Catching Knives

Catching Knives

Catching falling knives (buying distressed assets) is tricky business, even the most seasoned investors get cut badly. The task seems relatively easy, yet perfect execution is a rarity. The challenge of buying on the low revolves around having almost perfect information. That is highly elusive, sometimes illegal, and in a multi-variable world with intense competition vying for any edge, almost impossible.

Investors hoping to scoop up additional alpha should leave the knife catching to the circus. Outfits like Ringling Bros perfected "the spinning wheel of death" so retail investors do not have to literally reinvent the wheel!

Rather, retail investors should consider playing to THEIR advantages over "professional money" like hedge funds, family offices, and AI-trading algo bots. Consider instead a boring, dollar-cost-averaging approach to building a portfolio over a LIFETIME with incremental purchases occurring multiple times a month.

By implementation of a dollar-cost-averaging approach, investors are constantly buying equites (and bonds) over a period of time that will have both highs and lows, and by default, greater position size will be purchased during selloffs and lower position sizes at the highs.

These DCA plans are relatively easy to set-up, and now virtually "free" with zero commissions. The rub of course, is always portfolio allocation...what exactly to buy? Portfolio allocation is critical to success.

Trepidation occurs when a portfolio has been built over some time and perhaps is no longer being built (ie inbound flows have stopped) and the portfolio is now in a "depletion phase," primarily used to pay for cost of living expenses.

The larger and older a portfolio gets, the more it is subject to short-term market forces, and also the temptation to make significant rash moves...this is exactly why this blog is a proponent of building a portfolio like a farm. 

Investors should have multiple "crops" ie baskets of equities whose cash flow can and should weather a financial storm(s). Ultimately most investing boils down to cash flow, so how are you building your cash flow? Do you have a repeatable process in place? Is your cash flow compounding? What companies are consistently raising their dividends? What are the best moats? What is the caliber of leadership in place? Can your portfolio take advantage of a higher Vix?

As previously mentioned, all these factors must be weighed because portfolio allocation is critical to success. This is why putting an emphasis on timing rather than process is dangerous; it skews the thought process from investing to gambling, and there is a significant difference between the two. Investors have odds in their favor, gamblers do not.

Catching knives is tricky business. For investors sitting on ready cash though it is deliciously tempting to go "all-in" after the market stumbles, and even more appealing after a tumble. Indeed, many great fortunes have been made in this manner (ie Rothschild family wealth was built off of perfect information.) If so compelled, have a playbook ready; know what assets you want to buy, at what price, and with what margin of safety this impacts your total portfolio.

Join the R.I.S.E. Movement!

 Join the R.I.S.E. Movement!

Retirement Income Starts Early

New day, new year! Have you joined the R.I.S.E. Movement? Retirement Income Starts Early (R.I.S.E.) is a new movement helping people around the world better understand and prepare for financial security. Although tailored to my readers in the United States, the R.I.S.E. Movement's mathematical and psychological principles are universal.

Depending on where you live, however, there are either some distinct advantages or disadvantages to financial security. The R.I.S.E. Movement is most effective in geographies with established rules of law protecting property rights, the ability to own assets, and the ability to migrate with those assets to other regions. Simply put, the R.I.S.E. Movement works best in democracies because they typically allow for the two great advantages of compounding wealth, namely time and owning the asset!

Let's get right into it. For the vast majority of both young and older readers of this blog I have stressed the importance of "Investing Like A Farmer," and by that there are ample descriptions of the value of buying compounding assets. The R.I.S.E. Movement is an implementation of those writings unified into a financial roadmap. There are several key tenets that I think are essential to both understanding and applying to your financial preparation.

First, happiness in life (at least from a financial perspective) is positive cash flow. What is joyous is passive positive cash flow. The ultimate goal of the R.I.S.E. Movement is to help you construct a portfolio with recurring and increasing passive positive cash flow.

Second, the cavalry is not coming. You're on your own in this life in terms of creating this portfolio. It is a bad assumption to rely on a friend, relative, or (gasp) the government to bail you out in time of need. As Johnny Cash once sang "Son, this world is rough. And if a man's gonna make it, he's gotta be tough."

