How to get started?

I’d like to thank everyone on this board for their generosity in sharing their ideas and their time. It’s much appreciated! This board has a tremendous signal-to-noise ratio. I’ve spent the last couple of weeks reading the last 1000 or so posts. Every one. Did I mention the great signal-to-noise ratio?

For several months, I’ve been thinking that my portfolio is out of whack, that I’d like to concentrate and better balance my position sizes, and that I’d like to learn how to evaluate whether a stock is a good or bad investment. But I didn’t know how to get started. The idea that someone could sustain 30%+ CAGR is amazing! I’d be thrilled with half that. With even a third of that, I could confidently retire today and replace my gross salary. It’s time to get to work on fixing my portfolio and developing my skills.

I’ve been working for 27 years now. The first 25, my investing consisted of stock in my employer (Apple), and market underperforming mutual funds in my 401k (where I maxed out my contributions for all but the first few years). Two years ago, I discovered Stock Advisor and Rule Breakers. Based on some guidelines in one of the Gardner books (The Million Dollar Portfolio, I think), I evaluated a large chunk of the SA and RB universe and picked a couple of dozen to invest in. In May 2012, I sold most of the 401k mutual funds (have to leave a little in the plan’s funds) and started buying those stocks I had picked. I had some cash left over, which I gradually used to buy many of the newer SA or RB picks. I fairly quickly spent all that cash, so now I take my biweekly contributions to buy new picks (mostly SuperNova Odyssey 1). Funny thing is, my original picks seem to have a higher proportion of consistent winners than my new picks.

I’ve got two taxable accounts. The smaller one (15% of total investments) is mostly mirroring Pro, with some MFO positions; I’ll leave that one alone for now. The larger one (55% of total investments) is almost entirely AAPL, with a few small positions in other stocks. That means that AAPL is nearly 80% of my taxable investments – the stuff I’d be living on in the early years of retirement. That’s too concentrated. I need to reallocate (though not all at once).

My second largest position overall is TSLA, at about 5% of total investments (currently a 7-bagger for me). The majority of positions (over 80) are under 1%, with many under 0.1%. Those smaller ones could become 10-baggers over night, and I’d hardly notice. I need to concentrate my positions more, which means I need to pick which to keep (and add to), and which to sell. I clearly need to sell a lot (most? all?) of AAPL and diversify, but stay concentrated enough that growth makes a difference.

I saw Saul’s recent post suggesting groups of 5 or so stocks to get started with, depending on temperament. Thanks! And I liked Mykie’s suggestion of limiting the number of positions, forcing you to sell one to add a new one. And Huddaman’s observation that it doesn’t matter what happens to the stocks you sell, only to the ones you keep. But I still don’t have a clue how to do my own due diligence and assess whether a stock is a good investment. I’ve mostly been buying into recommendations based on the story (sometimes including dreams of future profitability, like WPRT). How do I get started learning to identify good investments (and identify when my picks weren’t so good and need to be sold)?

I assume I need to learn how to read and understand a financial statement, and filter out which parts are important, and what can be ignored. Can someone suggest a stock that would a good place to start learning? Hopefully something easy to understand and easy to research. It doesn’t need to be one followed on this board; something from a TMF service would have a dedicated board where I could go ask questions. Any other pointers would be greatly appreciated, too.

Thank you!

-Mark

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Mark,

Congratulations on working for Apple for the past 25 years! You must have done very well just by owning so much Apple stock. I have some suggestions for you based on my experience over the past 8 years. I quit my day job 8 years ago (at age 37) and now live off of my portfolio which has and continues to grow faster than I am spending…yes, the value of my portfolio is increasing every year despite drawing down cash for some of my expenses…and as you know, living in the SF Bay Area is not cheap. Here are my suggestions:

  1. Reduce the number of positions that you have. Eighty is way to many. Try to get it down to below 30. It sounds like a lot of companies sound good and you go and buy them without really considering much other than the story. There are many benefits to reducing your number of holdings. We can discuss the benefits but that would be a long post in itself.

  2. Diversify. As you’ve already identified, Apple is waaaaay to big a position. Limiting any one position to 10% of your portfolio is a good rule that Saul follows.

