Archive for February, 2012

Finance 101: Why A Stock’s Price Doesn’t Matter

By: ispeculatornew | Date posted: 02.29.2012 (5:00 am)

Last weekend, I spent a decent amount of time discussing the upcoming Facebook IPO, which seems to be on everyone’s mind these days. Everyone has their own opinion about it, which is certainly a great thing. Many think that Facebook is the biggest sign of a bubble while others such as myself think it’s a great bargain . Obviously, the types of discussions that I have when discussing with some friends and co-workers that work in the financial industry are incredibly different from those I can have with friends or family that is farther away.

One discussion that I had regarding Facebook with a few people was regarding the stock’s price when it would IPO. More specifically, I had comments like this:

“Would you buy Facebook if the stock’s price is at $100? Or what price would you be willing to pay?

At first, I thought it might simply be a communications issue so I would answer something like:

“I don’t really care about the price, I do think that at a $100B valuation, it is still a good deal”

I would then get some confused looks and answers regarding how:

“Apple (AAPL) and Google (GOOG) actually deserved their high prices considering all of that success but that there were too many questions regarding Facebook.”

Clearly, I think that these prices cause some confusion so today I thought I would write about this. Let’s use a simple example with smaller numbers. Let me know if you think this all makes sense.

Imagine a company named Facebook that is looking to start sellings its shares. For this example, let’s imagine that it will sell all shares of the company, which it expects to be worth $1000.

Facebook currently makes:

-Annual revenues $38
-Annual profits: $17

Is the price of $1000 too high? Let’s forget about that question for now and simply focus on this. Facebook is hesitating between two structures:

Sell 10 shares
Sell 100 shares

If it decides to sell 10 shares, those will be sold for $100 and each share is basically accumulating $3.80 of revenues and $1.70 of profits.
If it decides to sell 100 shares, those will be sold for $10 and each share is basically accumulating $0.38 of revenues and $0.17 of profits.

As an investor, let’s imagine that I have decided to buy Facebook shares and have $100 to invest. Which do I prefer? Buying 10 shares at $10 each or buying 1 share for $100? It comes out to the same thing!! In both cases, I will be owner of 10% of the company and thus have “rights” to 10% of the profits.

So do I have any preference between a $100 or a $10 price? No, not at all.

Back to my example. When I say that I don’t care about the share price but about the valuation. What I mean is that:

-I do not care if I get 10 shares at $10 each or 1 share at $100 each
-I do however care very much if the company decides to sell its shares at a valuation of $2000. In that case, my $100 would buy me 5% of the company’s profits instead of 10%.

Is this example clear at all? Do you agree?

I Am Not A Momentum Trader

By: ispeculatornew | Date posted: 02.28.2012 (5:00 am)

In the past few weeks, I received 3 emails that from readers that were under the impression that I was trading on momentum. Why? My guess would be that:

-they received our newsletter where I discussed the top 50 trending stocks
-they also noticed that I often give trend analysis scores when looking at stocks

So yes, I understand where the thought process comes from but let me be clear, I am not a momentum trader, have never been and never will.

Am I Contradicting Myself?

Why would I even bring up trend information or moving averages? The top 50 trending stocks was honestly something I stumbled onto and thought was interesting but no, I would not trade on that basis. As for trend analysis scores? Basically, as I have said, I make my investment decisions primarily based on fundamental analysis. I look mostly at valuations compared to their earning power through P/E ratios, PEG, and other such metrics. That being said, I do still use trend analysis on a consistent basis and look at such information on pretty much every trade.

Am I Making Sense?

I believe there are thousands of different ways to make money while trading. The important is to find our own method, improve it and stick to it, not try to trade using dozens of different methods. Personally, I like to trade based on fundamentals, mainly P/E ratios. But I also try to avoid certain types of trades. One of those is going against strong momentum. I found out the hard way 2 years ago when shorting a few stocks such as Baidu (BIDU) which was exploding. A couple more such trades and I vowed to avoid such trades.