Third, basket weaving is underrated. College students who take basket weaving to help boost their GPA get a bad rap, because not only is basket weaving quite useful it is also quite educational. From a financial perspective, the basket we're weaving is our portfolio. It is composed of many different reeds and together they will form a strong basket to hold our wealth and generate cash flow.

When is the Best Time to Start Saving?

As most financial companies will tell you, the earlier you start saving the better. This is because one of our greatest resources in life is time. The more time you have the more compounding can occur.

The chart above helps visually illustrate the value of compounding interest, that is interest upon interest upon interest ad infinitum. The real "juice" savers get is from the compounding effect of interest. But that chart, however, only tells part of the story. It is based on a single initial lump sum that isn't touched for 20 years. Let's take a look at a little more of a real world example, in which case we start with some small sum of money and then add to it over the years. (Click to Enlarge.) 

Obviously the take-away from contributing regularly over time is that a decent chunk of change can be generated assuming we get a modest rate of return and do not touch the funds thus allowing them to grow.

A HUGE challenge of course is NOT touching the growing asset base. It is virtually impossible, however, for most R.I.S.E. Movement members to accomplish this goal because life, especially over a (hopefully) very, very long time will throw significant challenges at all of us; it could be health problems, education costs, vehicle breakdowns, children, parents, taxation, etc. There are literally thousands of challenges that arise over time which require utilization of our assets. That's the major flaw in most financial roadmaps, there is zero accounting for life itself.

This brings us back to the initial question posed, when is the best time to start saving? The best time to start saving is before you are born.

Weaving the Basket

Starting to save before you are born is difficult, because you don't have many of the educational tools yet to land a job. Obviously I'm writing to all the parents out there. And grandparents. The R.I.S.E. Movement champions independence, but there are significant advantages provided to those starting out in life who are able to leapfrog twenty years into the future. And what I mean by that is nearly every wealthy family has resources put aside for their heirs; whether it is cash, gold, real estate, the family business, etc. in either a Trust Account, 529 plan, life insurance, or other mechanism. The path to creating a solid asset base that can generate cash flow starts early. 

Now for those of you who weren't able to choose your parents or the country you were born in, well there is good news. If you're reading this then you probably have a vested interest in improving your lot in life, possibly to a significant degree. Read on.

As we've already discussed, time is one of the greatest commodities in life. Another one is education. Education allows people to transcend from their existing condition. This can result in a better job. A better job typically means more salary. That's a good beginning. With a decent salary excess income can be applied to building your asset base. Depending on how good of a salary, you can then start compressing time.

Wait, did he just say "compressing time?" Yes. The more excess income (income that exceeds your cost of living expenses) you have the more assets you can purchase. What is an asset anyway? An asset is something that pays you to own it. The world is full of assets just waiting to be purchased! There are dividend paying stocks, small businesses, real estate, mining claims, etc. The list goes on and on and on.

Whether young or old, there are certain tips I'd like to share in regards to "weaving your basket." Just as a little can be turned into a lot over time, the inverse is also true...namely a lot can be turned into a little quickly. The construction of your basket is going to be unique for almost all of us, but there are common elements to success. 

Create moats. By that I mean have different types of assets which are not correlated, not held in the same place, and are secure. For example, "diversification" isn't just having an Index Fund. Consider owning dividend paying stocks, bonds, real estate, gold, and a small business. Together they form a sturdy basket to hold the totality of your asset base, yet are not held in the same place. 

No single event should (or could) destroy your basket. Barring a meteorite or health pandemic of Biblical proportions, your basket should be able to withstand the test of time and what life has in store for you. See the paragraph directly above regarding creating moats. Chain reactions can be very, very nasty. Having liquidity on hand is a good thing (think cash money.)

Building a castle or a spaceship or a robot starts with one Lego. Remember that. Young or old we all have a certain amount of time left, act accordingly. Buy assets. Live. Add to your assets. Live. Buy more assets. Live. Use income from assets to buy more assets. Live. Get more education. Live. Use excess income to buy more assets. Live. Teach others. Live.

Your Future Starts Today

In the preamble of this post I mentioned that the R.I.S.E. Movement was tailored to my readers in the USA, but applicable to readers around the world. Each country will have its advantages and disadvantages in terms of educational opportunities, health care, and freedoms.

