares that the shareholders have. With increasing the number of shares outstanding (as in shares currently owned by investors) the value of each share falls in proportion to the increase in number of shares.

The financial jargon for stock splits is and x for y split with figures 2 for 1 split. In such a case each share that a stock holder has is divided into 2 which means that if he has 200 shares before the split, he/she will have 400 shares after the split. The further implication is that the value of the share falls by half since the shares have doubled in number. So if each share is $10 before the split,  value will decrease to $5 after the split.

Another example is a 4 for 3 split. This will mean that each three shares that an investor holds will be increased to four or another way of putting it is  that each 1 share becomes 4/3 of the initial. So if an investor has 300 shares before the split, she will have 400 shares after the split and the value of each share will decrease to ¾ of the initial value.

There are many ratios that the management can decide on according to the prevailing situation but the most common is a 2 for 1 split.

Just run through again if it is not well internalized…..

Value investing books like the intelligent investor have belittled this corporate gimmick saying that it just tries to make investors think that they have more shares in the company while in the real sense their standing is still the same as it was. The book uses that example that Yogi Berra saying that he wants his (whole) pizza cut up into eight pieces because he does not think that he can eat four. The authors say that these companies that split their stocks and make so much noise about this are in essence treating their investors like dolts. While sometimes this happens, sometimes it doesn’t and so lets say that the says were doubled(2 for 1 split) this will mean that each share will be entitled to half of everything that the initial share had. So In essence there is nothing that the investor benefits from s split.

Why do companies do stock splits? If a company’s stock is doing well(I prefer to think of it as the stock being grossly overpriced), the management might decide to split the stock so as to make more shares available to the public. In “the intelligent investor” curious historical examples in the internet are shown of how companies split stocks and after the devaluation the same stocks increased in value almost overnight. That means that the company will benefit from the split and the investor will profit in that he will be able to afford shares that were previously too expensive.

The down side is that the stock split in increasing the number of shares in the market means that a dilution can occur making a major loss in stock value.

Something about these stock splits is that they require approval from the Board of Directors and the shareholders(those with voting powers anyways)

There is also something called a reverse stock split but that is a story for another day.

ADMIN’S UPDATE

I have just found this yahoo finance article on Berkshire Hatharway’s stock split. It would be nice to read this real life situation of a stock split so that you internalize this concept.

the difference between stock dividends and cash dividends

Posted on | February 22, 2010 | No Comments

I have been reading a lot about finance lately and i have come to notice that the corporations use these two things interchangeably.

So this post is meant to enlighten the readers on the difference between cash dividends and stock dividends and in that you will come to understand why companies use them

READ MORE…

MARGIN OF SAFETY EXPLAINED

Posted on | February 8, 2010 | 1 Comment

If you have read any books by any value investor or a blog written by a person more inclined towards fundamental investing, you may have heard this phrase “margin of safety”. So I decided to write up a post on this very important concept in fundamental investing.

What is margin of safety?

Since it is Benjamin Graham who first came up with this phrase, it is best to define it from his point of view.

In the case of bonds, it is the security provided by the company’s ability to provide revenues in excess of the interest requirements thus protecting the investor against a slump in the economy because they will still get their interest payments. If you read about how bonds work, you will see that companies pay the bondholders their interest payments from their revenues. So the higher the company’s revenues, the more protection that the investors get if the profitability of the company was to decrease i.e. they would still get their periodical payments.

In the case of stocks, it is the difference between the real (intrinsic) value of a stock (as in what the stock is really worth) and the market price  of that stock in the stock market. Sometimes the stock is overvalued in that the market price is way over the intrinsic value and sometimes it is undervalued in that the market price is lower than the intrinsic value. In the case of the overvaluation, the required margin of safety is not provided and a value investor worth his salt will not even touch that stock no matter how much the media and the general investing public is hyping it up.

A value investor will mostly look for grossly undervalued stocks because in most cases the undervaluation is not justified in that the general investing public just does not like the stock, or it is not causing a lot of excitement. A hypothetical example is a company that makes toilet seats would not be as popular as a search engine that seems to control the whole internet. You may find that the toilet seat company has much better fundamentals that the search engine and thus a much better investment.

