Much of my investment strategies are derived from fundamental investing and value investing. I adopt strategies similar to Warren Buffett not simply because he is a well known investor but because they make the most sense to me.
That is the key to successful stock investing. Do not listen to anyone just because you think he is more experienced in stock investing then you are. Rather, seek to think and analyze and read more on your own before deciding which strategy best suits you. Once you have developed your own investment philosophy, stick to it and trust only yourself.
My Investment Philosophy
1. Do not lose money.
As many people already know, Warren Buffett famously put forth his two rules in stock investing in a humorous way in which Rule number 1 is “Never Lose money” while rule number 2 is ” Do not forget rule number 1″.
Capital preservation is important because a stock that has lost half its value will need to double in value before you get back to where you started. That is why you must be extremely cautious in your choice of stocks and that brings us to rule number 2.
2. Having a Margin of Safety
The margin of safety, simply put is a buffer that you put in place between what you perceive to be the value of the stock and its price. If you value a stock to be worth 1 dollar and you only buy it if its price is 50cents, then your margin of safety is 50 percent.
Deciding how much margin of safety you should give to a stock varies for companies in different industries and is another topic in itself.
In summary, a margin of safety is necessary to protect your capital in case you were wrong in your initial assessment of a stock pick. That way, even if you were wrong, you would have purchased the stock at a much lower price then if you had not catered for a margin of safety.
3. Invest for the Long Term
There is no way to time the market, but many people seem to think other wise. They buy when the stock dips slightly and hopes that in the near future they can sell it for a profit. These people usually adopt a “hit and run” strategy where they are contented with making a few 100 dollars every time they make a trade. They also have a cut loss strategy where they will exit the market if the price drops beyond a certain amount within days of purchasing the stock.
The truth about the stocks market is that real money is made in a few days. If you are frequently entering and exiting the market, chances are that during the few days of a real rally in price, you won’t be in the market, thus missing out on earnings.
Investing for the long term also saves you on commissions paid to the broker, capital gain taxes and puts the power of compounding into play. The difference between trading in the market and buying for the long term is significant and should not be ignored.
4. Knowing when to sell and when not to sell
Even though I advocate investing for the long term, that doesn’t mean holding on to my investments forever. When I value a stock, I already have in mind how much the stock is worth and therefore already have an exit price in mind. The purpose of value investing is to purchase this stock at a significant discount from its value.
However, there could be times when the market is euphoric and the price of the stock surges way beyond what I have valued it at. At this point of time, I will reassess the company to see if I have left out any key news or factors which could be responsible for the increase in price. If my asessment of the company remains the same, I will sell the stock because there is no reason why I should not take advantage of the insanity of the market.
It is important not to be greedy at this point of time and keep increasing the exit price you have set. Have an exit price and stick to it.
The reverse is true also. Most people panic and sell when the price drops and that doesn’t make sense. When the price of a stock drops, check the fundamentals again. If nothing has changed, then your assessment of its value should be the same and this means that the stock is at an even greater discount then what you have previously bought at. In this case, you should take the opportunity to buy in more of this stock.
5. Keeping Cash with you when there are no good stocks to buy
There are many reasons for keeping cash with you when there are no good stocks to buy. Many people find it difficult to do that. The moment they have some cash in hand they want to buy some stocks because if they don’t, they feel that they are not in the market and thus not “investing”.
Also, keeping cash with you allows you to capitalize on sudden dips in the stock prices due to some market fluctuations which are not resulted from a change in the companies fundamentals. In these cases, you should average down and purchase more of that stock. The worst thing that can happen to you is not having cash to average down on a purchase which has now presented a greater discount then before, due to your need to always keep all your money in the market to “feel that you are investing”.
Investing is not just about the buying of stocks. The homework and preparation behind identifying which stock to buy is the true key factor for successful stock picking. Many people spend a lot of their time checking the prices of the stocks they have purchased several times a day. That time is better spent researching the company and its business. Ultimately, checking the price of a stock several times a day will have no influence on the price and the companies fundamentals. But I am sure many people are guilty of this, as I so clearly see in my workplace, where everybody has a small window opened up to check the stock prices every now and then.