REA Group Research Checklist, September 2016 (Subscriber Content)

REA Group Research Checklist, September 2016 (Subscriber Content)


Checklist Background

This is where the magic happens, the Checklist is my key to finding great investments and creating solid portfolios.

This is the Checklist that I run every company through before I will add them to my Watchlist If they make it through this Checklist they then sit on my Watchlist as I patiently wait until they reach a price that I believe is cheap.  At which point I will begin to start buying them for one of the Portfolios.

The Checklist will change overtime and is slightly different for each unique company. I will continue to update, improve and revise it in small iterations constantly.

I won’t go into any of the technical detail here as the Checklist itself is detailed enough.  What I will say though is that as crucial as the Checklist is in helping me to determine if a company would be a great investment, I believe this technical analysis is less than 50% of the overall game.  The other 50% I believe is psychology and being able to think independently – especially when there is a lot of crazy noise all around.

From my experience most of my best investments have been purchased during a flood of bad news, either about a specific company, industry or the economy at large.  No matter how confident I am in the quality of my research, all the noise still tries to create some doubt in my mind.  To avoid this noise causing me to make stupid, short-sighted decisions I always aim to use the doubt to focus me on ensuring I have got my research in the Checklist right.  If I believe in the research I will then stick to my guns and ignore all of the ‘Chicken Littles‘ who are calling the end of the world, company or industry.

Warren Buffett, one of the worlds greatest investors, has a quote that sums this mental struggle up nicely,

“Be Fearful When Others Are Greedy and Greedy When Others Are Fearful”

I find I best absorb lessons when they are structured as stories, so here’s a brief example you may find interesting from my experience during the Global Financial Crisis (GFC):

Be fearful when others are greedy
In late 2006 / 2007 I couldn’t find anything to invest in, everything was just too expensive and going up by the day.  I can’t say I saw the GFC coming, I now know enough to know that I, or anyone else for that matter, can never pick when a major economic event like that will happen.  But what I do know is how to work out if a company is cheap or not – and in 2006 / 2007 I couldn’t find any of them.  Which usually means to me that the market is getting overheated.  So I just sat on my cash, gathered more, watched and waited.  This can be a really hard thing to do as an investor and I believe this point in a market upswing is the major trap that gets people into trouble.  Everyday the newspapers and news channels are talking about the huge gains in the sharemarket, your neighbours tell you their wealth has doubled in the past 18 months and your best friend says to you, ‘Man, you’ve got to get in on this investment it has doubled in the last month and they reckon it will triple over the next year!!’  For me all of this noise is just alarm bells warning me to be fearful.

The Crash
2008 was devastating, I watched many friends loose a lot of their hard-earned cash, saw and read about many others loosing their homes and even witnessed some poor retirees I knew have to return to work.  It was not fun to watch and is why I believe having a solid understanding for how the markets work can make a big difference to peoples lives.

Greedy when others are fearful
Personally, I was fortunate and was prepared for the crash – but still had no idea how desperate it would get.  By now many of the investments that had past my Checklist, and were on my Watchlist, were getting cheaper by the day.  So, I ignored all of the money flooding out of the market and the negativity being screamed at me from every angle and started to invest.  But it wasn’t easy.  I will use Flight Centre (FLT – an Australian listed company) as an example – as my experience with it was the most turbulent.  I had re-run FLT through the Checklist and made some adjustments for the assumption that their earnings would suffer from the downturn. Even taking that into account, at $13.00 they seemed cheap to me – so I began to buy.  Then FLT fell to $12.00 and I bought some more.  At $11.00 I bought again.  $9.01 again.  $8.01 again……. $4.50 again.  Think about this for a minute.  I was still buying at $4.50 when my initial investment in FLT at $13.00 was now only worth about a third of my original investment.  This isn’t easy to stomach when the rest of the world is screaming armageddon.

This is why I have the Checklist, to ensure I am confident enough in my analysis to stay on track, hold and continue buying if the market offers me even cheaper prices than I have previously paid.  This is also why I believe the Checklist (fundamental analysis) is less than 50% of the game of investing and the rest is understanding psychology and human nature.

To round out this story…. In December 2010 FLT was trading at $24.00 and in March 2014 FLT traded at a high of $55.72.


 
Checklist Introduction

I follow a value investing model based on my studies and learnings of great investors that have gone before me such as Warren Buffett, Charlie Munger, Benjamin Graham, Peter Lynch, Phil Fisher, Joel Greenblatt, Howard Marks, Jim Rogers and others, plus my own 10 years + of accumulated experiences.  From this research I have created and continue to update my checklist.  Before I invest in any company, I always run it through this checklist.

The checklist is broken into two parts:

  1. Determining if a company is worth investing in, and
  2. Determining at what price I would invest in a company that is worth investing in.

I have a rule (borrowed from Warren Buffett) that I will only invest in a company if it is simple enough for me to understand, the Checklist is all pretty straight forward and uses only simple mathematical formulas.

Notes
– For research I use comsec, google finance, yahoo finance, Intelligent Investor, company annual reports, sometimes ring company executives, sometimes visit company premises, sometimes speak to customers and then google everything else.
– I prefer 10 years of historical financial data for my analysis, but will work with 5 or less if that is all that is available.

References
– The New Buffettology, Mary Buffett and David Clark
– One up on Wall Street, Peter Lynch
– The Most Important Thing, Howard Marks
– The Intelligent Investor & Security Analysis, Benjamin Graham
– You can be a Stockmarket Genius (Good book despite the name), Joel Greenblatt
– Common Stocks and Uncommon Profits, Phillip Fischer
– Street Smarts, Jim Rogers

 



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