This is an age-old question every person that looks to the stock market must ask themselves – am I an investor or speculator? Or more importantly, what exactly is the difference between the two? The easy answer to this is that it really depends on the mindset, or underlying philosophy, of the person playing the market, and what their main goal they want to accomplish. Answering these two questions are essential to the education of an online beginning investor.
Here at Value Investing for Beginners, we work to alleviate some of those issues and make them less confusing for the average person. We spend our time learning and teaching those wanting to take control of their retirement the strategies and philosophies of the value investor. We look to people like Warren Buffett, Charlie Munger, Guy Spier, and Mohnish Pabrai for inspiration and guidance as we begin to build our own portfolios.
What does it mean to be a speculator
“The most realistic distinction between the investor and the speculator are found in their attitude toward stock-market movements. The speculator’s primary interest lies in anticipating and profiting from market fluctuations. The investor’s primary interest lies in acquiring and holding suitable securities at suitable prices.” The Intelligent Investor, Benjamin Graham
The mindset of most investors in the United States today represent more of what Graham would classify as a speculator – mainly they are trying to time the market and make a few dollars in the process. Granted, making money is never a bad thing, but the main impetus behind the speculator is that they are hoping to “time the market” or rely on gimmicks to make money and there is very little research to back their picks, and they tend to pick off of emotional basis rather than researched, logical basis.
The speculators, which encompasses the majority of the modern day investors, base their decisions to purchase a stock on the hopes that they can make money by selling the stock at a higher price than they bought it for. This approach pins the investor’s hopes on timing mechanisms and gimmicky market strategies that give up long-term commitments and investment discipline. Regardless of how great the draw is strategies for timing the stock market are more likely to leave the investor poorer than richer for having tried.
Speculating also eschews the first rule of the four main principles of Warren Buffett: buy stocks in companies that you understand. Most speculators tend to purchase stocks based on tips, news of something good/bad happening, or that the stock is ‘hot’ right now, yet really nothing more about the company than the stock price at that moment. The cause of the fluctuations can be anything and are unpredictable at best causing the risk to outweigh the rewards. Having even the most rudimentary knowledge of the company could help alleviate a lot of this risk, but the speculator is more concerned with making the dollar now rather than making more later.
What exactly is an investor
“Price fluctuations have only one significant meaning for the true investor. They provide him with an opportunity to buy wisely when prices fall sharply and to sell wisely when they advance a great deal.” Benjamin Graham, The Intelligent Investor
If speculating is based on the idea of making money quickly based on the fluctuations of the market, then investing would be the making of long term profit regardless of the market fluctuations. To put it more succinctly, “investing is forgoing consumption now in order to have the ability to consume more at a later date.” (2/6/210 www.daslee.com) In order to accomplish this feat, investors by nature have to have stronger discipline and research to back their decisions, and to supplement their mindset too.
Investors follow the Warren Buffett adage of when you buy a stock, you’re not just buying a piece of paper or a ticker symbol, but buying an ownership stake in a BUSINESS. Investors take the time to research a business/company/stock prior to purchasing the stock. They will look into the fundamentals of a company and compute several ratios to help them determine the value of the stock in relation to its price long before deciding to actually purchase the stock. They also see holding onto the stock for long periods of time as being beneficial to their financial success.
For those investors that are looking for a more stable approach to increasing their investments, the use of value investing would be the next evolution.
Value investing is the next evolution for those people that want to increase their potential earnings through a simple, yet effective process.
How does value investing help with retirement
An investor looks for long term profit from owning stock in a company. A value investor looks for good companies at a fair price and not fair companies at a good price. What that means is that a value investor takes what an investor does to the next level by adhering to four basic tenants:
Invest in companies that they understand.
Invest in companies with long term prospects.
Look for companies with honest, competent managers (Buffett calls it vigilant leadership).
Look for attractively priced stocks (aka undervalued stocks).