NB;Something that any investor should know is that margin of safety is to be applied in all areas of investing, be it bonds, stocks, liquid investments, warrants…. basically anything that is included in his portfolio

[Street authority has a large well written longer article about margin of safety with more examples than this post so you would want to read thru for a better understanding]

Contrary to popular belief, it is not that easy to determine the real value of a stock and that make an informed decision as to what price it would be wise to buy the stock. So an undervalued stock provides that very necessary margin of safety to protect the investors from unexpected downturns of the market or the miscalculation in the calculation of intrinsic value of the stock. The greater the margin of safety the more protection the investor has for his money.

In insisting on a large enough margin of safety, an investor reduces the risk that he is exposed to and in most cases will not be so worried about what the market is saying about the security since even before buying it, he insisted on a margin of safety by using figures, persuasive reasoning and experience and thus according to Benjamin Graham, it becomes a true investment.

In this site called the Warren Buffett secrets, margin of safety is well explained in from an approach that is different from the one that I have taken

The first time that I heard of this term was in the intelligent investor and coincidentally simple dollar did a post on that chapter of the book dedicated to this concept that you may find helpful

Any comments or additions are welcome

4 TIPS FOR VALUE INVESTORS

Posted on | February 4, 2010 | 1 Comment

For reasons that are out of my control, i have not been able to post as regularly as i was last year but i am intent on reverting to my regularity very soon.

It has been a long time since i linked to any article that i found too helpful for an finance reader interesting in investing from a value standpoint. I have just found this post on CNN-MONEY about the tips that a smart value investor would find extremely helpful.

If you have read the intelligent investor or/and security analysis (arguably the best books on investing ever written-or so they say), you would see a remarkable similarity between the linked article and what these books crusade for.

An overview is

-not wasting a lot of time trying to predict the future of the stock market and trying to get the best investments

-thinking in longer terms and not yearly or monthly

-making sure that you have the costs incurred during the investing enterprise factored into your calculations because as we all know mutual funds’ high fees eat away at most of the returns and thus little gains for investors

-most importantly developing the ability to control your emotions and temperament.

Here is the article again. You should read it because it will refreshen your memory on fundamentals about investing that you may have forgotten.

WARRANTS; PROS & CONS

Posted on | January 30, 2010 | No Comments

I have doing a series of posts about warrants the first handled what they were and the types available while the second  dealt in how they work. To gain a better understanding of these investments, i suggest that you first read through these linked (short) articles.

This post will deal on the advantages and disadvantages of warrants and we will briefly look at how they are misused by companies for their own benefit.

One advantage of warrants is that with less money an investor can profit more from stock fluctuations than dealing with the stock itself. Let’s say that the market is going up(bull market). The investor can use call warrants to profit from the increased stock prices. This is brought out in the example in how warrants work. The same also happens with put warrants. In the investment circles this is referred to as gearing or leveraging since in buying these warrants you get control over a security be it a stock or whatever at a lower entry cost.

Another advantage of warrants is that in a bull market there is the possibility of a very high profitability. Assume that you bought a call warrant with a very long expiry date. This means that as long as the stock price is going up you as the investor stands to gain in exercising the warrant. The converse is also true when you buy the put warrants in a bear market. Another way of looking at it is that is the market went the opposite way of what you were expecting them the only amount you lose is the amount invested in the warrants- the losses could have been worse if you were trading directly with the underlying security. This is also part of the leveraging advantage mentioned above.

Another advantage is the ease in trading them since they are just like stock options and thus relatively easy to understand and trade.

One advantage that warrants have that is not really there with most of the other securities is the low transaction costs. Apart from opening an account and dealing costs there Is really not nothing else much. But the investor should take care because frequent trading will mean that returns obtained are eaten away by the fees so he should only trade during well thought out times to maximize returns. The only investment vehicles that I know of with this advantage are index funds and bluechip stocks(if held for long terms).

If you are an individual investor looking for diversification, then warrants may have this benefit since for a smaller amount you can get a larger number of stocks in your portfolio since with a smaller amount of cash, you can trade with and profit from more expensive securities.

Another advantage that comes out with the expiry dates of warrants is that unlike with stock options their dates are much longer at times indefinite. This means that the investor has a longer time to benefit from the fluctuations of the underlying security and this profit more.

