I am what you might call a black-and-white investor. There is very little room for grey in my world – that is apart from my wardrobe, which is chock full of grey attire of various shades. In my view, that there should only be two types of stocks. These are, on the one hand, the shares that you can fall madly, deeply in love with. And on the other hand, there are those shares that you should never touch with a bargepole. Some of you, I suspect, could now be seething with anger. You might even be on the verge…
I am what you might call a black-and-white investor. There is very little room for grey in my world – that is apart from my wardrobe, which is chock full of grey attire of various shades.
In my view, that there should only be two types of stocks. These are, on the one hand, the shares that you can fall madly, deeply in love with. And on the other hand, there are those shares that you should never touch with a bargepole.
Some of you, I suspect, could now be seething with anger. You might even be on the verge of firing off an email to me to protest.
No love lost
After all, aren’t we always told to never let emotions interfere with our decision-making, especially when it comes to something as important as money?
So, let me defend my corner.
When we buy a stock, we should consider why we are committing our money to it. We should choose a stock based on its potential as a business. In other words, we should look at the company in its entirety.
We should not be viewing the investment as a way of making a quick buck. Put another way, whether we make a capital gain on the investment should not be our primary objective.
That sounds almost sacrilegious to hard-core traders. But our primary objective as investors should be to look for superior companies that are capable of generating quality profits for us over the long term.
Consequently, when we buy a stock, we should not be too worried about what the markets might think of it at the time. Instead, we should focus on whether the company can make predictable profits continuously as a going concern.
Identifying these types of companies is not hard.
Try to look for companies that have a good track record of generating decent returns for shareholders. Otherwise known as the Return on Equity, it can tell us how quickly shareholders are earning returns on their investment. The higher the returns, the better could be the investment.
There is a “but”. But the company should not carry too much debt. Debt is a double-edged sword. It can cut both ways.
In its favour, debt could mean that shareholders don’t have to stump up too much of their own money as working capital. However, debt could introduce unnecessary risks, given that interest rates can be unpredictable.
Point is, it is not easy to forge a long-term relationship with a business that could be held hostage to interest rates.
Efficiency is a lovable quality. Most of us love to see a well-oil machine in action. The same goes for efficient businesses that can sweat their assets, effectively. There are few things more enjoyable than watching a business generate huge dollops of revenue from the assets at its disposal.
There is another thing that could make for a lasting relationship, namely, when we are able to pick up shares in the good company at a good price. Warren Buffett once said: “It is far better to buy a wonderful company at a fair price than a fair company at a wonderful price”.
Fair prices, unfortunately, don’t happen all the time, which is why it is important to be patient.
In the main, fair prices tend to happen in times of market despair, economic turmoil and political uncertainty. They rarely happen when everything is going well. But those are precisely the times when wonderful companies can be bought at fair prices.
There is one final secret to developing a long-term relationship with a stock – it is vision. It is important to be able to picture how the company might look decades from now.
Are you, for instance, able to picture in your mind how businesses such as Keppel Corporation (SGX: BN4), Sembcorp Industries (SGX: U96), or Singapore Exchange (SGX: S68) might look in 10, 20 or even 30 years’ times? If you can do that, then you could be on your way to finding stocks to fall in love with, for the very long term.
A version of this article first appeared in Take Stock Singapore. Click here now for your FREE subscription to Take Stock -- Singapore, The Motley Fool's free investing newsletter. Written by David Kuo, Take Stock -- Singapore tells you exactly what's happening in today's markets, and shows how you can GROW your wealth in the years ahead.
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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore Director David Kuo doesn’t own shares in any companies mentioned.