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    The world of finance is already confusing. To top it all off, we are all uniquely different– we are all at different stages in our life and have different goals. The answer to the question “how to invest for beginners” isn’t always straightforward. Everyone’s needs vary.

    First, let’s define what kind of an investor you are. There are 3 main archetypes that I’ve observed and defined. Once you know where you fall, you can determine your next step.

    Click this link to LEARN YOUR ARCHETYPE right away. From there, I’ve provided a few select resources to get you going in the right direction.

    If you just want to gather more information right now, I’ve created a couple of guides for beginners to both the stock market and just investing in general. There’s also a wide range of blog posts I’ve written, which are organized in the “categories” box below.

    The fact that you’re here on this site is already a great first step. You have a desire to figure out the world of investing and have shown the ability to seek out knowledge. I truly believe that ANYONE can pursue their path to financial freedom and find success. I’ve seen it with my readers (1m+ views) and with the listeners to our podcast (750k+ downloads). You can do it too.

IFB70:The 3 Major Types of Investment Risk and How to Combat Them

types of investment risk

 

Welcome to Investing for Beginners podcast this is episode 70. Tonight Andrew and I are going to discuss risk, we’re going to talk about all the different types of risks there are with investing and we have a very interesting show coming up for you.

So without any further ado I’m going to turn over to Andrew and he’s going to start us off.

Andrew: yeah so when I think about risk and when many people define risk and whether you talk to investment advisor you talk to maybe an individual investor who is more experienced and kind of understand what the risks are when it comes to investing your money.

Well there’s kind of like three major ones so we’ll discuss each of those and it’s very important to talk about risk and think about risk. If you go back to the very basic definition of an investment which I always love to refer to when I’m talking about dividends.

But if you say investment 101 what is that it’s essentially money that you put it you put money at risk and in order to be compensated for that risk you have a reward you have gains you have an income stream and that’s essentially what an investment is.

And that’s no matter how what kind of investment you’re making that’s going to be how it works even if you do something like as simple as lending money to somebody and charging them an interest rate there’s going to be risk there. There’s risks that you lose all your money because some of the skips town and then they don’t pay you those payments right.

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Mastering the Valuation of Shares in Stocks by Combining Ratios

Trying to determine a reasonable valuation of shares for a stock you are considering can be equated, in some ways, with the way and strategies many people use when they go hunting.

I had my first hunting experience back in early 2017 with a friend who was a seasoned hunting enthusiast. I found that the basic approach was fascinating and also very intuitive. From what I understand, there are two busy hunting seasons in the place where I hunted in North Carolina– deer and turkey.

valuation of shares

For both occasions you tend to use a shotgun. But, the type of round you use is dependent on what you are hunting. For turkeys you use a round that functions more traditionally like a shotgun. One that sprays wide. For deer, the round tends to be more compacted.

Here’s the logic behind it, and it makes sense for building an idea of the valuation of shares for a publicly traded company.

Turkey are small so you don’t need a big bullet. You just need to hit one with a piece of a bullet. The spray gives you a better chance. With a deer, you need a much more powerful bullet. A little bullet fragment won’t do it, so you need as much firepower to take it down. Of course, you’re consequently more likely to miss.

When I pick stocks… and especially when it comes to price valuations… I prefer a more spray type round.

Let me explain.

Finding the valuation of shares for a stock is a way to calculate whether a stock is cheaper or more expensive than it is really worth.

For example, if you’ve calculated the share valuation of a company to be $20 billion and the market cap of that stock is $10 billion right now, you’re gonna want to buy.

The pitfall I see in any price valuation is taking a more sniper, or concentrated, approach– by only honing in on one or two ratios to calculate valuation. This becomes a problem because the market tends to regulate certain valuations over time.