Warrants also have the advantage of being transparent in that an investor can see exactly what is going on. What this means is that the accurate prices of the warrants and the underlying security is and the centralized listing means that the investor is always in a position to compare the prices and make well informed choices.

These are most of the pros that I could come up with.

As for the disadvantages….

The first disadvantage of warrants that pops to mind is the volatility. Since they mirror the fluctuations of stocks etc this means that their prices and thus the loss or profitability changes all the time. While this can work to the benefit of the investor it can also blow up in his face. Lets say that the investor was expecting a bull market and thus buys call warrants and then the market suddenly goes the other way. This will mean a loss of all the invested capital.

Another disadvantage of warrants is that even though there is a lot of transparency in these investments, they are still very complicated and thus they require a lot of time, experience and expertise in dealing profitably with them. The underlying stocks are part of the company you are investing in but the warrants are derivatives of these stocks and this means a layer of complication in pricing and investing.

Warrants like stock options are not stocks so warrant holders have no right in decision making of the company. This means that they have to suffer the consequences of bad decisions made by the shareholders and the  BOD.

Also warrants seem to show that a company’s fundamentals are weak since it is perceived that a company offering warrants is misusing the available cash. This casts doubt in the strength of the company and this may scare away value and fundamental investors. Also warrants complicate the accounting process and thus stock pricing which could lead to an accounting time bomb that could spell doom for the company. This is very well brought out Benjamin Graham’s “the intelligent investor”.

Also if the investor does not exercise the warrant before the expiry date, this means that it will be nullified and consequently the investor will lose his invested capital. Sometimes the investor does not have a choice. Let’s say that he has a call warrant and was expecting the stock price to rise and then it either stagnates or drops. It will make no sense for him to exercise the warrant at a stock price lower than the exercise price because this will be a sure loss. So the speculative nature of these warrants may tie the investor up in a bad way.

You are free to make any additions or corrections to the post(s) above.

HOW WARRANTS WORK

Posted on | January 29, 2010 | 2 Comments

The previous post was about warrants where I defined them and briefly explained the types of warrants commonly known[i suggest that you read this linked article first for better understanding]
In this post I want to explain how they work in as simple a way that I can master
In reading the previous post you will get a feel on how the put and call options work so I would suggest that you run through the post first.
An illustrated example is that supposing that an investor has a warrant to buy one underlying parcel to buy 100 shares within the next 10 years (the expiry date is 10yrs from now) at an exercise/strike price of $20 per share. Assuming that it was a bull market and the price of the shares rose to $100 per share within the next year from say $10 at the time of purchase. If the investor possesses the call warrant, he will be able to buy the highly priced shares at $20 which he can then sell making a profit of $80 per share or hold in the hope that the share price will rise even higher which will mean more profits. I have used all the technical terms as used in the investment world so that you get a feel of it. If not understood take some time and re read.
While the possibility if profit is very high there is also the possibility of losing a lot money. What I mean is that the investor is buying these warrants because of the hope that the stock prices will rise. With the stock market as it is, this may not be the case and the stock prices may tank to below the exercise price ($20) and probably stay there up to the expiry date. When this happens, the investor can either chose to exercise his warrants or let them expire. In both cases, he loses big money.
A few things that one must remember of these warrants is that they are mostly attached to other securities to “sweeten the deal” so to speak. It is possible to detach them and trade then separately as the investor sees fit. Continuing with this, supposing that the warrant is attached to a convertible bond . Using the conversion ratio the investor can detach the warrants and the bond and convert the bonds into the stock and keep the warrants for a hopefully better time.
Another thing that you must remember is that being warrant holder is totally different than being a stock holder in that the warrant holder has no voting rights, gets no dividend or interest payments. It is just like being a stock option holder but again not entirely.
This website has a different way of putting all things warrants that we have been talking about with different examples that will make you understand this form of investment better.
A final thing is that just like shares, these warrants’ prices fluctuate a lot

WARRANTS- DEFINITION AND TYPES

Posted on | January 25, 2010 | 4 Comments

I have been reading a lot of finance things in accordance with increasing my financial and investing knowledge and I came across this type of investment (if I may call it that since warrants offer no interest or dividend payments to the holder). So I decided to do a few shot posts in what they are and how they work.

