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The Little Book that Beats the Stock Market

The Little Book that Beats the Stock Market. Chapter 1. Bubblegum sales business: Earns $500 for next 6 years What would you pay ? Write down a number. Concept: Time Value of Money or Net Present Value. What are the Risks to Buying this Business ?.

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The Little Book that Beats the Stock Market

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  1. The Little Book that Beats the Stock Market

  2. Chapter 1

  3. Bubblegum sales business:Earns $500 for next 6 yearsWhat would you pay ? Write down a number. Concept: Time Value of Money or Net Present Value

  4. What are the Risks to Buying this Business ? A) Competition B) Not as good at SellingC) New Technology- Kids prefer something else

  5. What are Opportunities to Buying this business A) Can you sell more ?B) Can you cut costs ? Sam’sC) Expand Market ?D) New Products ? Buying Stock is like Buying a Business !

  6. Chapter 2

  7. Options to Invest $1,000 ? A) Mattress – Pros / Cons ? B) Savings Account Bank-Pros/Cons? C) Corporate Bond –What is a corporate Bond ? Pros/Cons ? D) US Treasury Bond- What is a US Bond Pros/Cons ? And of course Equities/Stock !

  8. US Treasury Bond Called “Risk Free” or “No Risk” – Why ? Almost 100% Guaranteed Every Investment Option you chose should exceed this Question: If Teddy starts “Gilman Investment Co” and guarantees a return, what should the return at minimum be ?

  9. Chapter 3

  10. Jason’s Gum Business Has Grown ! Decides to Do an IPO (Initial Public Offering), What is the value ? What would you pay ?

  11. Corporations / Stock 2012 $685B +90% • Why form a corporation ? • IPO: • Initial Public Offering • Need to be something in Demand-What • do you think will be in 2013 ? • c)Need Underwriter • d) Go on road show-Generate Buzz • e) Extremely Stressful • f) Can make a lot of money- • GM: $23.1B, Facebook $104B

  12. IPO – Initial Public Offering-Facebook In 2006 Offered $750,000 from Viacomm ? In 2007 Microsoft buys 1.6% for $240 Million beating Google (Valuation $15B) May 18th, 2012 goes public at $38/share worth $104 Billion Today what is stock price ? 40 Lawsuits after the IPO, Botched IPO

  13. 2013/14 IPO’s Twitter Dropbox Priced at $20 11/4/2011 Closed at $26 first day Gone down to $5.73

  14. PROS •To see business ideas develop. •To contribute to those ideas and chart a course of action. •Collaboration with creative, enthusiastic professionals. •Changing demands and a flexible, changing schedule. •Greater autonomy and authority. •A quick education in how a business works. •The potential for large financial rewards. Would you want to work for a start-up ?What are Pro’s / Con’s to you ? – Stopped 2/25/13 Cons •Lower Salary / Benefits •No Job Description/Unsure how to get things done •Limited Resources •Can be Long Hours •Risk of Losing Job Quickly

  15. 2013/14 IPO’s-Forbes Magazine Twitter Dropbox http://www.forbes.com/pictures/eihm45mdmf/spotify-2/ Priced at $20 11/4/2011 Closed at $26 first day Gone down to $5.73

  16. Jason’s Gum Business Has Grown ! Sell 1,000,000 Shares at $12/share. What is Earnings per Share ? What is Rate of Return on Buying 1 share ? Called ?Earnings Yield. 1.20 1.2/12 = 10%

  17. Jason’s Gum Business Has Grown ! Is 10% Acceptable ? Why What would you like to know to make this decision ?

  18. Chapter 4

  19. Look At Apple Article: 52 Week High: 52 Weeks Low: EPS Changed much ? What is apple worth ? What is Margin of Safety ? What would you like to know to make this decision ?

  20. Chapter 5

  21. Recall Jason’s Gum Selling Business Sell 1,000,000 Shares at $12/share. What is Earnings per Share ? What is Earnings Yield on Buying 1 share ? 1.20 1.2/12 = 10%

  22. Suppose Net Income Rises to: Sell 1,000,000 Shares at $12/share. What is Earnings per Share ? What is Earnings Yield on Buying 1 share ? 2.40 2.4/12 = 20%

  23. Suppose Net Income Rises to: So is 2.40 better than 1.2 ? 20% better than 10% ? Does this mean it’s a good company that you should buy ? Why or Why not ?

  24. 1994 Bought by Viacomm for $8.4Billion? 2008 Tries to buy Circuit City Look at Blockbuster: 1/10/10: Got two quarters? Congrats, you can now buy one share of Blockbuster Inc. (NYSE:BBI), today they finished trading at 50 Cents. Blockbuster's stock fell 31% today, times have changed for the company that still holds the crown as the largest U.S. movie-rental business. Volume and selling was screaming on Blockbuster shares today 28.5 million BBI shares have traded hands, that's more than 14X the daily average. As shares were falling its, Earnings Yield was doing what ? Was it a good buy ?