Generally speaking, the greater the educational opportunity, better the health care, and more freedom one has the greater your ability to harness all the facets of the R.I.S.E. Movement will be over time. Luck and hard work, however, can and often do trump many of the advantages of living in a democratic country with wealthy parents, opportunities for education, health care, and fundamental freedoms. If you have the self-discipline and motivation to harness the power of time you can compound opportunities.

How to Invest

How to Invest

It is important to understand the fundamentals of investing if one is going to commit hard-earned money to the investment process. Like any worthwhile endeavor, it is helpful to first ask questions. One of the most important questions to ask is "Why?" Why are you investing? What are your goals? Are you willing to learn the investment process?

Before reading any further, get out a piece of paper and write down answers to these questions. Consider this a contract with yourself listing your reasons for investing, your goals, and your commitment to the investment process. This "Investment Contract" is a living, breathing document that can be amended and improved over time. Carry it with you in your wallet or purse. With your Investment Contract in hand, let's begin.

Typically an investor buys something (real estate, stocks, gold) with the anticipation of it going up in value over time. Some of the most successful investors in the world, however, consider investments in terms of cash flow. This means they classify investments as assets; an asset being in the strictest definition of the word something that pays YOU to own IT. I will focus this post on the asset class of stocks because they are my speciality. Although there are multiple other asset classes in this world, stocks are what I live and breath, so I feel comfortable discussing them in depth and at length as an asset class.

What is a stock? I consider a stock to be a small, almost infinitesimal or atomic-level, ownership of a company. A stock is a piece of corporate DNA. What this means is that those shares you own represent not only fractional corporate cash flow, but also its management, brand, locations, industry, and employees. And they ALL matter.

As we're experiencing right now with the coronavirus pandemic, owning a single stock in a portfolio can be very dangerous (airlines, hotels, casinos, etc.) or lucrative (video conferencing, supply chain, logistics, etc.) Most investors, and mathematicians, support the belief that owning a basket of stocks helps to reduce the risk associated with owning a single stock. Traditionally this has been pitched as owning an index or mutual fund or fund of funds with hundreds, if not thousands, of positions. This approach championed by the index fund companies seeks to "own the haystack and you'll also own the needle." Basically, own everything and something will work.

Historically, passive investing has proven to work. Passive investing works primarily because over time the stock market has risen in lockstep with inflation. Also, if you buy everything something usually does work. That would qualify as the growth component of passive investing. Indexes drop the losers and keep the winners in a Darwinian rebalancing. It has several advantages: you can buy stocks in bulk and on the cheap. For many people this is an easy solution. For other people they prefer to actively choose what companies they own. I am of the latter persuasion.

Active management builds custom portfolios. I prefer this approach because I want to know the companies I own, I don't want to own the entire haystack. I prefer to concentrate my firepower (cash) into a handful of viable ideas. Building your own portfolio offers several advantages. Transparency: You know exactly what holdings are in your portfolio. Liquidity: You can typically sell without a minimum holding period. Cost: Most firms have eliminated trading costs or they're negligible. With that said, what do I look for when building a portfolio?

My investment philosophy is biased towards profitable companies, ie I typically only buy companies (stock) that are profitable. It is difficult for a company to pay a dividend or buy back their own stock if they aren't profitable; both of those factors are key tenants for me. There are very few exceptions to this rule. In the quest to find explosive growth, however, this rule is often violated.

A key question investors should ask themselves is: "Am I buying an asset (cash flow positive) or am I paying to help raise money?" Many IPOs fall into the second category. With few exceptions, a company without a plan to profitability doesn't survive. That's not to say founders or insiders in these companies can't become fabulously rich, they can. It's just that they sold their shares to the public to extract their wealth. Know what type of company you're buying.

There are five primary traits I look for when purchasing a company: Do I trust the brand? Does it pay a dividend? What type of sales profile does it have? What does the chart look like? Finally, what type of management is in place? In an ideal situation all five of these factors align; a well-trusted brand that pays a dividend with a high margin/high volume sales cycle having an increasingly higher left to right chart with strong management in place is a dream scenario. A successful combination of these variables lead to the formation of a shopping list. Although many companies may make the cut, the timing might not be right....and as they say, timing is everything. 

