Stock Investing or Home Ownership? Which is Easier?

By | January 25, 2016 Leave a Comment

Investing Isn’t Complicated, No Matter What Wall Street Tells You

I do a lot of reading—books, articles, news stories, financial statements, market hype, clickbait—you name it. If it’s being published along the lines of finance and investing, I’ve probably at least skimmed it. Most of it would bore you to death, I’m sure.

I do it because I’m always looking for something new that will make me more successful in life. I’m like a dredger—pulling a ton of mud out of a mucky riverbed, and filtering and sifting until I’ve come up with tiny flecks of gold, which I can add to my bag 'o gold dust.

There’s a ton of information out there, to be sure. And when it comes to investing, it can seem complicated to separate the good information from the bad. Even the professionals on Wall Street and Main Street want you to think it's complicated, so you'll pay them to do all the work.

But it's not.

If your financial adviser isn't smart enough to boil down supposedly sophisticated topics into terms that a 5th grader can understand, you need to find a new adviser.

Today, I’ll show you how this "boiling down" is done--for buying stocks. This is an all-in-one article which elucidates the key points to look for in a solid, safe investment. They are the tenets of Value Investing, a strategy which should make up the bulk of all investors’ portfolios.

Buying Stock is Like Buying or Renting a Home

Even if you’ve never bought a single share of stock personally before, you’ve probably invested. You just don’t realize it. In fact, you probably own one of the most risky and hassle-prone investments available right now: a home.

How is buying a home and buying stocks similar? That’s easy. The vetting process you go through is similar for both types of investments. The only difference is, the buying process is MUCH easier for a share of stock than for a home. This is in stark contrast to what you're told about investing by wealth advisers--but none of them have ever advised you not to buy a home because the process is too complicated... have they?

I didn't think so.

You’ve got a general idea of what you’re looking for when you consider a place to live. Here are some basic thoughts.
  • If you’re buying a house, you know it needs to hold up to all kinds of weather, rain, shine, hurricane—and hopefully even earthquakes. It needs to have solid siding, a good foundation, and a good roof.
  • You want a home that will withstand changes in style or fashion—no gimmicky houses that no one else wants to buy after you decide to move. 
  • Even in recessions, people have to move and buy houses. Make sure yours is one that is appealing to a broad array of audiences
  • You want unique features in architecture, design, or landscaping which will make the home more valuable when compared to the neighbors.
  • You want a home that’s in good condition, with low maintenance costs.
  • You should look into the past ownership of the home, to make sure there are no liens against the home, or ownership disputes on the title
  • You want a home that you don’t have to pour a bunch of money into initially in order for it to be worth something
  • Ideally, you want to buy the home for less than it books for on the market, so you can have instant equity
  • You want a home which, when/if you sell someday, will actually have risen in value, at least along with inflation
  • You want to make sure the previous owners have taken care of the property, and that the home is something you’ll have the skills to take care of yourself
  • You’ll want to make sure your property lines are accurate, and that the taxes aren’t too high for you to afford
  • Perhaps you’ll retire someday, and want to own a place where you can rent out the basement to earn passive income
There are a hundred other factors you could consider when buying a home, and these are just the basics. Honestly, home-buying is a pretty nerve-racking experience... especially compared to buying a share of stock.

But how do these basic ideas about home-buying apply to investing in the stock market?

Buying a Home vs Buying Shares of Stock


The principles of buying stocks are tantamount to buying a home. Consider the following:
  • The best stock investments are in solid, well-established companies which have been around and been profitable forever
  • Solid stock investment opportunities aren’t faddish or hyped up. Good investments are in businesses or products that have been around forever, and aren’t going away anytime soon
  • The best stocks to invest in are recession-proof. People still need and buy the company’s goods or services, even if there’s an economic recession
  • Companies with products you want to invest in can raise the prices of their products along with inflation, without any risk of turning off consumers
  • The best investments are low-maintenance. You buy once, and don’t have to sit around watching your computer monitor all day, hoping the value doesn’t drop, or buying and selling back and forth every other day
  • The best investments are selling for at or near “book” value—the value of the company’s assets
  • Great investments pay you money while you sleep, in the form of dividends, and don’t dilute your holdings by issuing new shares to the market
  • Stocks you buy should increase in value over time, far above inflation
  • Good investments should provide you with income to eventually sustain your standard of living in retirement
These are the basics to consider when buying shares of a company's stock. Let's go into a few reasons for why buying stocks might be an even better investment than your home.