Basically warrants are investments that give the holder the right to buy and sell a specified number of the issuing company’s securities before a specified time in the future and at a specified price that is normally higher than the current price of the security to be bought at the time of issuance. These securities are mostly common stock, but sometimes they can be preferred stock or corporate  bonds

As you can see from the above definition these warrants bear a remarkable similarity to call options, a post I did a short time ago but their main difference is that with warrants they are bundled together with the other securities to as to increase the marketability of the other security (the ones mentioned above), something that is unheard of with stock options. Also the time frame that one can buy stock using warrants is much longer- years that the time that an investor can use his stock options-months.

Another difference that investopedia gives is that warrants are issued and guaranteed by the company while options are exchange instruments that are not issued by the company.

Another difference that I has been well brought out by street authorityis that when warrants are bundled with other securities, they are detachable in that an investor can decide to sell one and keep the other according to how he sees fit. This is not possible with stock options because they are not sold in this form.

Warrants are also called equity warrants, subscription warrants or stock warrants so let this not confound you

The two types of warrants are named like stock options i.e. call warrants and put warrants.

In the case of call warrants the holder has the right to buy the underlying security before the specified time. This will be done at a time that investor will profit from it. Let me illustrate. Supposing the price of the warrant is $50 –also called the exercise price and at that time the current price of the common stock is $40. After some time the stock may go up to $70. This means that the investor can buy the higher priced stock at the price of the warrant thereby saving $20 in this case. He can then choose to resell the stock immediately thus making a $20 profit or he can wait hoping for a higher price and thus more profits.

In the case of put warrants the holder has the right to sell the security at a higher price than he bought them and thus profiting from the trade.

Other types of warrants are as follows

Covered warrants

Derivative warrants

Corporate warrants

Apart from the strike price/ or exercise price that I have mentioned above, other terminologies in warrant investing include

-expiry date; the last date at which the warrant can be exercised after which it become null and void. This period can be a very long time sometimes indefinite

-underlying parcel; this being the number of securities that area awarded to the investor when the warrant is exercised.

-conversion ratio; the number of warrants that an investor would need to buy one underlying parcel of shares. A conversion ratio of 10:1 means that he would need 10 warrants to buy 1 underlying parcel. This conversion ratio is different from that of convertible bonds or stock

That’s basically the warrants at a glance. Next time we deal with how warrants work.

ADMIN’S UPDATE

this is a continuation of how warrants work so that you get a deeper understanding of these investments

LIQUID INVESTMENTS FOR VALUE INVESTORS

Posted on | January 14, 2010 | 6 Comments

Some time back I did a post on money market funds and how they are used as alternatives to cash by investors- aggressive and conservative alike. They also come highly recommended by Benjamin Graham in the sixth edition of security analysis. He says that if an aggressive investor can see no investment that fits the criteria set out as a value approach would, then be should put his cash in the money markets.

There are many reasons for this but the main reason is the short term maturity period and very high liquidity and the safety that these investments provide for the investor’s hard earned cash among other things.

So in this post I will mainly dwell in the type of money market instruments available for the value/ fundamental investor. The definition of a money market is the global market where short term financial instruments are bought and sold.

These money market instruments include:

CERTIFICATES OF DEPOSIT [CDs]

These are offered by depository institutions like banks and credit unions but they are sometimes bought through established brokerages. These money market instrument is also referred to as a time deposit because they have specific investment durations like 3 weeks to five years much like bonds. Other things that these CDs have in common with bonds are a predetermined interest rate and being available in more than one denomination. To give evidence that you have invested cash into the institution, the certificate is awarded to you and the information that appears is the amount invested, the maturity date and the interest rate how the interest is calculated.

These certificates of deposit while they have a higher interest rate than T bills and savings accounts in banks have the down side of being a little riskier [just like bonds in that the higher the interest rate offered to the investor, the higher the risk of default the investor has to bear] but overall the interest offered is much smaller than most other investments.

Another advantage is the safety from the whimsical stock market and the ability to calculate what your cash will amount to when it matures.

