Sunday, March 29, 2015

My Approach In Finding The Stocks I Want

Do note that my views are value-investment related and looks strictly at fundamental aspects of the company.


I use StockFacts to reduce the time required to find my value-buys. Many of you may argue it may not be accurate or outdated. But do note that further checks on the financial reports of the shortlisted stocks should still be done to ensure the stocks will fit into the criteria.

Criteria key in are (1) PE < 10, (2) PB < 1.5 and (3) Dividend Yield > 4% and ranged according to Debt to Equity or % Drop in Price from 52 Weeks High.

2. Debt to Equity (Excluding Intangibles) < 0.25 or 25%

Debt to Equity must be less than 0.25 or 25%. My friend once told me, "if a company do not have debt, this means the company may not have the ability to expand."

But there is always 2 sides to each story as low debt/no debt may also mean that the company still has potential to expand and do not require to pay high finance cost.

3. Share Price < (0.6 x Net Current Assets)

This is one of the main aspect of value investing. Share Price per share should be less than 60% of Net Current Assets per share. This theory is repeated by the Net-Net Hunter and the book, Value Investing: Tools and Technique for Intelligent Investment by James Moniter (Not totally similar but close).

Net Current Asset per share = (Current Assets - Total Liabilities)/Total Number of Shares

Therefore, this meant all short term assets, such as Cash, Inventory and Accounts Receivable, should be able to cover all liabilities in the event of liquidation. 

Liquidation of a listed firm is a rare occurrence. But if the above formula hold true, this meant that the listed firm is actually worth more than how much the market view it, regardless of its earnings. 

As of today, to find stocks that are trading close to its net current assets per share is very hard (esp in the Singapore Market). Therefore, at times, if a stock that has a share price that is equal or close to its net current assets per share may also be deem as "passing" this criteria.

4. Dividend Yield > 4%

Dividend is important to a value investor. Normally a value stock will require an investor to hold for a long period of time before people realise its potential. Thus, in between this waiting time, dividend may be the only actual returns that he get from the stocks.

5. Price to Sales < 1.5

Price to Sales per share to be less than 1.5. 

From the viewpoint of a customer, if a can of Coke is priced at $1, will you pay $2 for it?



However, do note that some leeway is given for this criteria as I do not require it to be exactly below 1, but at 1.5. In addition, I have also read somewhere that if a Price to Sales per share equals to 3 or more then it is time to sell them!

6. Earning Yield > Current 10 year Government Bond Rate (Treasury Bond Coupon Rate)

I learned about this term from Vijay Malik blog. If a firm's earning yield (return) is less than a 10 year Government coupon rate. Isn't it safer to place your money with the Government?

7. Price to Average Moving (5 year, 8 year, 10 year) Earnings < 10

Value Edge once talked about this point by Benjamin Graham.

Average Moving Earnings will remove out-liners earnings and give a more accurate view of the firm's earning power over a loner period. Thus, a more accurate Price to Earning per share ratio. This ratio will also provide an aspect of how a firm will perform in different cycles of the economy.

As stated in the book, Value Investing: Tools and Technique for Intelligent Investment by James Moniter, one should buy a stock with a Price to Average Moving Earnings per share that is less than 10 and sell a stock with Price to Average Moving Earnings per share that is more than 16.

8. Not a China Firm

With the high number of China firm scandals over the years, it sound wiser to stay away from them. In my view, a China firm is one that solely operate from China. Firms with headquarters in Singapore and factories in China do not fall in this criteria.  

If the firm is headquartered in Singapore, there will definitely be checks and systems in place to ensure that quality of the product is not compromise.

9. Rights Issue

Rights issue meant getting more money from existing shareholders. Normally these rights issue will be priced significantly lower, but it will also dilute the existing shareholder's holding. Any shareholder who do not participate in this right issue will see their stock holdings fall drastically.

Right issue, in my opinion, is not wrong - only if the purpose for these extra cash is correct (expansion) and the investors, at that point, are able/have the ability to participate in the rights issue.

Rights issue is wrong only if it gets too frequent. This meant that the firm is unable to generate enough cash to finance it's own plan or trying to undo a wrong move with another move.

10. Insider buying/selling

Insider buying or selling (changes in shareholdings by major shareholders) normally happen if things are brewing in a company. In my view, buying meant having confidence in the firm and its upcoming plan or financial report. Selling meant the opposite (loss of confidence).

11. Pure Play

This meant that a firm should only deal in areas of its own competence. If the firm don't know anything in that field, why expand into that industry?

However, this may not be totally true in reality as Osim did invest successfully in TWG.

12. Secondary Factors - Profit Margin Increasing? Return of Equity Increasing? 

Additional factors to consider are if Profit Margin and the Return of Equity are increasing. If Profit Margin and Return to Equity are improving over the last 3 years, this meant that the company is moving in a right direction.

Conclusion

A stock may not necessary be required to pass all the 12 factors to be deem as a stock that I should buy. This is just a guide for me to analyse the firm's fundamental aspect. However, there are some factors in the criteria above that holds more weight than others, such as

(1) Share Price < (0.6 x Net Current Assets) - If a stock passes this criteria, it speaks volumes of how undervalued by the market. However as stated above, even if it doesn't pass this criteria, I will choose a stock that is not far from its Net Current Assets Value.

(2) Dividend Yield > 4% - It could be my only return for that year!

(3) Debt to Equity (Excluding Intangibles) < 0.25 or 25% - I always preferred low debt companies.

As I continue to show you how I analyse various individual stocks, you will be able to understand how my approach really works.

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