Momentum Traders

In my opinion, a momentum trader will look for trades that respect certain technical criterias. That is very different from someone who looks for fundamental trades, finds a few possibilities and then uses technical data to exclude a few. At least I think so.

Do you agree? Do you think I trade based on momentum? What about you? Do you use technical indicators?

New Trade: Long Amazon (AMZN) & Short Netflix (NFLX)

By: ispeculatornew | Date posted: 02.27.2012 (5:00 am)

It has been a year filled with some ups and downs already and while last week was clearly a good one, it did still also mark a new trade being closed as I announced earlier this morning. That being said, I’m still very comfortable with the current positions and today should certainly be an interesting pick. It might come as a surprise to many of you..! Let’s start off by looking at the numbers for both companies, I can then explain myself:)

[table “369” not found /]

Long Amazon (AMZN)

Amazon has not been on a good streak recently. Why? It mostly has to do with what the company announced in its latest earnings report. Slow margins, diminished profits and the prospect of losing money in 2012. There wasn’t much to smile about really. Then came rumours that Amazon “Prime” had much fewer members than most had expected (Amazon does not release this number among many others so this came from a leak). Clearly, there is not much momentum at Amazon tese days. I would argue though that this is exactly the perfect time to buy a stock like Amazon. Why? Amazon has been insanely expensive for some time now. Now, the company, as it has done a few times in the past, has decided to sacrifice short term earnings in order to build a bigger, better infrastructure (Warehouse shipping), a better relationship with clients (Prime), new headquarters to support anticipated growth, a tablet that seems to be the closest thing to an iPad competitor as we can get. These are ALL GREAT MOVES. Amazon is not losing market share, not seeing out of control costs or pressure on pricing, etc. It is doing the long term thing for shareholders in my opinion.

Short Netflix (NFLX)

With all of that being said about Amazon, it is still a fairly difficult stock to trade in my type of trading because of its very high P/E ratio. One way to do it though is finding a stock that is trading at an almost identical ratio. Netflix has also seen diminished margins but on its end, it was caused by bad moves that ended up hurting the numbers of customers, revenues, etc. Those are slowly being turned around but it turned out to be a perfect opportunity for competitors to start jumping in. Clearly, while Amazon has limited downside in my opinion, Netflix has an almost opposite scenario with some upside but also a lot of downside with growing competition from Amazon, Comcast, Google, Apple and others. I have and continue to believe in Netflix, but in terms of valuations, I believe Amazon is much more attractive now.

Disclosure: No current positions on Amazon (AMZN) or Netflix (NFLX) but I would be opening one on Monday’s opening

Closing Trade (GOOG, VCLK)

By: ispeculatornew | Date posted: 02.27.2012 (12:45 am)

Unfortunately, despite what turned out to be a decent week with the Apple (AAPL) and Blue Nile (NILE) pick doing well and an improved averaged on my overall picks, I did reach the stop loss limit on one trade which I will be closing out this morning, long Google (GOOG) and short Valueclick (VCLK). The trade currently stands at -20,55% and is barely (but past) my limit of -20%!

How To Transform Your Dividend Portfolio Into An ETF Portfolio

By: ispeculatornew | Date posted: 02.24.2012 (5:00 am)

This is a guest post from BuildYourETFPortfolio.com, a website dedicated to helping investors manage their own retirement and other portfolios by buying and holding ETF’s….

Dividend investing is not only a great way to accumulate money but it’s also something that is fun to do, at least it is for me. I and many others that I know have started building a dividend portfolio and I personally feel like this could go on for a very long time. Why? Because even when I retire, I still expect to be more than capable of spending a few hours every month to look over my portfolio, reinvest any new amounts but also make any necessary changes to my existing positions.

