Value Investing – part 1

Stock Evaluation – Benjamin Graham method

In my ongoing quest to look at finances and improve my financial performance, I’ve done a lot of reading on value investing. The general concept of value investing is that you can, with some accuracy, determine the intrinsic value of a stock.  However, the stock market is often based on emotions, and a stock can be selling for less than its intrinsic value (due to bad news and overreaction, general lack of knowledge of a certain company’s performance, or the stock not being in a “sexy” industry.

I worked for a company in 2000 that was in automotive (i.e. not a “sexy” dotcom in 1999 -2000). Very well run, great numbers, but only trading at $1.68 a share. Once the dotcoms blew up, people starting looking for other companies to buy and found ours. Over the next seven years, it went over $140/share (taking into account splits). While we did great work at this company, even I don’t think it was worth a 833% rise in value.

The key for a value investor is to find these “diamonds in the rough,” purchase them, and then have the patience to wait till they jump up. If you can judge the intrinsic value, it may take the market a year, or 5 years, but eventually you will be rewarded.

Note that this is the exact opposite of the “efficient market” theory that rules Wall Street at this time – the belief that information is known to all, and therefore the market is correctly priced, each day. These investors tend to emphasize hot growth stocks. However, if everyone had total knowledge, why are there always sellers and buyers for a share of stock, with both of them thinking they made a good deal?

One of the earliest proponents of the value theory was Benjamin Graham, and most of the big value investors are disciples of his teachings (Warren Buffet and many others actually took classes from Graham and worked for him).

In looking through books authored by Graham, liked The Intelligent Investor, or other value investors, they ended up with a process to evaluate and pick value stocks:

  1. Learn to understand a company’s basic financial documents (balance sheet, earnings statement, cash flow)
  2. Use simple metrics (I will show Graham’s ten values) to weed out the majority of non-value stocks
  3. Once you have identified a list of candidates, use some additional rules to weed out those value-type stocks that don’t match your goals, or who are questionable
  4. Invest and show patience while you wait for the market to agree with your valuation.

I won’t go into details here on how to reach a company’s documents. There is a wide variety of information on-line, but here are some, in case you need them:

  1. Reading a balance sheet 
  2. Reading an earning’s statement
  3. Reading a cash flow statement

For step 2, Benjamin Graham (and other value investors) used a series of ratios to weed out the stocks that did not meet their value objectives

No Criteria Measures
1 Earnings to price (the inverse of P/E) is double the high-grade corporate bond yield. If the high-grade bon yields 7%, then earnings to price should be 14% Risk
2 P/E ratio that is 0.4 times the highest average P/E achieve in the last 5 years Risk
3 Dividend is 2/3 the high-grade bond yield Risk
4 Stock price of 2/3 the tangible book value per share Risk
5 Stock price of 2/3 the net current asset value Risk
6 Total debt is lower than tangible book value Financial Strength
7 Current ratio (current assets / current liabilities) is greater than 2 Financial Strength
8 Total debt is no more than liquidation value Financial Strength
9 Earnings have doubled in most recent ten years Earnings Stability
10 Earnings have  declined no more than 5% in 2 years of the past 10 years Earnings Stability
If stocks meet seven out of the ten criteria, it is probably a good value, according to Graham. If you are income oriented, recommended to pay special attention to items 1 – 7

Graham’s criteria from Value Investing for Dummies

In my next post, I’ll explain how I used these criteria to identify a group of stocks, and then did further research in order to pick one for my “fun money” account. You’ll get to see how I did there.


Mr.39 Months

You’ve got to have hobbies – part 3

Sorry for me not posting over the weekend. I was out again, hiking on the Appalachian Trail, this time in Connecticut.

As I’ve said before, I belong to a club that does outdoor events (kayaking, biking, etc.) and a group of seven of us went over the weekend to backpack the AT. It was a total of 12.5 miles (6.5 miles on Sat, 6 on Sun) with a stay at the shelter.

I really love taking these trips to the outdoors, and I look forward to the opportunity, once I hit my FI goal, to do more of this.

I hope everyone had a great weekend!

Mr.39 Months

Good post on what to do with the credit breach at Equifax

Its been a topic of discussion among the folks I talk with, and its a real cause for concern among many people.

This article goes over some good steps you can use to help remove/reduce the potential for loss. It pretty much breaks it down into:

  1. Finding out if your information was exposed
  2. Getting a free year of credit monitoring (but be careful & read the fine print. You may be giving up your right to sue Equifax)
  3. Check your credit reports often (you can check each of the three sites – Equifax, Experian and TransUnion once a year for free).
  4. Consider placing a credit freeze on your files
  5. Or consider placing a fraud alert on your files
  6. File your taxes early (so frauds can’t cheat you out of your money)

No matter what, keep an eye out for thieves on the net. They’re out there, and its just smart financial sense to be ready for them.

