Over Christmas, I read Roger Lowenstein’s fantastic biography of Warren Buffett, one of my financial heroes. Because I currently prefer to invest through index funds, it was fascinating to read how Buffett has been able to make billions by purchasing individual stocks.
Next, I picked up the new book from David and Tom Gardner: The Motley Fool Million Dollar Portfolio. It was the perfect follow-up to reading about Buffett. “This book is about picking great stocks,” write the authors in the introduction, and it’s true. Over the subsequent pages, they describe a variety of techniques for finding individual stocks that are worthy of investment (and not just speculation).
Stocks that don’t suck
I don’t write much at Get Rich Slowly about investing in individual stocks. For one thing, I have a pathetic track record in choosing good companies. In the past, I’ve been a speculator and not an investor. Some of my choices include:
Fortunately, I’ve never had huge sums to invest in these speculative bids. All the same, I’ve lost thousands of dollars in bids to get rich quickly in the stock market. Because of my experience, I’ve come to admire the virtues of indexed mutual funds.
All the same, I recognize that it is possible to build a great investment portfolio from individual stocks. Many GRS readers are interested in doing just that. And I, too, would like to allocate some portion of my money to buying stocks — now that I have the urge to speculate out of my blood. In their book, the Gardners write:
If you have the time, ability, and interest, individual stock investing is the single best way to build you own million-dollar portfolio.
Though the authors advocate picking individual stocks, they’re as wary of fees as any index fund investor. They believe active trading is dumb. They’re advocates of buy-and-hold. The Gardners also write that there are two components to investing well:
- Picking the right stocks.
- Building a balanced portfolio (i.e., diversifying).
“In the end,” they write, “you want 100% of your money invested in companies that don’t suck, and 0% in companies that do.”
Each chapter of Million Dollar Portfolio explores a specific investment strategy. The authors note that “each [strategy], practiced well, can and does beat the market.” Some of the methods covered include:
- Dividend investing, which involves buying stocks that produce consistent income through the use of “dividends”. MDP argues that dividends are the investment world’s “allowance”. When you own a dividend stock, you receive a periodic payment just for investing.
- Value investing focuses on buying companies trading for less than what they’re worth. It’s about buying good companies at a great price. “The excitement of blue-chip value investing comes from looking at long-term charts of what value stocks do as a group over a period of decades.”
- Small-cap investing attempts to find “hidden gems” — stocks from smaller companies that tend to be ignored by large institutional investors.
- Growth investing. Growth stocks are those expected to produce above-average earnings over the near future. Increased earnings lead, in theory, to increased profits, and to higher share prices.
- International investing, which allows you not only to diversify, but also to find stocks in other countries that might be better than those in our own.
The authors lay out the basic techniques of each style, and then provide case histories. Along the way, they explain investing concepts like P/E ratios, book value, “market cap”, rebalancing, and more. Though they write about individual stocks and not index funds, much of the advice is familiar: buy and hold, diversify, etc.
Million dollar portfolio
Million Dollar Portfolio includes more than just information about choosing stocks. The book also features:
- A chapter about CAPS, the Motley Fool stock-researching tool (which Get Rich Slowly has covered before).
- A discussion of asset allocation and diversification.
- A short section on the financial collapse of 2008. The Gardners look at the causes, the reactions of big investors, and the prospects for small investors like you and me.
The Gardners also stress the importance of investing as soon as possible. They write that the biggest mistakes that American investors make are:
- Never starting.
- Starting too late.
- Picking poor stocks.
As many have argued, the best time to begin investing is now, whenever now may be. Because of the power of compounding, time is the investor’s best friend.
I was ready to hate this book, but I didn’t. I found it fascinating. I loved the information about how to evaluate stocks. I’m not ready to abandon index funds, but I am eager to learn more about dividend investing, the method that seems best suited to my personality and goals.
I also like that the book doesn’t just tout successes. Each chapter describes a particular investment strategy, explains the method, and then illustrates it with two or three successes. But each chapter also includes a real-life mistake the authors have made. These examples of choices gone wrong are often more instructive than the picks that worked!
Note: I recently had a chance to interview author David Gardner. Look for an excerpt from that conversation later today.