  3. Apple is way too big a position. I sold all of my Apple earlier this year. I don’t believe Apple can grow fast any more. Can it double? Maybe. Can it go up 10x? Almost impossible because Apple is already too big and it already has a large percentage of share in its markets. If Apple is to grow it must do so my going into new markets and those markets have to be huge and they need to capture a large percentage of that/those markets. These things are not easy. In my opinion, you will be better off selling your Apple and reinvesting in in some of Saul’s picks that will have a chance to go up 3x, 5x or even 10x.

  4. Sounds like you might be around 47-50 years old or so. Do you really want to work another 10 years? Build up your taxable accounts ASAP so you will have enough money in those accounts so you can quit your job and not pay any early withdrawal penalties on your 401Ks. At around age 30, I realized that I needed to build up my taxable accounts or else I’d be dependent on retirement accounts for retirement…and there was no way I wanted to have to work until I was 59.5. I stopped contributing to retirement accounts and starting really socking away money in taxable accounts.

  5. Read Saul’s posts and learn how he decides how to invest in a stock. Follow his rules which he posted in some of the very first posts of this board. You will learn more and more as you go and do.

Hope this helps.

Chris

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Mark, Let me respond to some of your questions and comments.

The idea that someone could sustain 30%+ CAGR is amazing!

Yes, it is do-able. I did it from 1989 to 2007. Now, factoring in the big crash of 2008 I’m at 28%+ for those 25 years. To give an idea what that can do for you, I took a different path than Chris and put most of my money in IRA’s. I then retired 18 years ago at 59 and a half, when I could withdraw from my IRA’s. It’s a different picture, because as a physician, I didn’t finish with my medical residency until age 29 or so, and then (Vietnam War) I had to put in two years in the Air Force, so I didn’t start a real job until age 31. I couldn’t retire as young as you guys.

However, I’ve been retired for 18 years now, have lived a good life off my investments, bought a vacation home with cash, sent my daughter to prep school, college and grad school, paid my taxes, and have oh, about 10 times what I had when I retired (which was actually a bit gutsy to retire on), in spite of taking out all the living expenses every year. It can be done.

I’ve spent the last couple of weeks reading the last 1000 or so posts.

I agree with Chris that you should also read the first 50 or so posts, (maybe more, at least the further ones with a fair number of recs), where we discussed a lot of investing philosophy.

The majority of positions (over 80) are under 1%, with many under 0.1%. Those smaller ones could become 10-baggers over night, and I’d hardly notice. I need to concentrate my positions more,

I agree. With 80 positions you have a mutual fund, not an investment portfolio. No one can keep track of 80 positions. It’s probably hard for you to even remember what some of them do and why you bought them. I think you can’t keep track really of more than 20-25 positions, as it’s important to read the quarterly reports and the conference calls. If you have 80 little positions it’s a hobby. If you have 20 positions that you are really following it’s a serious investment portfolio.

The larger one (55% of total investments) is almost entirely AAPL, with a few small positions in other stocks. That means that AAPL is nearly 80% of my taxable investments – the stuff I’d be living on in the early years of retirement. That’s too concentrated. I need to reallocate.

I totally agree. Apple (let’s go back to pre-split prices, as that’s the way I still think of it), when it was at $650, those who were holding it were hoping it might go to $750. That’s like buying a stock at $6.50 with the hope it will go to $7.50. I wouldn’t buy a stock at $6.50 unless I thought it could go to $20 at least. AAPL wasn’t going to $2000. (Not in my lifetime, anyway). At a market cap of $555 billion, it’s hard to imagine any new product that can budge the price 20%, much less tripling. I think you should sell 95% of your position and put the money in more rapidly growing companies, and keep 5% of it for nostalgia.

All this is just my opinion. You have to decide yourself, based on your own feelings.

More to come later.

Saul

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I’ve mostly been buying into recommendations based on the story (sometimes including dreams of future profitability, like WPRT). How do I get started learning to identify good investments

Here are some ideas.

  1. Go to the company website and find out what they do. To get there, google, for example, “Zillow Investor Relations” and you’ll get the Zillow investor relations website.