I Won’t Go On Forever Though

As much as I’d like to pretend like I will be dividend investing, playing golf and running half-marathons for the next 50 years, chances are that it will not happen. Someday, I will unfortunately start to lose some mental and physical capability, I might even start to lose interest. Hopefully that won’t be the case but life can change so quickly that I think it’s much more prudent to be prepared.

Have An Alternative Plan

If tomorrow morning, you became unable or unwilling to manage your dividend portfolio, what would happen to it? If you picked some great stocks with an approach focused on dividend growth, chances are that you’d be fine and collecting nice dividends every month. After some time though, you might start having some “dogs” in your portfolio. Those would likely increase over time.

I personally think that building an ETF portfolio is a great alternative for when that time arrives. Why?

-An ETF portfolio is much easier to manage (could spend at most 1 hour per month)
-Fees remain very reasonable
-You remain in control of your finances
-Etc (for a full list of ETF portfolio benefits, visit BuildYourETFPortfolio)

The point is that you can easily build an ETF portfolio that will have great diversification with only 5-10 ETF’s. Those will likely have hundreds of different holdings which will give you solid diversification. We did build quite a few smaple ETF portfolios but once that you might be very interested in would be an “income focused ETF portfolio” that could include:

-Dividend focused ETF’s
-Fixed income ETF’s
-REIT ETF’s
-etf

Depending on where you live (Canada, US or elsewhere), the composition of your portfolio might change slightly but the main point is that you could simply try to stay as close as possible to your target weights by doing a handful of trades every year and would be achieving a return comparable to what you currently have with a dividend portfolio.

Downsides

Of course, I will not stand here and pretend that there are only benefits. If there were, what would be the point of even building a dividend portfolio? The two main ones in my opinion are:

Costs: Even if ETF’s are much cheaper than other managed alternatives, they still set you back 0.40% or so every year, which compounds and does become significant over time. It’s an incredible bargain when compared with mutual funds for example but still adds up if you compare to a dividend portfolio that does not incur such fees (there are more trading costs though).

Less Control: While there are many specialized ETF’s, nothing beats the power of buying exactly the stocks that you believe in, and avoiding those that you don’t. Obviously, that is not something you can do with ETF’s and often you might not even know what exactly the ETF holds. I would still argue that in the end, you will be able to find an ETF and/or combo of ETF’s that will make the portfolio representative of what you’re looking for.

Transition

I think one important part about moving from a dividend portfolio to an ETF portfolio is to ideally go through a transition period. You can subscribe to the BuildYourETFPortfolio mailing list to get a step-by-step series of emails that explains how to actually get it done. It’s easier to take time to get familiar with the asset classes, ETF’s, sample ETF portfolios, etc. To start off, I would simply start by reinvesting any income and new contributions into ETF’s and as time goes by and you feel more comfortable, you can transition over more of those assets over. Having a combination of ETF’s and dividend holdings can make a very strong long term portfolio so any investor can start off there.

In the End

I think it’s important for all dividend investors to stat considering adding ETF’s to their holdings sooner than later as they can both add a lot of benefits and become a much easier portfolio to manage, especially as we become older. What are your thoughts on this?

Do you hold any ETF’s?

Do you have any plans regarding the longer term direction of your dividend portfolio? I would love to hear from you.

Getting Ready To Jump On That Facebook IPO

By: ispeculatornew | Date posted: 02.23.2012 (5:00 am)

A few weeks ago, I wrote about the fact that Facebook will be able to help in many ways online as it becomes a more “reliable” ID for each person. I’ve written quite often about how Facebook is the company that I would most like to buy right now if that was possible, even explaining in depth what I think of the $75-100B valuation. A reader asked me why I was writing this, that it could drive others to buy and make it more expensive. It’s flattering that someone thinks I have that much influence but I somehow doubt it. I also sometimes wonder if I’m wrong here, if I’m missing something that would make me back off. So far, nothing. Nothing to convince me that Facebook will not turn out to be the next Google.