Mr. 39 Months


Do Natural Disasters Improve a Country’s GDP?

There has been some discussion on the internet this last week about the positive effects on the country’s GDP after a Hurricane hits a particular area. The activity that GDP measures (rebuilding, supplies, etc.) get a “boost” of spending when a site is rebuilding, but the GDP measure (which many folks use as shorthand for the economy) isn’t really built to measure this sort of thing.

The Econoproph wrote, back in 2011 (after Hurricane Irene): What will show up in GDP measures after the natural disaster is a perverse reaction in the months after the disaster.  This comes because of the re-building activity that comes after the disaster.  Repairing buildings, cleaning up, rebuilding all require paid services, building supplies, labor, etc.  These transactions will show up in GDP measures in the months/quarters after the disaster as an slight increase in total GDP.  But it’s a deceptive increase in total GDP because we aren’t really significantly better off.  We’re just getting back to the condition before the disaster.  GDP counts the fixing, but not the damage done.  This is why we sometimes hear commentators say that a “disaster is good for the economy”.  It isn’t really.  It’s good for GDP, but that’s not a perfect measure of the economy.  The mistaken idea that damage or disasters are good for the economy is what economists call the Fallacy of the Broken Window. It was first explained by Frederic Bastiat.

 All this activity is doing is getting us back to “0”, which isn’t that helpful. It would actually be more helpful if we had spent the funds on hurricane damage preventive measures in the years prior to. One just has to look at New Orleans (which saw a massive rebuilding since Katrina – but which has leveled off). It hasn’t really recovered to where it was, and it has lost a decade of potential growth while rebuilding.

One other part that will affect the GDP is the price of oil and gasoline in the country. As we work to get Houston back on-line (and potentially other areas depending on the Hurricane season this year), folks have already seen the price of gas go up 20% or more in their local area. This will have a net drag on GDP growth, and the economy, as funds are diverted to purchase gas that could have been used elsewhere.

I’ve got family in Florida, and my prayers go out to them, and to all the other folks in TX, FL and other states affected by the Hurricanes this year.


Mr. 39 months

Interesting info on re-balancing investments

Was listening to the Stacking Benjamins podcast this morning and they had an interesting bit of trivia.

Apparently, July was the lowest amount of trading within existing accounts for 401Ks/403bs/IRAs. What this basically meant is that folks were not re-balancing their investment accounts (selling their high winners and buying losers to get the allocations back in line).

Those that were trading were selling mostly out of bonds and into foreign stocks and S&P 500 – which has been the big winners over the last 6 months. In other words, they were selling low and buying high!

While I only rebalance 2x a year (Jan & July), I definitely trade to get back into my allocation, selling high and buying low.

What do you do when you make trades within your account?

Mr. 39 months



Monthly update – Sep, 2017

Keeping it rolling, only 34 months from Financial Independence!

After a great month for July (+$14,373), my August wasn’t exceptional. I started the month with $926K of invested assets (not counting savings), put $4,108 into my various accounts (401K, Roth IRA, brokerage), but ended the month at $928.6K, a 0.2% drop. For the year, all total, I am still up around 7.1%.

Bonds and REITs are up, probably because folks don’t expect the US Fed to raise rates for the rest of the year. My stock Index funds are down a bit. One of my “value” stocks that I purchased, Gilead (Stock symbol GILD) is up 10% for the month. I bought it because it was selling at a low P/E, and matched 5 of Benjamin Graham’s seven value indicators. Its up over 24% for the year, so a big win for me.

At the same time, using the same logic, I bought a lot of Tahoe enterprises (miner stock) that hit 5 of Graham’s points, and was selling below book value (i.e. the stock was less than what you’d get if you liquidated the company). So far, it’s dropped 10.6% for the year, primarily due to legal troubles. Still, the concept of value still holds, and if I have patience, it should still bounce back up (it has been on an uptick the last 2 weeks).

For September, I plan on putting my investment money into my bond mutual fund. I want to get my allocation more in line there with a 33% REITS/ 33% bonds/33% stocks plan. This will call on me to probably buy bonds each month for the rest of the year


Hope your August was fun and fulfilling!


Mr. 39 Months.