Another thing about certificates of deposit is that there are restrictions on withdrawing cash. This can be a good thing in that the investor will not be tempted to withdraw cash all the time (and thus forcing him to delay gratification) and a bad thing in that he cannot count on the investment in when disaster comes a knocking. But it is worth adding that the larger denomination CDs can be sold before maturity.

They are perfect for keeping cash safe for a specific amount of time and I think that this is why security analysis recommends them.

Finally they differ from money market accounts, something that about.com has brought out rather well.

TREASURY BILLS (T bills)

These are ways that a government uses to raise money from the public, much like government bonds

With T bills, the investor buys them at less than the par value or full value or at a discount and government will buy them back at the predetermined par value. The difference is what the investor keeps

The investment period of these T-bills is 3months(90 days), six months and one year and the various short maturities is one of the things that make them so popular. Other reasons for their immense popularity are;

-the fact that they are so simple to understand and invest unlike investments like stock options and bonds and warrants and stocks

-the fact that it is possible for the investor to get a T bill that matures at the time convenient for him and at an interest that he can specify at an auction

-A variety of denominations that cater for the investor with modest funds to the richest of the rich

- A very low risk of default since they are backed by the government and it is only in very extreme cases that a government can go bankrupt and fail to pay back cash to investors

While the returns are not the best, let us not forget that this is a security that an investor uses when he is between investments.

COMMERCIAL PAPER

Just like corporate bonds, commercial paper is a way for the corporation to increase working capital by borrowing from everyone else other than the  evil banks and just like T bills, they are offered at a discount from the face /par value.

These have fixed maturity periods between one to nine months and are issued by companies with a very high credit rating much like the first rate corporate bonds making then a very safe short term investment. This is where they differ from corporate bonds in that these have shorter maturity periods. The high credit rating requirement by issuing companies is because they are not backed by any form of collateral and so only companies that have a very strong financial base and thus cannot default are allowed to issue them unlike bonds which are issued by any type of company but are graded according to the risk that the investor is to incur when he decides to invest in them.

The down side of commercial paper to investors with modest funds is that they are only in very high but variable denominations and thus only cater for rich investors who have the luxury of choosing whether to buy then on discount or with an interest attached.

REPURCHASE AGREEMENTS (REPOS)

This security only works with government securities. With these, the government securities holder sells the security to the investors with the agreement to buy them back at a predetermined date and price which is normally worked out for the investors benefit. This is a real short term investment i.e. one(overnight) to over a month

There s a lot to know about repos like types and the structure, all of which are addressed in this answers.com linked article

Another name for the repurchase agreement apart from the repo is the buyback. A fitting name.

MONEY MARKET FUNDS.

I did a post about them some time back and instead or redoing it, you can just read through here

BANKER’S ACCEPTANCES (BAs)

For companies with a credit worthiness so low that they cannot issue commercial paper, this security somewhat more suitable. They are essentially created by a non financial firm and guaranteed by a bank.

The corporations issues this non interest security at a discount from the full value with a maturity period of less than one year  and is backed by a bank with a very high credit worthiness. They are not very common in other areas apart from international trade

Apart from the fact that they don’t necessarily have to be held to maturity and offer the investor security for his money, this security also reduces the company’s cost of borrowing cash from a financial institution

They are very similar to treasury bills because of the discount issue.

EURODOLLAR

Unlike the implication in the name, these securities have nothing to do with Europe. They are US dollar deposits in banks outside the USA. The maturity period is around six months and investments are in very large amounts and individual investors with modest funding are usually locked out unless through a money market mutual fund.

These are used by persons or organizations that need to keep large amounts free from government regulation, deposit insurance and thus allow for larger margins

There are Eurodollar time deposits and Eurodollar CDs and it is also worth mentioning that they are only found in the developed countries like USA and Europe.

FOREIGN EXCHANGE SWAPS

This nifty investment allows to parties to exchange different foreign currencies at a certain time in the future at a mutually agreed on exchange rate.  The main advantage here is that this reduces the risk that the currencies will change in ways that will be inconvenient for either party and this saves them a lot of cash that can be lost in the easily fluctuating forex markets

Other names for these swaps are forex swaps, currency swaps, FX swaps and are mainly used by multinational companies or those that frequently deal with foreign currency

They are much more complicated than the one liner with which I have tried to explain them with, as Wikipedia shows

MUNICIPAL NOTES

These securities are issued by municipalities to get cash in anticipation of tax revenues unlike munis bonds that are used to increase the cash that the municipality has to spend by borrowing from the public(a loan of sorts) as they wait for other forms of revenue. Their maturity periods range from a few months to a few years depending on many things.