These four tenants, as outlined by Warren Buffett, are easy to do in theory, but will take some practice to become comfortable with. I would add a fifth tenant of:
5. Look for companies that have a history of progressive dividends.
Let’s look at each of these four, plus one, tenants further and apply them to being a beginning value investor.
- Investing in companies you understand
Each investor will have different areas of interest and expertise to fall back on, and those areas will influence what stocks and/or categories of stocks to invest in. Regardless, the value investor, by nature, spends a lot of time getting to know the stocks in their portfolio and carefully researching companies before investing into those stocks. An example from my own portfolio would be the sizable percentage of real estate investment trusts (REIT). Having spent the last three years researching, off and on, into the fundamentals of what makes a REIT successful. I am very comfortable adding specific REIT into my portfolio as a long term investment. I am also very picky as to which kinds of REIT I add to the portfolio too. Yes, there are sub-categories of REIT just like in every other stock category.
What I am not comfortable with is the technology and currency areas. Stocks that deal with things like emerging technology or cryptocurrencies (e.g. BITCOIN) are not in my wheelhouse, so to say. For those that understand them, there is a lot to made from them, but due to my lack of understanding and my specific level of risk tolerance they are not for me.
2. Invest in companies with long term prospects
This area takes research and the use of specific tools to truly understand what makes a company one that has long term prospects. Warren Buffett would refer to this as investing in a company that would be here for the next thirty years. A more reasonable approach would be to look for sustainable businesses. If you have any doubts that a company’s products will still be in demand in 10 years, that’s would be a big warning sign.
Warren’s reluctance to invest in social media stocks is based on this premise – he just doesn’t have enough of a track record for him to invest in these kinds of stocks.
3. Look for companies with vigilant leadership.
This one is the hardest of all of them to quantify, but with an astute eye one can look at the financial statements of a company to learn how the management runs a company. Usually stocks that have shown a long history of growth and investment (e.g. dividends) will have leadership that has a strong balance between growing the brand and repaying the owners (stockholders) and manage the finances of the company efficiency.
Ratios like return on equity (ROE) and net income are strong indicators towards a company’s strength, but those ratios will differ from industry to industry and sector to sector. I will have posts on those, as well as how to read financial statements later.
4. Look for undervalued stocks
Intrinsic value is the name of the game here and is one area that will take a lot of time, and math, to truly understand. Basically, what we are looking for here as a value investor is to find a stock that is selling for under what its true value is. Yes, I know that sounds obvious, but it is a little trickier to understand when a company is truly undervalued.
Finding the value of a stock takes some time and the ability to decipher what a financial statement is telling an investor. Dividend histories, debt to income, equity and liabilities, and all that jazz are essential components to the language of a value investor; and allows them to create a value for the company in relation to what it is really worth. I will have more posts on determining intrinsic value and tools to help a beginning value investor to help locate undervalued stocks.
5. Progressive dividend history
This is my own addition to Buffett’s Four Rules, but is one that fits nicely with my financial priorities and philosophies. This idea is not one that is new, but one that is overlooked by amateur and professionals alike, but has another compounding effect on a portfolio.
These are businesses that have both the desire and ability to pay shareholders rising dividends year-after-year. The idea behind this type of investment is to find stocks that increase their dividends each year thus increasing your portfolio’s earning power, especially if the investor reinvests the dividends to purchase more shares. The use of Dividend Aristocrats and Dividend Kings, as researched by the folks at Sure Dividend.
Value investing and investing for beginners is predicated upon the idea of owning and holding onto a stock, a piece of a company, for long periods of time and using the market fluctuations to increase their portfolios. Value investors are not in it for the quick buck, but seek to use time to their advantage by investing in great companies with a good value. This takes a patient and disciplined approach, yet lacks the stress and brokerage fees associated with those that speculate on the ups and downs of Mr. Market.
Granted, each approach has their own strengths and weaknesses, but it is of the opinion of those of us at Value Investing for Beginners to take the longer term approach to gaining value in our retirements.