Stocks May Even Be a Better Investment Than Your Home


Ever since the housing crisis, many experts have begun telling people that housing is a terrible investment—for good reason. There are many reasons to hate buying a house versus investing in stocks. Off the top of my head:
  • Buying stock is a lower nominal investment, with greater liquidity (liquidity is the ability to quickly get out an investment), lower overhead, and potentially quicker return on investment
  • There is less upfront risk when buying shares of stock, and less upfront costs, overhead, and regular maintenance costs
  • Home ownership has hidden costs—maintenance, taxes, damages, insurance--which stock market investments don't. When buying stocks, your only costs are the upfront commission of usually a few dollars
  • The average return for owning stocks has historically been above 12% over the past 80 years, whereas the average "return" on a home purchase from 1890 through 2005 was less than 1% annually
What I'm saying is this: Buying a home is easy.... but buying stocks is easier. Buying a home is not necessarily a great investment (and you should never think of it as one) ... but learning to grow your money using stocks and stock options is a GREAT, low-risk, high-liquidity investment.

So, how do we take this information and put it into action? That's up next.

Apply the Principles of Value Investing


We’ll use a specific example for how to simply approach investing in specific companies.

Let’s say you’ve never invested a dime in buying stock your whole life. How do you get started? The major discount brokers—TDAmeritrade, Fidelity, Charles Schwab, E-Trade, Scottrade—all have a website, where you can be set up to invest in mere minutes. Google any of the above companies, visit their sites, and check it out.

After getting an account set up, you transfer money from your bank account, and you’re good to go within 24 hours.

But what are you planning to buy or invest in? And how do you approach making the decision?
In the past, I’ve written about a variety of great companies to use as starting points for putting together a winning long-term investment strategy. I’ll take one of them today.

One of the most solid investment opportunities in the market today is a company I’ve mentioned numerous times in the past, a company both loved and hated around the world— Wal-Mart Stores (ticker symbol WMT). Here is some information about it:

  • Wal-Mart has been around for decades, carving its way into being the world’s low-cost leader in supermarkets and consumer goods. While it has its competitors, such as Target, Amazon, Dollar General, etc, Wal-Mart maintains its status as the world leader in retail. It has a competitive and sustainable advantage
  • WMT isn’t going anywhere anytime soon. Its business model of supply chain efficiency and low prices is emulated, but not easily replicated. Its profit margins are thin, but unbeatable
  • Wal-Mart doesn’t have a boom-and-bust business. It’s not heavily reliant on things like swings in commodities
  • Everyone shops at Wal-Mart, in both good times and bad—and especially in bad times. During economic recessions, consumers shift their spending habits from higher-end stores, to discount retail such as WMT
  • Wal-Mart doesn’t have to spend billions every year to develop new technology or products to remain profitable or relevant, like other companies might (i.e., Apple). Its sales and revenue can grow without expensive capital expenditures (spending)
  • Have you ever noticed Wal-Mart raising its prices on goods? Neither have I. That’s because it can do so almost imperceptibly, by a few cents here and there, and no one notices or cares, because its stuff is already so cheap, and its pricing strategies are sneaky. It remains profitable even in the face of rising prices and inflation
  • WMT is low maintenance—it isn’t the kind of company you have to constantly monitor. As long as you buy at a good price, you can just sit back, collect the dividends, and reinvest them to take advantage of compound interest. While the company has suffered recent share declines, it’s just now approaching appropriate buying levels again
  • Wal-Mart has been paying a dividend for years, and the rate increases by an average of over 10% per year. Even if the share price goes nowhere, you still get paid as an investor through dividends and share buybacks

Getting More Technical


Going a step further than what I’ve mentioned above, there are other, more technical factors to consider when deciding whether to invest. And you can get all of this information by simply going to Yahoo Finance’shomepage, entering Wal-Mart’s Ticker symbol (WMT) in the top search bar (then click Search), and clicking on Key Statistics on the left sidebar. Here are some of the factors you should look at:
  • Price to Book Value. Book Value is the value of what the company owns compared with what it owes, on a per-share basis. Compare the company’s book value with that of its competitors to determine in part whether the current share price warrants purchase
  • Free Cash Flow. This is the amount of cash a company has after making investments in its business. Preferably, get a hold of a graph showing this FCF over time, and make sure it’s either flat or increasing
  • Dividend History—dividends should be increasing over time, and have at least a 10-year history of nonstop payouts. Again, get a graph showing this over time
  • Consistent Profit Margins. Make sure the company is not making less and less profit per item is sells over time. This graph is a great example. Diminishing profits margins over time is a bad sign