Book Review – Yes, You can Supercharge your Portfolio by Ben Stein and Phil DeMuth

Most people remember Ben Stein as the teacher in “Ferris Bueller’s Day Off” or from his show “Win Ben Stein’s Money.” However, he is also an accomplished economist, with a degree from Columbia and the valedictorian of Yale Law School. He worked in the White House in the 70s, and has written articles on finance for Barron’s and the Wall Street Journal.

Phil DeMuth was valedictorian of his class at the University of California, and has a master’s & doctorate degrees. He is a registered investment advisor and president of Conservative Wealth Management in Los Angeles. He has also written extensively for the Wall Street Journal and Barron’s.

This is the Fifth and final book in the author’s five part series on finances. In the previous four they showed how to use long-term trends to “time the market” in the long term (10 – 15 years +), how to set up an income producing portfolio in these low-yield times, how baby-boomers can still retire even after the dotcom crashes through using the right steps, and finally, how millennial and Gen Xers should be saving, investing and living their lives responsibly throughout their lives (their 20s, 30s, 40s….). This final book goes through a series of steps that anyone should take when designing their savings and investing strategy, so that it meets their short and long-term goals and they can move towards the life they desire.

Most of these steps are not unfamiliar to folks in the FIRE community. As laid out in the book, the six steps are:

  1. Evaluating your needs before deciding on your investments (what are you trying to accomplish, what are your current assets & liabilities, what are your short term and long term goals, etc.). You shouldn’t just invest in something, you should figure out what you want to accomplish first.
  2. Your whole portfolio matters. Often folks develop their investments over a period of time (bonds from grandparents, start an IRA at graduation, 401K at 3% match from work, buy some stocks from a friend who is a broker, etc.). An individual needs to consider all of their investments in one “pool” and make decisions based on that (some items are preferable in a tax-advantaged account, some not, etc.)
  3. Take on risk intelligently. Your stock may have gone up 15% last year, but based on the high risk you took on, it really should have gone up 30%, to compensate (maybe the much safer investment which made 14.5%). Its here they start getting into the use of Monte Carlo simulation to help with investment decisions.
  4. Diversify. Don’t put “all your eggs in one basket” or you faith in 1 or 2 stocks. There is a wide variety of investment options (stocks, bonds, ETFs, mutual funds, precious metals, real estate, etc.). They go up & down at different rates, and carry different rates of risk. By diversifying, you can reduce risk while keeping investment returns strong. It also makes it easier to sleep at night. Stein and DeMuth are big fans of modern portfolio theory, and demonstrate how a series of investments can earn good returns with reduced risk.
  5. Use the Monte Carlo Simulator to test drive your portfolio. The book covers the use of the Monte Carlo simulators at or to test out the portfolio. Many of us are familiar with Monte Carlo simulators (see my sidebar for links). The simulators help you see your chances of reaching certain goals with the portfolio you selected. This really is the meat of the book, as it shows in detail how to analyze your portfolio strategy in order to optimize it.
  6. Do a Portfolio Reality Check. Look at the portfolio in terms of your current life situation (do you have debts you should pay off first, etc.), does the portfolio make sense, will you be able to sleep easily with the results. Take this opportunity to revisit goals and then act.

Other Topics Covered

  • Farewell to Bonds? Here the authors cover the use of low volatility stocks with low correlation (i.e. stocks that don’t move much, and don’t move with the market as much) in the place of bonds. They show it across time periods when stocks didn’t do well (2000-2002) and did well (2003-2006). In both, when compared against a 60% bond and 40% stock portfolio, they did well.
  • Hedge funds? Use of specific hedge funds to “hedge” against losses and obtain higher returns
  • Investing for Income: Most of these topics were covered in their previous book, but the general idea is to use dividend stocks, bonds, and REITs to generate respectable income (instead of having to cash in growth stocks).

Overall, I think it’s a good book, and could be useful for those interested in doing the research to “bump up” their returns.

I would rate in 25 stars out of 5, primarily because most of the topics were covered in the previous 4 books.


Mr. 39 months

Good post on retiring early on $500K in investments on Early Retirement Extreme

Guest post from Debbie M at the website Early Retirement Extreme

Good article on how she is breaking down her expected spending and how she plans to get there. Great to see folks showing how they can retire on less than $1M (which seems to be everyone’s drop dead amount in the mainstream media).

Go Debbie Go!




Timing the Market – How would I have done if I followed it since I graduated?

Back at the beginning of the month (Aug 5th) I wrote about Stein & DeMuth’s use of long-term metrics and trends to “time the market” in the long term (i.e. over a 10-15+ year period). Unfortunately, their book was published in 2003, and while they kept graphs up on their website (   ) for a while, they stopped updating the graphs in 2015.