Apart from the short maturity period and the relatively safe form of investments that they are, they do not have wide price and interest rate movements as compared to stocks and bonds

These are a few short term investments that are available to the value investor in between investments and those that are saving cash for a specified time like to buy a house or for school or something. I hope they are well explained

I realize that this post is longer than the ones that I usually write but I needed to give you all that I could find on highly liquid investments instead of hiding your money under the mattresses :~)

HOW HEDGE FUNDS MAKE MONEY

Posted on | January 6, 2010 | 8 Comments

Some time ago, I did a post about hedge funds and why they are so attractive to the aggressive and conservative investor alike

I happened to mention that there are some tricks that they use that most other investors cannot do because of the risk involved, equipment and expertise required or because they are just not allowed by law to practice them.

So in this post I will discuss some of the methods that hedge fund titans use to make billions while the rest of the world sinks into an economic quagmire.

The definition of hedging is basically managing the risk of loss caused by fluctuations in the investment that an investor can occur and/or increase the profits that can be obtained in an investment venture. Examples in hedging are covered in this investopedia linked article along with other things

This is done by various techniques like:

SHORT SELLING STOCK

This is the betting on the probability that there is a falling market in the near future and preparing to profit from it. Supposing a hedge fund manager and his team find in that there is going to be a fall in share prices of a few companies because of management problems, market sentiments or whatever, the fund borrows the company’s stock, bonds etc from a broker for a given period of time and sells it at the current high price (say $50). If the research is correct and the share prices fall, the fund then returns the borrowed securities at the now depressed prices (say $20) and thus pocketing the difference- minus the fees for the broker.

The down side is that the future being as unpredictable as it is, the share prices may not fall but continue rising for the whole duration that the fund has borrowed the shares (say to $80). After the time has elapsed, the fund will have to return the shares at the current inflated value, which will mean getting the extra cash from their accounts to pay up and adding the brokers’ fees, the fund will suffer aggravated losses.

LEVERAGE

This is the borrowing of additional money by the hedge fund to increase the profits due to them in the case of an investing transaction going well. A hedge fund borrows money from any financial institution that will agree at a fixed interest rate so that they will have more to invest in the attractive investment that made them borrow the cash. This extra cash will mean more profits for the fund and the investors but the down side will mean aggravated losses for the fund if things do not go as planned. Leverage can also be achieved by trading on margin- borrowing money using the securities you already own to increase the amount you have to invest and increase your profits, assuming things go according to plan.

INVESTING IN RISKY SECURITIES

Hedge funds generally have a major appetite for risk this is sometimes shown by the type of investments that they take on. These are mostly investments with a low credit rating and thus have a high likelihood for default. These include Junk bonds,stocks of distresses companies, companies in the verge of bankruptcy, protracted litigation or some other issue that has put the company in problems that threaten its future. These problems cause their stock prices to be underpriced and thus the hedge funds hope to benefit in buying this securities at the current depressed rates and selling after the company overcomes the problem and the stock prices run up again. If the research is well done this risk pays off and a major payday for the investors and managers but once in a while as with all risky investments, things do blow up and the hedge funds ends suffering major losses.

STOCK OPTIONS;CALL AND PUT

With stock options, the hedge fund reduce exposing all their money to the whims of the market in that  they use a smaller amount of cash to buy the right to buy or sell the security instead of buying/selling that security. This makes the profits higher when there is a bull market and losses limited to the relatively small amount they invested in the market. Since I already did a post on stock options(here is the post) and there uses and misuses(here is that post), there is no need to redo them. You can just read through

LONG/SHORT EQUITY

In not so many words, buying undervalued shares in the hope that their prices will raise with time and selling (shorting) overvalued shares in the hope that their prices will fall- I have explained shorting stocks above. While there is a probability that things will go as planned, the markets may go in the opposite direction and this will result in double losses.