Qualitative Factors


Furthermore, it’s not a bad idea to do some cursory research on a few other miscellaneous things about a company’s history and management. Open up Google, and look up the following:

  • Does the company have a solid management team? And are they incentivized to increase the profitability of the business (this is good), or increase their share price artificially (bad), and is management’s compensation tied to this?
  • Is the company issuing and new shares of stock, or are they buying shares back? The company should have a net amount of shares bought back every year, instead of share issuances. In other words, its number of outstanding shares should be decreasing. Here's an example. A company typically issues shares if it’s having trouble financing operations, and doesn’t have good enough credit with banks to get loans for expansions. This is a bad sign
  • If the company has a net amount of shares bought back, are they buying when their stock is cheap, or when it’s at all-time highs? It should be when the stock is cheap
  • If the company acquires other businesses, does it do so efficiently, and when those businesses are cheap?


Pulling Out the Charts


Lastly, before we decide to buy, we need to make sure the timing is right. In other words, the company is in good shape, but should we buy right away, or wait for the price to move around into a more advantageous position in the short term?

We use charts to determine this. I look at a few things:

  • 52-Week Chart—helps me determine where the stock has been over the past year, and whether  the price appears to have any floors or ceilings anywhere. Wal-Mart's chart is shown below. You can see that the stock has a solid price floor around the mid-50's, and it hasn't been suffering along with the general market in recent weeks, which is a good sign
  • If there are any price floors or ceilings, where are they, and is the price closer to the floor, or the ceiling? We want to buy lower, not higher
  • Bollinger Bands. Using Stockcharts.com, I can look up the immediately short-term price envelopes the stock is trading within. If it’s about to bump down against its price floor, that’s a good indication that we’re ready to buy. In the second chart below, the lower green line is the lower Bollinger Band. Wait for the price to decline a bit and approach the line to buy Wal-Mart




Do We Buy?


Don’t ever consider making a long-term investment (2-5 years) without looking into all of these factors. It seems like a lot, but really only takes a few minutes, and your due diligence will pay off. After all, you wouldn’t lay down $3000 on a crap shoot in a casino, so why would you lay down $3000 on a crap-shoot in the stock market, and not do any research?

WMT seems like a really good buy right now. Business-wise, the company is in great shape, and great hands. The financials are sound, and the company is trading at a discount in virtually all accounts compared with its competitors.

Furthermore, the charts on WMT look good. WMT was trading at an all-time-high of around $88 just one year ago, and is now down near $62, after hitting a bottom of $56 last November.
What happened with the shares? Some bigtime bank, Goldman Sachs, downgraded the stock to a “Sell,” based on political pressure Wal-Mart has been facing recently to raise wages to its workers in stores, which would cause its bottom line to take a hit.

Well, I disagree with Goldman’s, AKA, the Devil’s, assessment. I’ll believe that Wal-Mart is at risk for a major decline from here when the company can no longer cover its interest payments, when we stop seeing free cash flow, as profit margins begin to shrink, and it dividend no longer rises. I just don’t see any of that happening any time soon, so I’m confident that an investment in WMT is smart, especially at this price point.

The Short-Term Setup Could Be Better, So Please Wait


The setup in the super short-term isn’t incredibly great. It’s trading near its upper Bollinger Band, meaning the price is at risk for a short-term decline. I’d prefer to see the price back around $58 before feeling completely safe jumping in here. I think once that happens, we’re taking on very little risk buying.

On the bright side, with the recent decline in share price over the past year, WMT is almost within acceptable range to add to our Options Trading Short List. I’d feel better if it were around $40, but I think that’s a bit too much to ask for. If you have only one option position open in your portfolio at a time, making a $5800 capital at risk investment in order to generate 1.2% per month on a 100 shares of WMT may not be a bad idea.

Watch for a decline down to $58 to buy WMT.

That’s All There Is To It


As I mentioned at the beginning, investing is not nearly as sophisticated or complicated as it’s made out to be by Wall Street, and investment or wealth advisers. And why is that? They want you to pay them for advice, and not for you to DIY.

For the most part, investing is common sense. If your adviser can’t boil down a simple concept like how to identify a good investment into understandable terms for the average lay person, it’s time to fire them and become your own adviser.

Investing is as simple as making a checklist for what your criteria are for what constitutes acceptable, and quickly working through the checklist to make sure everything is there. Like a simple grocery or to-do list.

I’ve included quite a few links in this article to the sources of information you need to place your first trade after doing your investing due diligence. If you have any questions about this, give me a holler at thevillageid-vestor@gmail.com

Live long and invest,


Jeremiah
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