There are many adages as when to buy a stock. We're often told "it's a matter of time in the market, rather than timing the market," or "the stock market is perfectly efficient," or "long-term investors don't time the market." To some extent all of these sayings are true, but as an investor that has seen multiple Bull Markets and multiple Bear Markets, I can say with absolute certainty that long-term gains (ie time in the market) can be wiped out in weeks, if not days. The stock market is definitely not perfectly efficient; otherwise there would be no volatility, there would simply be a perfectly smooth line. And finally, anyone who has bought before a crash will tell you, holding through a Bear Market is psychologically almost impossible. Couple all these factors with the truth that as you live you will need money for cash flow, very few, if any, people can start investing in their teens and hold until their 60s or 70s. I say again, very few people can simply buy and hold indefinitely. The vast majority of investors, therefore, need some element of timing in their portfolios.

Realistically you have several decades to actively build a base of investments; once again the spectrum is wide in terms of choices. Real estate, stocks, commodities, etc. should ALL be part of your master portfolio. From the stock market perspective in which I operate, however, I can tell you that concentrated portfolios can be wiped out in weeks, sometimes days, and we encounter catastrophic events like these "one-in-a-million" scenarios every 8-12 years. This is why it is essential to build gradually, have multiple irons in the fire, and be prepared. One catastrophic loss should NOT derail your entire future. The Rothschild's proverb was "buy when there is blood in the streets." That is a good one to keep in mind. Warren Buffet famously remarked it is prudent to be fearful when others are greedy, and greedy when others are fearful. 

Buying at a dip's nadir is almost impossible because it is a finite moment in time, but buying in a lull is quite possible. I refer to these buyers as "mountain men." Mountain men come down from the mountains during times of crisis, pick up assets on the cheap, and then disappear for a decade until the next crisis. Cheap assets offer a buffer of safety, ie the premium has evaporated due to fear. Many businesses can be had for significant discounts at the right time, usually chaos. This happens often enough as to make the strategy viable. Historically the only assets worth having are gold and cash in the height of a correction. Everything else sells off hard. This is why having a "shopping list" on hand is always a good idea; know what you'd like to buy and at what price.

This leads to one of the more controversial theories I have regarding purchasing stocks; simply put, you shouldn't buy out of habit, but rather by feeling the price is right. Only you know what that is, but "correct" pricing is typically associated with a feeling, and that feeling is nausea/fear...if you feel nauseous buying because there is so much fear in the market most premiums have evaporated. If that isn't possible, consider the default approach of dollar cost averaging a basket of stocks. Although not ideal, it has worked over the long-term for many investors. The danger to long-term investors, however, is always the market cycle.

For those who haven't experienced a Bear Market, where every day is worse than the previous, the concept of a market cycle might be meaningless. Retiring into a Bear Market, however, is brutal. Forced selling into a Bear Market is brutal. Looking for work in a Bear Market is brutal. Bear Markets are good primarily for Mountain Men, for most other investors it is a horrible experience. Many sell and and never return...once mauled, twice shy. What is an investor to do? A lot depends on your risk tolerance, time horizon, and investment goals.

If you have a high risk tolerance, where suffering a loss to your net worth of 50%+ within a month doesn't faze you, I don't believe you. For most investors, the percentage loss to a portfolio to cause panic is actually relatively small; somewhere around 5-10% elicits immediate concern. For those who haven't experienced an economic collapse, a 20% loss seems apocalyptic. Keep in mind though, fewer than 50% of all small businesses survive 5 years. So from a stock market investor standpoint, a 5%, 10%, even 20% drop isn't irrecoverable. The problem with selling is that typically once sold, the cash flow ends.  This leads me to my final point. Time.

Time is the most valuable commodity. If something looks like a bear, walks like a bear, then it probably is a Bear Market. In answering the market cycle/timing postulation, an investor needs to be able to sleep at night. Being dead is bad for business. Time fixes most long-term problems in the stock market and your portfolio, but there are interludes, however, that are so volatile that many investors are shaken out permanently. Permanence is a long time. A way to avoid this is to buy a basket of quality, diverse, cash-flowing businesses over time. Have ample cash on hand (preferably with a healthy slug of gold too), and avoid leverage. These strategies can increase your resilience to selling, and increase your propensity to BUY in times of distress. When to sell? Holding periods should be thought of in decades, if not generations. Take a dynastic view of your gold dragon egg.