  2. Read the text part, at least, of their last quarterly report. “Analyzing the financials” sounds intimidating, and probably isn’t necessary. They usually tell you in words what is going on.

  3. Read the transcript of the conference call. You should be able to find it on Seeking Alpha “Zillow Q1 2014 Transcript” should get it. (Yep, I put it in on Seeking Alpha and it came right up).

  4. Go back through at least two years of quarterly reports and pull off at least adjusted earnings and revenue. Make a table (pencil and paper) for each. Since you are interested in Avigilon, here’s what their revenues look like

2012 - 18 24 25 33 = 100
2013 - 32 39 51 56 = 178
2014 - 56

You see what a good visual image this gives you. You can see both sequential change and year-over-year change at a glance. And that 78% increase in revenue from 2012 to 2013.

Here’s earnings

2012 - 02 04 08 08 = 22
2013 - 08 10 22 19 = 59
2014 - 19

Incredible rate of growth.

Then do a running 12 month trailing earnings:

12 2012 22
03 2013 28
06 2013 34
09 2013 48
12 2013 59
03 2014 70

Gives you a picture of where they are going and how fast. You should graph this on a piece of log paper. (On log paper a move from 10 cents to 20 cents is the same length as a move from 50 cents to a dollar (100%).

To compare, here’s the earnings for BOFI. Regular good growth, but of course not as fast.

2012 - 58 64 67 70 = 259
2013 - 74 78 85 91 = 326
2014 - 100

12 2012 259
03 2013 275
06 2013 289
09 2013 305
12 2013 326
03 2014 352

Now Avigilon will sell at a higher PE than BOFI so it balances out. There’s a limit how high you should pay for rapid growth though.

Hope this helps.

27 Likes

I quit my day job 8 years ago (at age 37) and now live off of my portfolio which has and continues to grow faster than I am spending…

Great post, Chris. I’m curious…if you wouldn’t mind sharing…what do you do for health insurance and roughly how much does it cost you?

Jeb

Great post, Chris. I’m curious…if you wouldn’t mind sharing…what do you do for health insurance and roughly how much does it cost you?

It is important to me not to be required to go back and get a day job so I take my health insurance coverage very seriously. A major illness or accident could wipe out a substantial portion of my wealth. I have a PPO Anthem BlueCross policy with a high deductible (I think $5000 or so). I’ve had this policy since 2008 (prior to that I was on my ex-wife’s medical policy and prior to that I had coverage through my employers). My monthly premium is now $611 which covers just me as I have no dependents. My premiums have been increasing every year (just went up from $495 per month a couple of months ago). When I first started needing to buy my own insurance in 2008, my monthly premiums were under $300/month for the same coverage that I have now. I haven’t had many medical problems so the majority of my medical expenses are the monthly premiums…I’d estimate my annual cost for medical to be under $9,000 per year. I haven’t bothered looking into Obamacare to see if I can get a better deal.

I’ve never bothered with buying life insurance as I consider it a waste of money. I have no dependents to worry about.

Chris

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At a market cap of $555 billion, it’s hard to imagine any new product that can budge the price 20%, much less tripling.

Not sure it’s impossible. With the aggressive stock buybacks and free cash flow Apple won’t have to triple it’s market cap to hit $2,000 (pre-split) within the next 5-7 years. It will be difficult, but not impossible.

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This seriously makes so much sense. I’ll be tabulating this information right away for all my positions. You certainly have been an incredible investor.

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By the way, other patterns jump out to the eye as well. For example, if you look at Aviglion’s earnings,

2012 - 02 04 08 08 = 22
2013 - 08 10 22 19 = 59
2014 - 19

you notice that earnings don’t rise between the fourth quarter and the first quarter of the next year, it’s called “seasonality”, and then rise in the second and subsequent quarters. When that happens in the future it won’t bother you because you’ll say “Oh yeah, their first quarter is always a little light”.

Same with revenue, by the way:

2012 - 18 24 25 33 = 100
2013 - 32 39 51 56 = 178
2014 - 56

A quick glance will show you that BOFI does not have the same seasonality, but rises a little each quarter.