ARBITRAGES

The types of arbitrages; merger arbitrages, market neutral arbitrages convertible arbitrages and fixed income arbitrages, telecom arbitrage, municipal bond arbitrage, regulatory arbitrage etc

While I am not going into the details of how each works I will describe how arbitrages as a whole work.

Basically it is the simultaneous buying and selling of a security in the hope of profiting in this transaction ie the selling price being higher than the buying price. It is used by all types of investors and also in the non financial circles.

MARKET TIMING

This is a combination of some of the above strategies. In essence the hedge fund buys a large quantity of a security and sometime heavily leveraged at the beginning of a bull market and rides the increase in stock prices, selling when they have reason to believe that the stock prices cannot increase any more. When their research signals a bull market, they short stock and this profit as everybody else is losing money. Something they can even short index funds.

FUTURES/FUTURES CONTRACTS

This is a contract that requires a financial instrument like a commodity stock bond, currency to be delivered to a buyer at a predetermined time and price and unlike stock options, the buyer MUST buy them. The seller hopes to profit in the difference between the price he bought them at and the selling price.

Just like stock options, if these futures are not exercised before the expiry date, they become null and void, totally useless and so it is hard to find investors with them after their expiry

There are so many strategies that the 9000 plus hedge funds use that I cannot even dream about exhausting them all. But basically what they do is take on more risk that a conservative investor would not even dare take on and after A LOT of research by major brains benefit from the risk and resources available to them. This happens sometimes.

Because of the risk involved, there are very high requirements before anyone can invest with them including large initial capital of $100,000 upwards to millions of dollars depending on the fund and making sure that the participants are all accredited investors etc.

I haven’t invested in any yet but when I do, I will concentrate on those that invest from a fundamental investors’ perspective.

THE SIMPLICITY OF INDEX FUND INVESTING

Posted on | January 4, 2010 | 7 Comments

I wrote about index funds some time back and since then I have come across more information about then so I thought that instead of re-editing the former one. I should just make another index fund post.

Basically the index fund is a passive investment where the money that you as an investor puts in is invested in such a way that all or most of the stocks in a major stock exchange like the NYSE or S&P500 or other globally acclaimed stock exchanges are included. These major stock exchanges make indices including the biggest and most successful companies listed in that stock exchange and use it to mirror the performance of the whole market. This is because if the biggest companies are doing well then there is a high likelihood that the whole market is doing well too. So an index fund will invest in these companies with predetermined proportions that best reflect the stock market as a whole.

Some index funds invest in certain industries like finances biotech, food etc. This means that the only thing that the investor has to choose is the best index fund in the preferred industry and the time period that he wants to invest and for the most part forget about it. Since an investor seeks to invest in something that will not be so controlled by humans he finds assurance in the index funds because everything is computerized and there is virtually no human interference.

Index funds have a myriad of advantages that attract the conservative and aggressive investors alike. They are:

*the fact that index funds are passively managed means lower costs and thus higher returns than actively managed mutual funds. It has been shown that the returns in mutual funds is always the return on the total market minus the costs of investing like management, trading costs etc and this is  one of the major downsides of mutual funds. With the index fund, the costs are lower so over a long time the returns are mostly higher than actively managed investments.

*I have stated that index funds are invested in all the companies making up an index. This means that if there is a company is doing better than all the others in the market, chances are that you already have a (very small) stake in it and thus some returns. This beats active stock picking because the active investor might miss these companies and thus the gains involved.

*Also index fund investing is really easy since you don’t have to worry too much about asset allocation and what stocks are doing better than the others. The peace of mind brought by this investment makes even the professional investors like Warren Buffett, Benjamin Graham endorse them. It has been shown that outperform more than 60% of actively managed funds (which are seeking to beat the market). In the grand scheme of things it really does not matter whether or not you beat the market but that you reached the financial goals that you set out when you started investing. I assume that you see how a passive investor benefits from these index funds… huh?

*Index funds have a lower turnover than other actively managed funds and this means there are lower overall costs. Turnover means the selling of securities and replacing them with new ones by the fund manager. This selling and buying increases investment costs and thus lowers returns the lower turnover with index funds means lower costs.

