3 Things 11-18-24

Thing One

Investing 101

The following is "from the vault" of the writings of a good friend and very successful investor. From time to time I'll share some distilled nuggets of his wisdom. I hope you find them useful.

"...In comparing investment opportunities, we need to consider the relationship between interest rate levels and stock prices, since stocks and bonds are competing investment choices.

As an example, if the price of a stock is $90, its per-share earnings are $6 and the then-current 30-year treasury bond interest rate is 4.5% (some use the ten-year bond rate and others use the corporate bond yield, but we'll use the 30-year treasury yield), we have enough facts to render a reasonable opinion regarding whether stocks are a good investment choice. Here's how we look at it in simple terms.

If the company's stock price is $90 and the company's earnings per share are $6, the P/E (price to earnings) ratio is 15, which is calculated as follows: 90 divided by 6 = 15. The reciprocal of the P/E ratio is known as the earnings yield: 6 divided by 90 = 6.67%.

When the earnings yield is less than the bond yield (in this example 4.5%), stocks are usually overvalued. When the earnings yield is greater than the interest rate on bonds, stocks are usually undervalued. Since the earnings yield on the stock is now 6.67% and the bond yield is 4.5%, we get substantially more current "earnings" by owning stocks."

Thing Two

Farrell's 10 Rules

Bob Farrell is a Wall Street investing legend who, beginning in the 1950s and lasting for several decades, pioneered the use of technical analysis and psychology (investor sentiment) to better understand how stock prices would behave. Over that time he shared many nuggets of wisdom about what he'd observed. Below are what became known as his 10 Rules:

1. Markets tend to return to the mean over time

2. Excesses in one direction will lead to an opposite excess in the other direction

3. There are no new eras — excesses are never permanent

4. Exponential rapidly rising or falling markets usually go further than you think, but they do not correct by going sideways

5. The public buys the most at the top and the least at the bottom

6. Fear and greed are stronger than long-term resolve

7. Markets are strongest when they are broad and weakest when they narrow to a handful of blue-chip names

8. Bear markets have three stages — sharp down, reflexive rebound, and a drawn-out fundamental downtrend

9. When all the experts and forecasts agree — something else is going to happen

10. Bull markets are more fun than bear markets

When the going gets tough in the stock market, which it undoubtedly will eventually, remember these rules and also remember there are people who can help you work through those tough times in a systematic way when your resolve weakens and you want to cut and run.

Thing Three

Just A Thought

"We do not see things as they are. We see them as we are." - Anaïs Nin