Am I Setting Myself Up For A Big Disappointment?

As you all know, in the end, it’s all about valuation. It’s difficult for me to tell you exactly how much I think Facebook should be worth right now as that would take me an incredible amount of time and depends on so many different factors. That being said, I will probably do this exercise at some point. What I can tell you is that the current $100B valuation is a major bargain. However, there is certainly risk that it will come out at a much higher price with tons of hype and millions of small and big investors wanting to get a piece of their favorite social network. That scenario gives me nightmares…

Facebook Right Now

Facebook is bound to become the biggest internet IPO in history, by far. It is expected to raise $10B at a $100B valuation. To give you an idea, that is 6 times more than Google raised in 2004. What explains the valuation? Facebook has over 800 million users and by some reasonable estimates, it will reach 1 billion users by August 2012… By that measure, Facebook’s valuation would imply a value of about $100 per user. I don’t know about you but that does not seem outrageous to me. Far from it.

1 billion users! How many people on earth can actually connect to the internet? 3 billion maybe?

That being said, getting users is hard, getting them to log in every day is that much more difficult. Yet, over 500 million users log into Facebook every day. That is very impressive.

Facebook is expected to have generated a bit over 4 billion in revenues last year, mostly through advertising. How? Facebook is now getting 1 out of 6 display advertising dollars on the web as it moves past Google, Yahoo, Microsoft and others.

We’ve Barely Scratched The Surface

I think that Facebook will be able to keep up the growth in users although that will slow down obviously. What will accelerate though is growth in revenues. As time goes by, thousands of companies around the world are becoming more committed to Facebook, they are putting money into their Facebook pages, into getting users there, etc. At some point, Facebook will start to shift a bit of its focus to making more money and that is when growth will explode in my opinion. Facebook is doing the smart thing right now to focus on users and making a better product. Why?

Facebook Is Taking Control Of The Web

As times goes by, we have seen competitors such as Google become more nervous about Facebook. Why? Because users are spending an increasingly large amount of time in Facebook, doing all kinds of things that Google cannot help with, get involved in or even know about. A few years ago, Google was the dominant player around which the internet revolved. That has started to change as the internet is starting to revolve around Facebook instead. That is priceless!!!

So please Facebook, get this over with, go public at a $100B valuation, let everyone talk about the bubble and how the value is insane… I’ll be working my buy orders:)

Dealing With Information Overload When Investing

By: ispeculatornew | Date posted: 02.22.2012 (5:00 am)

It’s a rather common feeling these days isn’t it? I generally feel like I have a fairly good grasp of most stocks that I follow but even that isn’t always true.

Think about how things were in previous generations:

Someone thinking about buying a stock might have bought a newspaper, looked at a few columns or an article about that company and tried to figure out how good of an investment it is. That research would probably have taken a few minutes…then what?

Researching A Stock In 1960

-Reading newspaper to get stock quotes and economic analysis

Researching A Stock In 2012

These days, that process can lead you down a very exhausting road:

-Looking at charts getting technical indicators such as trend analysis
-Going to read the company’s financial reports
-Listening to earnings calls as well as Q&A with analysts
-Going through Wall Street and other research which is often available on the web
-Going through media such as the Wall Street Journal and The Globe and Mail
-Going through Blogs analysis (this one alone could take many days)
-Looking at social media talk about the stock (Twitter, etc)
-Doing a similar analysis for the sector and for both clients and suppliers

There Is No Way To “Complete” Your Analysis

At what point would you consider that you’ve gone through all of the information? It just seems to me like you can never reach that point. At that point, the game becomes as much about being able to judge:

-what information has most value
-how to go through it quickly but efficiently
-how to either come to a conclusion or move on to a new stock if it non conclusive

Personally the RSS Reader Is My “Filter”

I personally have many of my top information sources setup in my RSS reader and every day I go through them very quickly marking those that I want to read further. How? I guess to some extent I must rely on the title and images to seem accurate as I probably spend a few seconds at most to make that determination.

