Features
Purpose-Driven Investing
by Mark Robertson, Managing Partner Page 1 of 1
'Tis the Season to Tout Last Year’s Hottest Investments...
... and therein lies the trap for many "average investors." Yes, real estate and energy stocks have been "hot" in the recent past. Those blue chip growth stocks (see S&P 500) have been gut-wrenchingly stagnant. "Average investors" will be plagued by chasing the ghosts of historical returns.
At Manifest Investing, we have a better idea. Based on expectations built from the fundamentals of businesses (growth, profitability and valuation) we focus on looking forward for returns-yet-to-come.
In this profile, we display actual historical returns vs. projected annual returns (PAR) for a sample of investments.
(1) 5-year annualized return and PAR for Vanguard REIT index.
(2) 1-year headline-generating return for energy stocks vs. PAR for Vanguard Energy VIPER.
(3) Estimate of money market rates for the last five years vs. current highest available money market rates.
(4) 5-year annualized total return for the S&P 500 vs. PAR for S&P 500 index fund.
(5) Actual 5-year annualized total return and overall portfolio PAR for Tin Cup model portfolio featured at www.manifestinvesting.com. (12/16/2005)
View the article as a pdf file.
The MANIFEST approach to long-term investing depends on a set of continuously-updated expectations for the companies that we own. We encourage the discovery and ownership of high quality companies. But it doesn't end there. We monitor a number of characteristics in order to build an expectation of return-on-investment for the stocks that we buy. The overall return expectations for our portfolios answer many of the difficult questions when it comes to portfolio decision-making.
Yes, Virginia, it is possible to use MANIFEST dashboards to guide our investing efforts.
The two most important characteristics for any investment are (1) rate-of-return and (2) quality. Focusing on these two primary characteristics will tell us all we need to know about any investment or portfolio. The task of designing and managing a portfolio becomes dramatically easy when decisions are made with these two characteristics in mind.
Can investing really be this easy? We believe the answer is categorically, "Yes!"
At Manifest Investing, we refuse to lean on proprietary rating systems masked in stars, smiley faces or secret "handshakes." We also know that looking forward is as much or more important than looking back. We use our "windshields" and "dashboards" with more emphasis than our "rear view mirrors." Investing is a journey. Would you dream of starting a long journey in your car without checking the gas gauge and the oil level? Would you navigate using only your rear view mirror?
We tend to think of our portfolios as engines. We know that having enough gasoline, enough lubrication oil, enough coolant and enough windshield washer fluid is a prudent approach to maintaining our vehicles and assuring that our destinations become reality.
Many new investors become comfortable and proficient in some method of stock selection only to be "stranded" by the challenge of portfolio decision-making. Even experienced investors find the task of selling stocks to be daunting. MSN's Mary Rowland wrote that "the challenge of portfolio management is the single largest deterrent to individuals assuming responsibility and participating in the design and success of their long-term investing program.
Buying and selling stocks or funds can be done very effectively, but it's important that we have a reason for taking action. The reason should be developed with long-term considerations. What is the influence or impact of buying/selling the stock or fund on the total portfolio?
Our approach to investing is based on a long-term forward-looking perspective for the companies that we own. As decisions are formed about any company, we essentially answer two questions: (1) What is the projected annual return (PAR) and how does it affect the overall PAR of the portfolio? (2) Is it a quality company? What is the overall quality of the portfolio?
Stock Prices Fluctuate. So do Projected Annual Returns (PAR). Some more than others.
This 10-year profile of PAR forecasts for Johnson & Johnson, Walgreen and Home Depot demonstrate that some forecasts are more stable than others. Note the tight forecast range for Johnson & Johnson. Walgreen is also fairly steady but presented a selling opportunity (overvaluation) during 1999 and a buying opportunity during early 2003. Home Depot provides an illustration of a potentially "too-good-to-be-true" PAR during late 2002 and early 2003 and slight overvaluation (low PAR) during early 2000.
Source: www.manifestinvesting.com
Projected Returns
Based on our forecast for sales growth and profitability, we use the relationship between price and earnings to build a projected price five years from now. The annualized price appreciation (the gain from the current price to our projected price) is combined with the projected yield to deliver the projected annual return for the stock. As the accompanying figure illustrates, PARs fluctuate -- some more than others. These fluctuations provide a perpetual guide to decision-making.
Quality
How do we characterize a quality company? The company recognizes opportunities and delivers growth. The growth and profitability forecasts compare favorably to its competitors. Quite often, leading companies will not only capture large portions of market share -- but do so with leadership profit margins. A quality company will have a high financial strength rating and a solid track record.
MANIFEST rates all companies on a scale from 0-to-100, with 100 as the highest achievable rating. A rating greater than 65 places a company in the top 20% of all companies.
Conclusions
We seek companies and an overall portfolio PAR that is designed to deliver a return five percentage points higher than the market in general. If the median PAR for all stocks were 10.5% (12/16/2005), then we'd build and maintain an overall portfolio PAR of 15.5% or more. The portfolio dashboard will identify the stocks with lower PAR expectations and guide our decision-making.
"Listen" to your dashboards. The accompanying example dashboard is saying, "Too little overall PAR, too much cash, needs 1-2 more stocks and too much consumer discretionary. More technology would be good. How about a financial stock?" Selling TLAB and investing the proceeds (and cash) into DELL and Fifth Third Bank (FITB) transforms the portfolio PAR from 13.4% to 16.1%.
Yes, Virginia, your dashboard has a purpose and is willing to make suggestions. Do you hear what I hear?
Example Dashboard. A glance at a dashboard can be quite telling. This risk-tolerant longterm investor with a time horizon much greater than five years needs to build and maintain a portfolio with a higher PAR. The portfolio has too much cash (11.7%) and not enough technology stocks. The quality is strong at 71.9 (Excellent) and would be enhanced by replacing TLAB with a higher PAR opportunity. Investing the proceeds from TLAB and the cash-on-hand into DELL and FITB delivers some technology and a financial sector stock. The overall PAR would be raised to 16.1% and quality rating to 74.7.
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