For example, sometimes you’ll have a couple of years where buying low P/E stocks would have out-performed any other strategy. Other years this could be low P/B stocks, or high cash flow stocks. But, if you buy based on a wide set of price valuations, specifically by using all 3 financial statements, you’re increasing your chance that the stock is truly a low valuation as a whole. [continue reading…]

IFB69:Listener Q&A: ESPP and Ally Brokerage

ESPP

Welcome to investing for beginners podcast this is episode 69, tonight Andrew and I are going to take a few minutes we’re going to answer some listener questions. We got some great questions over the last couple weeks, and we wanted to take a few moments to read through those and answer those on the air, so without any further ado I’m going to turn it over to my friend Andrew, and he’s going to go ahead and start us off.

Andrew: yep cool so let’s get going got an email it says.

Hi, Andrew and Dave thank you so much for your podcast which is very helpful to me as a beginner I also enjoyed Andrews free ebook I feel like both of you guys have a lot of useful insight for people trying to get into the market as beginners.

My question is a bit specific and then is about employees stock purchase plans ESPP particularly the one that my employer. I’m not going to say which employer he has. But let’s see he says the cool thing about the ESPP is that in addition to being a no-cost except for on sales which I wouldn’t plan on regularly doing Drip plan I get a 15% discount on the market price of the stock at the time of the buy for every buy.

Also get the discount when shares are purchased with automatically reinvested dividends then when I stop then when I sell the stock I get the full market price at the time of the sell for taxes. The capital gain would be the same would be the sale price plus the disc – the discounted price not the market rate at the time of the buy. [continue reading…]

IFB68:A Simple Balance Sheet Primer for Beginners

simple balance sheet

 

Welcome to Investing for Beginners podcast, this is episode 68. Tonight Andrew and I are going to talk about the balance sheet and give a kind of a brief overview of that. We’re also going to talk a little bit about some ratios that you can derive from the balance sheet.

This will be a great primer that you can use to look at 10ks, 10-qs and also kind of combine it with the cash flow statement analysis that we did a while back. Without any further ado I’m going to turn it over to Andrew and he’s going to start us off.

Andrew: so that cash flow statement episode you’re talking about that’s episode 17. We went super in-depth into that one but it was a good overview on the different financial statements and some of the key things you can kind of pullout from that. Last week we talked about basically earnings and what companies do when they get earnings.

We talked about how they can reinvest in the business they can hold the cash they can pay out dividends or they can do they can do share buybacks. The other thing they could do which I forgot to mention is they can use that cash and use those earnings to pay down debt.

[continue reading…]

Examining the Net Profit Ratio of Different Industries and its Stages

There’s a lot of widely held beliefs about net profit ratio and how it can vary based on industry, whether the industry is mature or in its growth stage, and how certain business models function. This leads to lots of justifications and poorly made assumptions.

This blog post will outline, with data, why much of it is overblown, and what the REAL implications of margins and profit ratios are.

net profit ratio

Before we start, I want to warn you that this is a very advanced topic requiring a decent mastery of the financial statements of a stock. If you are still a beginner to investing, I highly recommend going through the guides first and then coming back.

To truly understand the net profit ratio, we must define it first.

Then we’ll look at live data spanning almost 100 industries to examine the net profit ratio and how it relates to particular industries.

Finally, we’ll make some key conclusions on what the data is truly telling us and how we can use it to make smart investing decisions on individual stocks.

Defining the Net Profit Ratio/ Net Profit Margins

The net profit ratio is actually a very simple calculation. You simply take the following 2 figures from the income statement of a company’s 10-k annual report:

Net Profit Ratio = Net Income / Sales

It’s often expressed as a percentage, so to do that, simply multiply the calculation above by 100.

The net profit ratio is a profitability ratio designed to tell you how efficient a company is at taking its revenues and converting them to profits (or earnings).

As you’ll soon discover as you wade into the world of fundamental analysis of stocks, one of the difficult things about accounting and stock market financial metrics is that there can be multiple terms that define the same thing.