How do you deal with information overload when investing?

New Stock Pick: Long Apple (AAPL) & Short Blue Nile (NILE)

By: ispeculatornew | Date posted: 02.21.2012 (5:00 am)

Well after an amazing start to 2012 in terms of stock picks, the last couple of weeks have been much more rocky and in fact my average stock pick is now barely break even which is a disappointment of course. I am not worried too much about it because this a long term strategy (even though picks are fairly short term ones). After closing out 2 picks last week, I am back in today with a very familiar pick.

In fact, it is the 3rd time this year that I go long Apple (AAPL) against Blue Nile (NILE) always based on valuations. Let’s start off by looking at the numbers for this trade:

[table “368” not found /]
.

Long Apple (AAPL)

I have been extremely bullish on Apple for some time now, wrote about it on this blog, wrote a much more detailed analysis in the free technology stocks newsletter and as one reader pointed out, I’m not even considering all of the government and business activity that used to go to Research in Motion (RIMM) among others and is quickly moving towards Apple. Just last week, I read about dozens of schools that are now making the iPad mandatory for students. This will quickly result in big profits. So yes, Apple is crazy cheap and it’s no surprise that I’m getting right back on the bandwagon.

Short Blue Nile (NILE)

You might think that I would be done trading Blue Nile. Why? As much as I’ve had some bad calls this year (shorting RAX on earnings day was the worst), being short Blue Nile has consistently paid off, both this year and in the past. The company did report earnings last week which helped to stock decline much further even. How could it have not? How could NILE possibly live up to its sky high valuation? The fact is though that the stock recovered some. And clearly some think it is undervalued. NILE’s management announced a stock buyback program. Those always leave me confused. Is the company buying because it thinks the stock is really cheap or because it wants investors to think just that? Hard to say, but I am once again more than happy to hear out any believers in this stock. Until someone convinces me otherwise, I’m more than happy to short NILE once more:)

Disclosure: No positions on Apple (AAPL) or Blue Nile (NILE) but this trade will be opened on Tuesday morning

Social/P2P Investing – What? How? When?

By: ispeculatornew | Date posted: 02.20.2012 (5:00 am)

I have discussed passive income quite a few times in the past months and clearly, dividend investing is a great way to get passive income that can grow over time. I have also looked at alternative ways such as fixed income investing, real estate, etc. There is one other way that you might have (or not) heard about. It is Peer-To-Peer Lending or Social Investing.

What Is Social Investing?

I think it’s very easy to think that this product is more complex than what it really is. Let’s go back for a second. One of the biggest impacts the internet has had in the past few years is take out middle actors that only take a cut. How? Buying a product like clothes or games directly from the company that produces it is one way to get it done. If you buy a shirt from the Nike or Adidas website, the company saves in many different ways as there are less costs involved.

Take Out The Banks

Think about it for a second, you, I and millions of others deposit money in our bank accounts, leaving it there for weeks, months and sometimes years. What interest does the bank usually give you on that balance? 1%? If you’re lucky, maybe. If you are using a company like ING, maybe a bit more.

Now, what does the bank do with that money? Many things but its main use is lending out that money to individuals and companies. So let me ask you another question. If you go to your banker and ask for a loan to help pay your studies, to start a small company or to help your loved one get medical treatment, what kind of rate do you think the bank will charge you? 5%? 8%? 10%? It depends on many factors, mainly your risk profile and credit rating of course.

But you can see how the bank takes a very big cut.

Take Out The Bank

P2P lending or social lending and investing is built on the idea that both lenders and borrowers would be much better off if they could deal with each other instead of going through a bank that will take a huge cut. These sites can be used to borrow money and/or lend it out. Since this is an investment blog, I will only discuss the lending/investing part of it.