2012 - 58 64 67 70 = 259
2013 - 74 78 85 91 = 326
2014 - 100

Saul

3 Likes

I think you can’t keep track really of more than 20-25 positions, as it’s important to read the quarterly reports and the conference calls.

Hi Saul,

I have a question about the amount of positions.

I agree having 20-25 is best due to your stated reasons but I have 2 accounts, an IRA and a taxable. Do I want to hold the same 20-25 in both accounts? I wrestle with this concept frequently.

If I do have the same stocks in both accounts when I make a buy do I just split it in half (both accounts have about the same value)? Is it that easy?
Thanks,
Mykie

I agree having 20-25 is best due to your stated reasons but I have 2 accounts, an IRA and a taxable. Do I want to hold the same 20-25 in both accounts? I wrestle with this concept frequently.

I think it depends a little on what you’re using those accounts for, and when you’ll be pulling money out. For example, if you’re planning to retire early, and need to live off your taxable account for a while before being able to pull money out of the IRA, then that taxable account had better be an adequately diversified and balanced portfolio in its own right. Having the two accounts be mirrors sounds like a fine plan to me; keeps it relatively simple, and they each stand as self-sufficient portfolios.

-Mark

Saul,

Hope this helps.

Yes, it helps a lot! Thank you!

I’ve got some homework for this weekend. That’s a good thing. I like learning, and practice (homework) helps that learning “stick.”

I’ll do the research you suggest on Avigilon. I’ll compare the adjusted revenue and earnings numbers I find with what you posted, to make sure I’m looking at the right stuff.

I’m also interested in BOFI and UBNT; I already had positions in both (which I now realize are too small to be meaningful). I think TMF1000 has started covering them in his page posts. After I’ve done my own research on those, I’ll cross check with the page posts to see how I did.

It would probably be a good exercise to take some of the other stocks I’ve been thinking of as “high conviction” and doing the same research, and compare them to the ones followed here.

Thanks again,

-Mark

Chris,

Thanks for the feedback.

I’m looking forward to the day (soon!) when I have enough saved that work is optional. So far, when trying to answer the “How much is enough?” question, I’ve been trying to be conservative. I’ve been assuming I could earn inflation + 4% over the long term. If I have 25X my gross salary saved, then I could live off the 4%, and both the nest egg and income would grow with inflation in perpetuity.

Build up your taxable accounts ASAP so you will have enough money in those accounts so you can quit your job and not pay any early withdrawal penalties on your 401Ks.

The taxable accounts combined are about 2.5X the size of my 401k. Likewise, new contributions to the taxable accounts are about 2.5X the new contributions to the 401k.

If I was confident I could get inflation + 8% with high probability, I’d be ready to retire today. I’d have enough just from the taxable accounts, and they’d still be able to grow with inflation. With a slightly smaller rate of return, the taxable accounts should last more than long enough to wait until age 59.5 and withdraw from the 401k without penalties. (I’ll be turning 50 later this year.)

Thanks,

-Mark

P.S. With “Gaucho” in your handle, are you a USSB alumni? I am, class of '87.

I agree having 20-25 is best due to your stated reasons but I have 2 accounts, an IRA and a taxable. Do I want to hold the same 20-25 in both accounts? I wrestle with this concept frequently. If I do have the same stocks in both accounts when I make a buy do I just split it in half (both accounts have about the same value)? Is it that easy?

Hi Mykie, Personally I don’t see any reason that the two accounts need to have the same amount of each stock. It should be according to what works out best for you. As long as you have just a total of 20-25 stocks in both accounts combined, there is no reason that all 25 have to be in each account. (If you have some cash in one account but not another, and you want to buy or add to a stock, that should be fine, they are both your accounts after all).

I have multiple accounts (IRA, personal, my wife’s, her IRA, my daughter’s, her IRA, trust account, etc. I make no slightest attempt to have them all mirror each other. I pool my positions in a spread sheet and treat each stock as a single position in my head. I do try to keep even the smallest accounts diversified with at least 5-10 stocks, but that’s it.

Saul

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It would probably be a good exercise to take some of the other stocks I’ve been thinking of as “high conviction” and doing the same research, and compare them to the ones followed here.

