I’ve been getting an increasing number of queries from readers on emails on how I research and select my stocks. I have to admit that it’s extremely difficult to organize your thoughts in that split second and reply to readers in a single email. It’s been so natural for me to think about it in real time because I have done it so many times myself unconsciously but to put words into perspectives can be a real challenge.
I have my own unique style that fits my profile and character.
Okay, so let’s get started.
My first screening is usually through undergoing a series of news, articles or stories about the underlying nature of the company. This is just done leisurely through reading your favorite newspaper, talking to your supplier or networking through your peers who come from specific industry. It usually comes as a natural to me and I get lots of variation inputs and understanding about the company itself. No hassle and hustling about this first step.
Generally, I tried to pick as many as I would like to but it is often difficult to find similar peers in the same industry in a small market like Singapore. Hence, the closest I can find is to go regional with countries such as Hong kong, Thailand or Indonesia as the next destination.
From here, this is where I tried comparing some important operating and financial metrics like the gross profit margins, enterprise value to EBITDA or EBIT, free cash flow yield, cash turnover ratio, working capital efficiency, return on equity (roe), etc etc. If I’m still excited and awake at this point, I tried to dig deeper by going into the Dupont analysis of the ROC, one of my personal favorite metrics to look out for. For those who are not familiar with the DuPont ROIC, you can refer to my fellow blogger, LP who consistently bully the bear out of the blue with teaching materials articles like this.
If you have access to Capital IQ or paid access elsewhere like Morning Star premium, you can easily get all the metrics at one simple click to go. If not, you’d have to dig deeper on finding these metrics. They are all nothing but a function of a mathematical formula which you can get those numbers from the financial statements if you know what you are doing.
I’ve been wanting to incorporate a higher level of thinking at this point by finding out the company’s business divisions or segments return on invested capital (ROIC) for each acquisition or investment that they’ve made but I’ve been very lazy to do this since I became a father. This step is not as evident as much of the steps I’ve written above and you’d have to really browse through the devils to get the details. But I believe this is where you separate the great from the good.
The third part of the research would focus on the historical comparison on valuation.
After compiling the past 10 year data on step 1, this is where you start looking at the trough and peak valuation to see the trend. For instance, if I’m looking at Micro-Mechanics (vested) trough and peak valuation, you’d find that they tend to trade in the range of 4x to 13x earnings multiple. It is not as simple as saying that 4x multiple is cheap and 13x multiple is expensive. The question to ask is what warrants them to trade at 13x earnings at this point. Does that mean growth in future can substantiate and justify this sort of current valuations? Or the market has priced in too much optimism at this point in time expecting future growth to materialize?
The fourth step of the research would focus on getting a step ahead of the analyst.
As most people know, analyst tends to cover companies in their research report after companies have reported their earnings or when there are catalysts that they are expecting to materialize.
The key is to get a step ahead of what the analyst thinks and will write on their report which will impact the share price once it has gone public. You may not believe it but if you generally buy only after the analyst has covered in their report, most of the meat would have probably been gone. It does not mean necessarily you will lose money, but everyone is already on the boat so you will have less margin of safety or meats to play for.
This is a newly found damn good information for me which I love it very much since there is a free trial across most brokerage until the 30th Jun.
By this point, I would have known very well the fundamentals of the company that I wanted to be getting and the range of valuations that I would be aiming for. Having the market depth information of the buy and sell gives me that extra edge because I am able to enter at the lowest range I am comfortable to be buying and I am also able to sell at the highest range I am comfortable to be selling.
I have done this successfully in recent months with Sabana, Far East Hospitality Trust (FEHT), Comfortdelgro, Singtel, M1 and Fraser Commercial Trust (FCOT). I’ve either bought at the lowest of the range or sell at the highest of the range I am comfortable at.
To illustrate, I recently thought of accumulating more FCOT into my portfolio and found the current range valuation to be decent. When I checked the market depth information, it has a 1.7m buy queue at a share price of $1.33 (you can verify this yourself tomorrow). It is an extremely strong support line with very few volume transacted at that price. So, I went ahead and proceeded to buy at a single bid higher which is at $1.335 and got it. So if I want to buy, I won’t queue at 1.34 or 1.325 for instance.
Every little bit of cents matters if you are buying in big bulks especially.
Again, if you want to read more about the guide to market depth.
This method which I have used has worked miraculously well for me for the past 6 years, returning me an average of about 20% per annum from 2011 till to date.
I know it sounds a lot easier in theory than it is in practice but it is only through many refining of the process that I am able to do this consistently on my own. You definitely need to put in a lot of practice and it is only after many trials and errors you’d be able to know where you are weak at. We have not even talked about the psychological impact of investing.
I am also 101% sure that there are better practices than what I am doing here so it is really never about comparing which method is the best but which method fits an individual investor the best.