I wanted to do a “what if” analysis, where if I had followed their metric strategy from when I first graduated and started investing some of my salary (1987) to the end of 2016, a 30 year period. I would take $1,000 a year and invest it either in the S&P 500 every year (dollar cost averaging) or the S&P or AAA bonds, based on the “market timing” signal that Stein & DeMuth laid out:

  1. S&P 500 price vs. 15-year average (if above average, don’t buy)
  2. S&P500 P/E vs. 15-year average (if above average, don’t buy)
  3. S&P500 Dividend yield vs. 15-year average (if above average, don’t buy)
  4. S&P500 Earnings yield vs. AAA bond average (if bond yield is higher, go with bonds, not stocks)

Base Strategy

  • Whenever I got a “buy” for S&P 500, I put in $1,000 at the beginning of the year
  • Whenever I got a “don’t buy” I put in $1,000 in the average for AAA bonds
  • I adjusted for inflation
  • I ran the numbers for each of the 4 scenarios, for the 30 year period, including the great run up of stocks in the 90s, the dotcom crash, the low bond rates of the 00s, and the crash of 2008.

The results were very interesting.

  • Dollar cost averaging into S&P500: $60,691
  • Price metic: $65,576 (8.0% better return)
  • P/E metric: $67,583 (11.4% better return)
  • Yield metric: $67,133 (10.6% better return)
  • Earnings vs bonds: $66,034 (8.8% better return)

What this shows me is that, if you have the patience and long-term outlook necessary, using the metrics outlined by Stein & DeMuth appears to offer slightly better returns. In their book , they showed higher returns (20%), but that could simply have been the timing of the book – right after the crash.

I will probably continue dollar-cost averaging in my 401K and Roth IRAs across a spectrum of investments with my allocation. I will also probably use some of this timing strategy with my “funny money.” I’ll let you know how I’m doing.

Anybody out there with an interesting market timing strategy?


Mr. 39 months

Book Review – Yes, You can Get a Financial Life by Ben Stein and Phil DeMuth

Most people remember Ben Stein as the teacher in “Ferris Bueller’s Day Off” or from his show “Win Ben Stein’s Money.” However, he is also an accomplished economist, with a degree from Columbia and the valedictorian of Yale Law School. He worked in the White House in the 70s, and has written articles on finance for Barron’s and the Wall Street Journal.

Phil DeMuth was valedictorian of his class at the University of California, and has a master’s & doctorate degrees. He is a registered investment advisor and president of Conservative Wealth Management in Los Angeles. He has also written extensively for the Wall Street Journal and Barron’s.

This is the Fourth book in the author’s five part series on finances. In the previous three they showed how to use long-term trends to “time the market” in the long term (10 – 15 years +), how to set up an income producing portfolio in these low-yield times, and finally how baby-boomers can still retire even after the dotcom crashes, through using the right steps, savings and planning. This book is written more for millennials and Gen Xers, and discusses the steps and objectives individuals should be taking throughout their lives (their 20s, 30s, 40s….). The book is chock full of bits of knowledge and wisdom for specific points of your life, and is well worth reading for those just getting started.

The book starts off discussing the four parts of getting your financial life’s crises ironed out, which are no more than having a general idea of:

  1. How much predicable events will cost (marriage, house, car, etc.)
  2. How much you’re likely to earn at different stages of your life
  3. How much money to save and when
  4. Some grasp of when and how much to borrow

One of the key points of the book is the “life cycle” model of financial planning, where a person’s income starts out low, builds up, then plateaus, while their consumption level stays relatively flat. Thus, they’ll need to do some borrowing to start with (house, college, etc.) then pay it off as they peak, while saving for that period as they retire and their income drops. It is around this cycle that the book is based.

The book then goes into numerous chapters, focused around:

  • Your 20s (challenges, saving & investing in your 20s, housing for couples & singles, babies, etc.)
  • Your 30s (challenges, saving & investing in your 30s, insurance, career advice, etc.)
  • Your 40s (challenges, saving & investing in your 40s, being sinvle and 40)
  • Your 50s
  • Your 60s and beyond

Each of these chapters has detailed graphs/charts, tables for recommended savings rates, recommended portfolio allocations, and notes on personal purchases which are typical at that point of your lifeThe only critique I would make is that this is based around the standard “work till your 60” plan for life, which for many FIRE enthusiasts is too long. We prefer to accelerate our savings and become independent much earlier. Still, I think this book would be very valuable for folks just graduating (either High School or College), probably alongside Dave Ramsey’s book.

I would rate in 3.5 stars out of 5.


Mr. 39 months