Uncategorized Digest

Markets have their own cycles. When the average P/E gets that high, it often ends in a crash.

venture capital -- firms and individuals that specialize in investing in other businesses.

MARKET CAPITALIZATION -- or market value -- is a term you'll come across a lot, so we'll define it right here. It's the number of shares a company has outstanding in the market, multiplied by the share price. If a company had 5 million shares outstanding and each one traded for $5, its "market cap" would be $25 million.

Value investors look for stocks that have been overlooked by other investors and that may have a "hidden value." These companies may have been beaten down in price because of some bad event, or may be in an industry that's looked down upon by most investors. However, even a company that has seen its stock price decline still has assets to its name -- buildings, real estate, inventories, subsidiaries, and so forth. Many of these assets still have value, yet that value may not be reflected in the stock's price.

Value investors look to buy stocks that are undervalued, and then hold those stocks until the rest of the market -- hopefully -- realizes the real value of the company's assets.

Warren Buffet is usually recognized as one of the greatest investors of all time, and his approach to buying stocks is grounded in the value approach. As Chairman of Berkshire Hathaway, Inc., headquartered in Omaha, Nebraska, Buffet has managed to increase the book value (the total net worth of the company on its books) at a compounded annual growth of 24.1 percent.

Investors who focus on growth try to predict which companies will grow faster in the future -- faster than the rest of the stocks in the market, or faster than other stocks in the same industry. If you're successful in buying a company that does grow faster than other companies, then it's likely that the price of that company's stock will increase as well, and you can make a profit.

The stock of a company that grows its earnings and revenues faster than average is known as a growth stock. These companies usually pay few or no dividends, since they prefer to reinvest their profits in their business.

Peter Lynch primarily used a growth stock approach in managing the Magellan mutual fund. Individuals who invest in growth stocks often prefer it because their portfolio will be made up of established, well-managed companies that can be held onto for many years. Companies like Coca-Cola, IBM, and Microsoft have demonstrated great growth over the years, and are the cornerstones of many portfolios. Most investment clubs stick to growth stocks as well.

A close cousin of momentum investing is an approach called CANSLIM. CANSLIM is a philosophy of screening, purchasing, and selling common stock described and developed by William J. O'Neil in his book "How To Make Money In Stocks." Using a computer database, O'Neil selected over 500 stocks that had the greatest increase in share price for the calendar years 1953 through 1993. He then analyzed these stocks in detail and determined seven common characteristics they all shared. These characteristics are represent by the acronym CANSLIM.

Each letter of CANSLIM represents one of the points that investors should consider when looking at a stock.

• C = Current quarterly earnings per share (should show a major percentage increase compared to the prior year's same quarter)
• A = Annual earnings (the company should be experiencing meaningful growth over the past five years)
• N = New products, new management, new high prices
• S = Supply and demand (small capitalization stocks with high trading volume)
• L = Leader in the industry, not a laggard
• I = Institutional sponsorship (a little goes a long way)
• M = Market direction (should be headed up).

AS WE'VE NOTED frequently, stocks with strong growth rates tend to attract a lot of investors. All that attention can quickly drive their multiples above the market average. Does that mean they're overvalued? Not necessarily. If their growth is superior, they may deserve a higher valuation.

The PEG ratio helps quantify this idea. PEG stands for price/earnings growth and is calculated by dividing the P/E by the projected earnings growth rate. So if a company has a P/E of 20 and analysts expect its earnings will grow 15% annually over the next few years, you'd say it has a PEG of 1.33. Anything above 1 is suspect since that means the company is trading at a premium to its growth rate. Investors usually look for a PEG of 1 or below, although as we explain in a minute there are exceptions.

Here's how to put the ratio to work. Say Dell Computer is trading at a forward P/E of 35 times earnings. After making the comparison and discovering that rivals Compaq Computer and Gateway 2000 are both trading at multiples around 20, you might begin to think Dell looks awfully expensive. But then you look at earnings growth. First, you see that Dell's earnings are expected to grow at 40% annually over the next three to five years, while analysts are predicting Compaq will grow at 15% and Gateway at 20%. That would give Dell a PEG of 0.88, while Compaq weighs in at 1.33 and Gateway at 1. Looked at in that light, Dell doesn't seem so pricey after all.

Generally you use a forward P/E in the PEG ratio, but a low PEG using a trailing P/E is even more convincing. Anything below 1 is of interest, although there really are no rules of thumb. Like the P/E, different industries regularly trade at different PEGs. It's also true that the PEG works less well for large-cap companies that by nature grow at a slower rate despite strong prospects. As always, the key is to compare a company to its peers.

The PEG ratio's weakness is that it relies heavily on earnings estimates. Wall Street tends to aim high and analysts are often dead wrong. In 1998, for instance, some companies in the oil-services sector routinely had projected earnings growth rates in the 35% range. But by the end of the year, the crash in oil prices had them swimming in losses. Had you been impressed by their bargain-basement PEG ratios, you'd have lost a lot of money. Our advice is to shave 15% from any Wall Street growth estimate out of hand. That provides a good margin of error.

女心と秋の空

Market Facilitation Index

The Market Facilitation Index (MFI) is an objective means of measuring facilitation of trade which, in its simplest terms, means how well the market is working efficiently. An efficient market is very liquid and both short- and long-term investors are actively trading, from the locals in the pit to commercials and speculative traders.

A market that is not facilitating trade is generally a one timeframe market, dominated by short-term oriented locals. Volume is low and there is very little activity from the longer term traders and investors. The locals simply run the price up and down, looking for stops and waiting for the external paper to enter the market.

The MFI formula divides the range of the current price chart bar by the volume of the same bar. MFI may be used for all time periods from five minutes up to daily and weekly charts. It is acceptable to use either total tick volume or actual volume on daily and weekly charts and, of course, tick volume on intraday charts. The only requirement is consistency on the daily and weekly charts-do not switch back and forth.