*Another advantage brought out from the above is that because of the low turnover the passive index fund investor pays out fewer taxes than the actively invested high turnover fund and thus is an up for the return seeking investors we are.

The rambling thoughts blog has a very interesting perspective on the benefits of investing in index funds.

There are disadvantages involved in index fund investing and the one that comes to mind first is that they are very boring. If an investor is attracted to the thrill of active stock picking and the possibility of beating the market and all the other investors, he finds this investment a bore. For someone like this investment gurus suggest that you allocate some of your funds to index funds while leaving a percentage dedicated to active investments-the asset allocation formula that you use can change with your propensity for risk

Fund managers are against index funds based on the argument that people that invest in this fund are giving up before they start because of the fact that an investor has absolutely no way of beating the market. They also argue that an investor cannot take advantage of market booms like the infamous tech bubble. While they do have a point that in the short run, actively managed funds may outperform the index funds, in the long run the index funds have always come out on top. So it depends on how you look at it: for short term investors, active management may mean better returns but for the real(long term) investor, the index funds are a major attraction

Something else about index funds is that there is always a tracking error between the trend of the index fund and the market trend. Sometimes when they are trying to correct this error mistakes can arise that may mean loss of returns for the investor-but these are few are far between.

That’s more on index funds. The next time I do an index fund post, it will be how hedge fund managers short them.(something that I never knew was possible until recently)

THE DIFFERENCE BETWEEN TAX AVOIDANCE AND TAX EVASION

Posted on | December 15, 2009 | 9 Comments

We have all heard of those stories about high fliers, CEOs and movie stars facing a very long time in prison because of failing to pay their taxes. Most of the time, it is normally tax evasion but there is a legal way of paying less taxes and it is called tax avoidance. This post serves to enlighten my readers on the difference between the two.

What is tax evasion??

Basically tax evasion is where a person unlawfully reduces the amount of taxes that they are to pay up by either understating his taxable income (the percentage of a person’s income that is to be taxed), manipulation of tax law, adding tax deductions (exemptions for the tax payer to pay less tax) that do not apply to him or just refusing to pay the taxes, transaction using cash so that no paper trail is left for the taxman to follow, stating your assets in another person’s name, having debts and receipts like stock dividends paid through other people’s names, keeping double records for a business: one doctored for the taxman and another accurate one for business continuity, demanding tax refunds that you are not liable for, businesses understating their sales, using illegal tax shelters etc. All this and others that people use to pay less taxes

This is criminal and those that are unlucky to be caught or don’t have the government in their pockets get prosecuted and imprisoned or fined.

It can be argued that once in a while a person may be unable to pay taxes and this can be dealt with leniency but the problem comes when it is done over and over again by people who definitely know what they are doing and there is a motive behind it like CEOs reducing expenses so that their companies can report higher returns at the end of the financial year, or when highly paid lawyers are used to manipulate the law for the corporations

I assume this is enough about the illegal tax evasion and now for tax avoidance

post continues below

LIFE CAN BE OVERWHELMING; HERE IS SOME HELP

continuation of post

What is tax avoidance??

In contrast, tax avoidance is the legal minimization of the taxes due to a person using established financial tools and laws and whatever else that it lawful. Some of the instruments that a person can use is municipal bonds because interest on these is not considered taxable income, using tax shelters, trusts, using all the tax deductibles lawfully due to the individual, using tax planning opportunities like estate planning, salary reduction plans, shifting assets to family members that do not need to pay taxes on the income(this is a permanent shift compared to the illegal temporary shift in tax evasion) and a myriad of other things some of which are covered in this article, changing your country of residence to a tax haven like the famous Monaco etc

Wikipedia has a little more to add on both tax evasion and tax avoidance.

I had briefly mentioned tax avoidance in the tax credit post so you might want to re-read it for better understanding.

Tax avoidance is also referred to as tax mitigation or tax minimization or tax planning so let this not confound you.

Tax law being what it is(it is super duper complex in this part of Africa), it is important that you talk to a tax lawyer or a tax advisor so that you get to know all the tax deductibles due to you instead of breaking the law to get something that you could have got legally.

If this has not been understood or there is something that you would like to add, the comment box is all yours

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