Mark, Over time, you probably should do that exercise on any stock you are serious about following.

Graphing the trailing 12 month earnings on 1 to 10 log graph paper if you can find it, is also important, as the difference in slopes of the lines of different rates of growth will soon be obvious to you.

You can set the bottom to 10 cents earnings and the top of the page to $1.00 earnings. On the other side, put the stock price monthly at 20 times earnings, to be equivalent to a PE of 20. That means across from 50 cents earnings you put a stock price of $10, etc. If a stock has earnings of 80 cents and a stock price of 412, it’s immediately obvious that the PE is less than 20X, etc

Saul

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Correction

a stock price of 412

should read a stock price of $12.

5) Read Saul’s posts and learn how he decides how to invest in a stock. Follow his rules which he posted in some of the very first posts of this board. You will learn more and more as you go and do

Chris,

You’re no slouch yourself - thank you for your invaluable contributions to this board!

Jason

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Having the two accounts be mirrors sounds like a fine plan to me; keeps it relatively simple, and they each stand as self-sufficient portfolios.

Hi Mark and thanks for the info.

I don’t have to have the accounts mirrored but if I am only going to have 20-25 stocks in both accounts, it seems there will be some duplication and also, there should be some kind of organizational system to use when buying…what to put where and why. I must take out 4% a year from the IRA and don’t intend to take anything out of the taxable until all that’s left are long term gainers.

If I treat both accounts as one account, then all I really have to do is sell off the less desirables in both accounts and double up on the keepers. Sounds simple but I see years of struggle ahead of me, trying to figure out a buying price for stocks that have grown substantially…
Mykie

P.S. With “Gaucho” in your handle, are you a USSB alumni? I am, class of '87.

Class of '92 on the 5 year plan. I go down once a year to watch the men’s soccer team.

I agree having 20-25 is best due to your stated reasons but I have 2 accounts, an IRA and a taxable. Do I want to hold the same 20-25 in both accounts? I wrestle with this concept frequently.

Mykie,

I think for your decisions on which stocks to buy in which accounts should depend on the following factors:

  1. Your short and long term tax rates. You will want to look at the tax tables for this.

  2. Your anticipated trading trading frequency for a given stock.

  3. Your anticipated total income for a) short term cap gain + dividends + ordinary income and b) long term capital gain.

I don’t know your situation regarding your income and your various tax rates (you live in Mexico but where do you pay taxes?).

I can use my situation as an example. Yours will be different but it may give you a good idea about how to think about it conceptually.

I have 95% of my portfolio in my taxable accounts so my situation will be different.

I am still 14 years away from withdrawing any money from my IRAs.

My income comes from 3 sources. 1) Consulting income, 2) short term cap gains + dividends, and 3) long term capital gains. I want to minimize my taxes so for my situation (I live in California) I try to keep (A) consulting income (less my deductions like home office, mileage, medical, other business expenses) + (B) dividends in taxable accounts + (C) short term gains in taxable accounts (less investing deduction: I took out a 4% mortgage on an investment property; the mortgage interest is deductible against my taxable short term capital gains and dividends). That’s a complex sentence, but I try to keep A + B + C below $36,900. When my income from A+B+C goes above $36,900 then my federal tax jumps from 15% to 25%. I try to avoid this…if I work too much my short term cap gains and dividends get taxed an extra 10%. For my long term capital gains, the federal tax rate is also 15% so long as total income is below $400,000. So to summarize, I try to keep ordinary income below $37K and total income below $400K. I can control long term capital gains (and total income) fairly easily by holding shares longer or by spacing out sales across multiple years.

For California taxes, I’m pretty much screwed because they count long term gains as ordinary income. The top rate is outragous at 12.3% at income above $508K. Even income between about $50k and $250K is taxed at 9.3% in California. If I manage to get Saul-like returns for a few more years, I may move to a state with no income tax to realize unrealized long term capital gains before moving back to CA.

So to answer your original question about keeping the same stocks in both taxable and tax deferred accounts, it can be advantageous (at least for my case) because I can more easily control whether realized short term gains will be taxable in a given tax year.

Chris

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