So for example, profits can also be described as Net Income, Earnings, Net Earnings, Net Profit, or even “the Bottom Line”. As it relates to this blog post, the net profit ratio can also be described as Net Profit Margin, Profit Margin, or Net Margin… depending on who you’re talking to it can be described in several ways.

Alright, back to the definition of net profit ratio. It is a measure of efficiency. In other words, how much do expenses eat up potential profits. [continue reading…]

The Best Position Size Strategy for the Long Term Investor

Position sizing is something that’s discussed more in the trading world, but it’s just as important for the long term investor. Investors like to talk about diversification, and how holding 15- 20 stocks seems to be optimal for outperformance. However, an investor using a dollar cost averaging strategy may run into issues if they don’t know how to combine this with a prudent position size strategy.

In this blog post I’ll describe some of the issues that can arise when you combine dollar cost averaging with a position size strategy that both keeps you in stocks that are undervalued and allow you to capitalize on better opportunities– which aren’t always available depending on how a stock price (or prices) has moved.

First, let’s define position sizes as it relates to diversification.

The way you define position sizing is usually in percentages. A portfolio starts at 100%. From there, you want to allocate your capital to various investments.

position size

Like the adage “don’t put all of your eggs in one basket”, you want to allocate your capital in a way where you don’t have “unsystematic risk”. Unsystematic risk is the risk of a stock you are holding crashing to a level where you lose a lot of money.

The fact is, you can’t prevent any one stock from losing a lot. It’s part of investing in the market. What you can do is prevent any one big loser from hurting your overall portfolio performance in a major way. The way to do this is through diversification, but proper diversification requires a good position size approach.

How to Calculate Position Size

Going back to allocating individual investments, say that you have $1,000. If you buy $AAPL with $500 and $GOOGL with your other $500, you now have 50% of your portfolio in $AAPL and 50% in $GOOGL. Those are your position sizes. If you put $250 into 4 stocks, you have a 25% position size in each of the 4 stocks. The specific way to calculate position sizing is:

Position size = $$ invested / $$ of Total Portfolio

So again if you have $250 in $AAPL with a $1,000 portfolio, your position size for $AAPL is $250 / $1,000 = 25%.

Now, as a long term investor, you want to shoot for a position size of around 5-10% for each of your stocks. The reason why these numbers tend to be the preferred range is because historically, 15- 20 stocks have been proven to be one of the most optimal ways to diversify a long term, buy and hold portfolio. If you use the math above to calculate 15- 20 stocks over a full portfolio, you get about 5- 6.7%.  [continue reading…]

IFB67:Are These Record Share Buybacks Good or Bad?

share buybacks

Welcome to Investing for Beginners podcast this is episode 67. tonight Andrew and I are going to talk about share buybacks, this has been a hot topic on Wall Street lately and Andrew and I wanted to do a little deep dive into share buybacks and talk a little 101 about how they work what they are and how they can benefit the company and you.

Without any further ado I’m going to turn over to my friend Andrew and he’s going to start us off.

Andrew: yeah love it. I feel like it was meant to be right well media talking all about buybacks obviously a big impact from the tax cuts that Trump did. So it’s very timely and it’s also good segue from last week’s topic. so if you remember last week we talked about owners earnings and how that can be a better way to kind of calculate how a company is using not only what’s the company earning from the core business whether its profits.

But also how is it allocating those profits once it has once the company has that earnings so owners earnings is a way to do that and one way that companies allocate cash once they receive those profits is through share buybacks and so that’s what we’re going to cover today.

You’ll hear called several different things share repurchases stock buybacks share buybacks it’s all referring to the same thing. So if we really get down to like the base route of what share buybacks is it’s simply the company taking cash and buying back shares.

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How Just 1% Outperformance in the Stock Market Can Mean $100,000s

For investors looking to put money to work for them, there’s few places better to make a return than the stock market. When combined with compound interest, an average return can build significant wealth, while outperformance can mean even great amounts– even for investors who start with small amounts.

This blog post will look at the impact that outperformance in the stock market can make, even something as small as 1% more per year.