  25. Suppose Net Income Rises to: Why do you think Sales grew ? Two Scenarios: a) What if you know that each store Jason opens costs $400,000 and would earn $200,000 per store. Is that good ? What return ? b) If you could invest in another company of comparable risk that costs $400,000 and would earn $100,000 per store, should you ? Called Return on capital Return / Investment. a) 50%, b) 25%

  26. 1) Buy Good Companies (High Return on Capital) 2) Buy at Bargain Prices (High Earnings Yield) 2 Main Concepts:

  27. Chapter 6

  28. Take 3,500 largest companies Rank 1-3500 on Return on Capital Rank 1-3500 on Earnings Yield Add up Rankings for each company, divide by 2 Steps To Take: Could a company with a top return on capital be ranked lower overall than the 1,500 ranked Company ? 17 Year Period Studied: Magic Formula=30.8%, Market Avg: 12.3%, S&P 12.4%

  29. Chapter 7

  30. Class Agenda / Hope to Accomplish • Quiz 9-10 • Max Presentation • Alex Presentation • Little Book Review • Stock Market Game

  31. 1) Buy Good Companies (High Return on Capital) 2) Buy at Bargain Prices (High Earnings Yield) 2 Main Concepts:

  32. https://personal.vanguard.com/us/funds/vanguard/all?sort=type&sortorder=aschttps://personal.vanguard.com/us/funds/vanguard/all?sort=type&sortorder=asc “The performance data shown represent past performance, which is not a guarantee of future results. Investment returns and principal value will fluctuate, so that investors' shares, when sold, may be worth more or less than their original cost. Current performance may be lower or higher than the performance data cited.” Magic Formula works for large companies with established Earnings history. Not recommended for Small/Penny Stocks

  33. Small (In US defined as under $5/share) Tend to be Thinly Traded Highly Volatile Can be manipulated easily. Be careful ! What is a Penny Stocks ?

  34. Chapter 8

  35. Faired poorly in 5 out of every 12 months Failed to beat market one out of four years One out of ever six periods did poorly 2 years in a row ? What are your thoughts on these statements ? Issues w/ Magic Formula:

  36. BILL MILLER • Questions: • What happened to Bill Miller in 2007-2009 ? • Why did he lose ? What investments did not work ? • Is he a good manager ?

  37. Lessons • Unfortunately Everyone Loses – Miller, • Buffett, Graham 2) Avoid putting your eggs/investments in One or very few baskets – Financial Sector-Miller 3) We’ll be reading about Mr. Miller again in “The Big Short”

  38. ACTIVE VS. PASSIVE • What is an Active Investment Strategy ? 2) What is a Passive Investment Strategy ? 3) 60% - 80% of the time a Passive Strategy Beats an Active Manager ? Should you invest Active?

  39. Why Active ? • Manager over time consistently beats index • As investor believe in certain sector (no index) • Want to try and beat average-Not content with average. • Strategy of manager may fit with overall portfolio Read Article for Discussion, then Review Morningstar and answer these questions.

  40. 1) Growth or Value / Large Cap or Small Cap ? ACTIVE VS. PASSIVE 2) How has Fund done last three Years ? What type of market (Bull or Bear) did this fund perform best? 3) Has Fund Done well relative to Benchmarks ? 4) Tell me three other things that matter?

  41. Invested with the Smartest Money Manager he knows Hundreds of Top Investors Had tough 3-4 years Only 4 original clients stayed with him Came back, Top Performing Fund since Inception Why did people leave ? Why did people leave Mr. Miller ? Mr. Greenblatt:

  42. What are you going to be ? Speculator: Try to anticipate and profit from market fluctuations. Sell when things are going down, buy when things are going up ? It can be a drug, feeling great when going up, killing you when coming down. Investor: Try to acquire and hold suitable securities at suitable prices. Market movements present great opportunities to buy or sell. Kahneman/Tversky – Pain of a loss is 2 times as great as pleasure of a gain. Losing is so painful, leads to panic and near bottom and not buying more, even when price is great !

  43. March 10th, 2000 Nasdaq hits all time high, Cisco highest market Capitalization. Ralph Acampora says Norfolk Southern or Cisco: Where do you want to be? Over next year: Cisco lost 70%, Norfolk gained 35% Graham: The primary cause of failure is that individual investors pay too much attention to what the stock market is doing

  44. People hate to Lose Investment Horizons tend to be short Those that look at stocks more often do worse The magic formula works because it takes emotion out of it Everyone gets caught up chasing a winner. Very dangerous in Bull Markets Mr. Greenblatt: • All Bull Markets must end and usually badly: • Black Tuesday: 10/29/1929- 13% in 1 day, down 89% next three years • Black Monday: 10/19/1987-23% in 1 day, 2 years to recover • Black Week: Starting 10/6/2008 – 20% down, DJIA High was 14,164 10/9/2007, currently XXXXX down XX%

  45. Tough not to get caught up: Everyone talks about their winners ! Not losers ! Winners draw attention, prices go up, becomes speculative Leads to constant checking, panic Paul Andreassan (Harvard/Columbia psychologist) – Investors who received frequent updates on portfolio earned half the returns of those who did no check at all !

  46. You mess with the Bull, You get the Horns !

  47. Chapter 9

  48. Suppose Net Income Rises to: Revisit Jason’s Stores What if you know that each store Jason opens costs $400,000 and would earn $200,000 per store. Is that good ? What return on capital ? What could Jason do with this $2.4M ? What would you like him to do ? Do you want Dividends ?

  49. This is a great business: High Return on Capital, High Earnings Yield What is likely to happen (American Capitalism at work) ? Competiton ! Less Gum Sold Lower prices to attract business Someone builds a better gum shop or gum In the end, Lower Profits ! Good Businesses attract competition ! Often from inside employees …why

  50. Bad/Declining Business could be opportunities Why did Dish buy Blockbuster ? Why did Blockbuster want to buy Circuit City ? Year 2000: I am working at P&G – They are buying Sunny Delight ! Why ? What happened ? Do you think Starbucks maintained the premium coffee market ? Petes, Dunkin Donuts, McDonalds Less Gum Sold Lower prices to attract business Someone builds a better gum shop or gum In the end, Lower Profits ! Good Businesses attract competition ! Often from inside employees …why

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