Saturday, August 4, 2012

Stock Talk - Rules for Common-Stock Selection

Welcome back to another round of Stock Talk.  I'm going over some of the words of wisdom using the book The Intelligent Investor.  I'm currently on Chapter 5 The Defensive Investor and Common Stocks.  Stock selection is probably the most important aspect in the whole process of investing.  As Robert Kiyosaki would tell you...you make your money when you buy not when you sell.  Let's take a look at some of the rules for selecting common stocks for the defensive investor.

The book breaks it down into four simple rules as follows:

  • Purchase a minimum of ten different issues and a maximum of thirty (For those with less than $10,000 it is my opinion to purchase a diversified index fund.  Reason being is the commissions will start eating away your profits.)
  • The companies you select should be large, recognized, and conservatively financed.
  • The companies you select should have a long record of continuous dividend payments (10 years or more).
  • The investor should impose a limit on the price you will pay in relation to its average earning over a certain time frame (such as 7-10 years, the book suggests limiting your purchase to 25 times average earning and not more than 20 times those of the last twelve-month period.)
These rules will eliminate a great deal of stocks that you would be able to purchase.  This is the whole point.  Understanding the company that you are purchasing is one of the biggest rules that great investors have.  Warren Buffett chooses not to invest in technology stocks because he says he doesn't understand them.  I'm certain this isn't the case...more accurately is probably that these companies wouldn't fall into these four simple rules since most publicly traded technology companies do not pay dividends.

I hope this Stock Talk is helping you understand a little more about what all is involved in the world of investing.  Again, my suggestion is to buy this book and read it.  Why buy?  Well, because I feel that this is a book that you will want to have in your library to pass down to your kids.  The words of wisdom will not change unless we eventually change economics to something like what exists in Star Trek.  I do not see that happening anytime soon...therefore you should get the book and start studying.

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