While this might not be obvious to beginners who are just starting in their investing journey, the truth is that an extra 1% return can add up to hundreds of thousands of dollars in the long term.

outperformance

When you take into account that investing should be a lifetime habit, it’s very reasonable for investors to examine their performance over a matter of decades rather than over a single 1 year period. A 1% outperformance probably won’t move the needle much over 1 year, but it can have significant implications over 20, or 30, or 40+ years.

To understand how different returns can build great wealth, it’s important to understand compound interest. Famously known as the “8th wonder of the world”, compound interest creates an exponential effect to the capital you invest, multiplying over time and accelerating its progress the longer you do it.

The way that compound interest is created in the stock market is through two separate forces: the ability of companies to reinvest their earnings into the business to spurn additional growth, and the ability of shareholders to reinvest their dividends into stocks they already own to grow their own holdings.

When you combine these two forces of compound interest together, you essentially double the compounding rate– almost in the same way you’d take a pile of dollars and square it (multiply it on itself).

Examples of Compound Interest

For example, say a business is able to earn $225 a year on $1,500 of assets. If the business takes its $225 of profits in year 1 and buys more assets with it, the business will have $1,725 of assets in year two. Now instead of earning $225 on $1,500 it can potentially earn $258 on $1,725. This grows the earnings stream, which can then allow the business to buy more and more assets and grow profits exponentially.

Expanding this example out, by year 3 the business could have $1,983 in assets and be earning $297 on those assets. As you can see, the amount of earnings growth increases– because more earnings creates more earnings and it increases faster and faster as time goes on. It’s akin to a snowball rolling down a hill– which piles on more and more snow the longer it rolls. [continue reading…]

What is a Good P/E Ratio?

The Price to Earnings, or P/E ratio, is one of the most basic ways to try and figure out if a stock is generally cheap.

The logic behind the P/E ratio is quite simple. The equation for the P/E ratio is simply Price / Earnings. A low P/E is generally considered better than a high P/E. A low P/E can happen one of two ways: either a low price, high earnings, or both.

Because the main goal of a business is to turn a profit (earnings is just another word for profits), Wall Street likes when a company has good earnings. Investors should also like lots of earnings, and earnings growth.

what is a good p/e ratio

The problem is that Wall Street can overvalue earnings to the point where a price of a stock will go so high that future gains would require continued exceptional earnings performance from the company. It’s safe to say that businesses can’t maintain top tiers of performance forever, we haven’t seen one so far.

That’s where the P/E ratio comes into play. A good P/E ratio combined with great growth numbers indicates a stock that hasn’t run up irrationally in price– yet.

As investors starting out in individual stocks, the Price to Earnings ratio can be a fantastic starting point. What’s not immediately clear is what makes a good P/E ratio. While there are general rules of thumb, the ratio itself does require some context. You absolutely do NOT want to buy a stock simply because of one ratio. But it is very helpful to understand when you see a good P/E ratio vs. when you don’t.

That’s what this blog post will attempt to achieve. A definition to the common question: what is a good P/E ratio. But first, a quick overview of intrinsic value— which is what the P/E ratio is ultimately trying to determine (and its relation to current market price). [continue reading…]

IFB66: Should You Research Owners Earnings or Options?

owners earnings

Welcome to Investing for Beginners podcast, this is episode 66. Today we’re going to talk about several different topics, we’re going to talk a little bit about owners earnings. Which is one of Warren Buffett’s favorite formulas, if you will, or thoughts and ideas on how he looks at a business. And we’re also going to talk a little bit about options and before we start talking about those I’d like to tell you about a book I just read recently.

Just a quick note, there are several affiliate links sprinkled throughout the transcript.

It’s called F Wall Street and it was a fantastic book it was very easy to read and it is not full of jargon if you will. There’s not lots of technical terms in there.

He’s very good at explaining and breaking down different ideas like owners earnings. For example, he also talks a little bit about intrinsic value. He also talks about certain types of cash flows.

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