Generating Passive Income

One of the good ways to generate passive income would be to invest money on a social investing website. How is it done?

Step #1-Send money over

This is similar to opening a broker account

Step #2-Choose who you are lending to

This is the more challenging step. You will be able to see the profile of those borrowing, what they intend to use the money for, their credit rating, etc. I personally think the key to all of this is to diversify your loans as much as possible. You do not want to spend 10 hours trying to determine who to lend to but putting your entire amount on 1-2 borrowers doesn’t sound like the greatest idea either. I would diversify as much as possible and personally would prefer investing in high quality borrowers to start off, even if the interest rates will be lower.

Step #3-Monitoring The Loans And Reinvesting Money

This is actually very similar to building a dividend portfolio. Over time, you would look to increase the diversification and the size of your portfolio.

How To Get Started? Since social lending and borrowing is fairly new, it is very complex for websites to start operating everywhere and in the US and Canada, they must go state by state or province by province. It will get much better over time as regulators get a better understanding of how this works but it is already available in many locations. Here are some places that you could try.

LendingClub
Prosper
Communitylend (only Ontario for now)

Beware

Since social lending remains fairly new, there are obviously risks involved, which seem to be compensated by the higher rewards but it’s still worth being very careful. I will likely try to get started in the near future and will certainly keep you posted.

Have you tried this from a borrower or lender perspective? If so, how was that experience?

How Much Would You Pay To Play This Game? The St-Petersburg Paradox

By: ispeculatornew | Date posted: 02.17.2012 (5:00 am)

Today I wanted to write a lighter post about a theory or game that I read about in the Wall Street Journal a few days ago. They wrote about it in regards to Facebook, which I did not entirely understand for but that does not matter much. I had never heard about it and maybe you had not either. First, I will introduce this “game”. Suppose that you entered a casino that had a new game, from Wikipedia:

Consider the following game of chance: you pay a fixed fee to enter and then a fair coin is tossed repeatedly until a tail appears, ending the game. The pot starts at 1 dollar and is doubled every time a head appears. You win whatever is in the pot after the game ends. Thus you win 1 dollar if a tail appears on the first toss, 2 dollars if a head appears on the first toss and a tail on the second, 4 dollars if a head appears on the first two tosses and a tail on the third, 8 dollars if a head appears on the first three tosses and a tail on the fourth, etc. In short, you win 2k−1 dollars if the coin is tossed k times until the first tail appears

Basically, an investor would have a probability of earnings money that looks something like this:

50% of investors would win $1
25% of investors would win $2
12.5% of investors would win $4
6.25% of investors would win $8
3.125% of investors would win $16
Approx 1.56% of investors would win $32
Approx 0.78% of investors would win $64
Approx 0.39% of investors would win $128
Approx 0.20% of investors would win $256
Approx 0.10% of investors would win $512
Approx 0.05% of investors would win $1024
….

You can imagine how the list goes on. One of the interesting parts here is that the gains are actually unlimited. That is also why no casino would ever offer this game.

How Much Would YOU Pay To Play This Game?

I think it’s a very interesting question honestly. Why? The answer would tell a lot about your profile and in most cases I would argue that it says a lot about your investor profile. Why? Investors that like risk a lot will tend to pay a lot to play this game as they can see the expected value of this game as being very high. That being said, the large majority of investors would end up as losers in this game for a lucky few to come away with huge gains.

Interesting On Many Levels

First of all, as an investor, my first thought was to figure out the “expected valued” or “average gain” that an investor would expect. In this case, it is impossible to calculate. In fact, the “expected gain” is infinite since an investor could in theory hit 10, 20 or even 30 straight “faces” making $1024 for the first scenario but those gains move up quickly. For example, someone hitting 20 straight would win over $1 million…!

I would also think that our background would have a significant effect on how such a game is perceived.

I read that the average amount potential players were willing to pay to play was $20 or so… I would tend to pay higher. How about you?