Finding a system to beat the market.
Do you have an investing system that consistently beats the FTSE's overall return?
If you do, please read no further. But if you don't, then I'd say you need one or you're probably wasting your time. As Albert Einstein once said: "The definition of insanity is doing the same thing over and over again and expecting different results."
It's important to bear in mind two fundamental points:
- Most traders lose money.
- Most shares are losers.
So it's not easy to beat the market. But many investors do so -- consistently. For example, Foolish writer Stephen Bland has his own excellent PYAD system, which seems to beat the market hands-down over time.
And for the uninitiated, PYAD stands for a low P/E ratio (a maximum of two-thirds' that of the market), with a healthy yield 50% above the market, a good asset base (with a price-to-book value, PTBV, under 1) and ideally no debt (and preferably with net cash).
This accords with some big market studies. For example, the data collected in 'What Has Worked in Investing' by Tweedy, Browne show companies exhibiting the following characteristics generally outperform the market:
- Low price in relation to asset value.
- Low price in relation to earnings.
- A significant pattern of purchases by one or more insiders.
- A significant decline in a stock's price.
- Small market capitalisation.
Meanwhile, many other Foolish investors swear by Stephen Bland's recommended "hands-off" approach of concentrating on high yield investments.
No one size fits all
There's no "one size fits all" approach. Clearly, some traders make a handsome living, as do some investors concentrating on blue-sky hopefuls with nothing much in the way of assets or earnings. Others do endless research into small caps and invest heavily based on their superior knowledge.
The recent Foolish series profiling the current line-up of investments of various people who make their living from this game demonstrated various very different, but very successful approaches. But each has his/her own systematic approach. They know which investments they're holding and why, and their long track records give them reasons for confidence.
On this basis, therefore, the eight shares held by one of the most successful UK investors of all time have to be worthy of further research. There's nothing wrong with profiting from the superior analysis and insight of others -- as long as you agree with it.
And the best of them all, Warren Buffett's real investing edge is in being able to identify a company that may appear to be fairly valued, but which is very undervalued when you consider its potential to compound high rates of return into the future.
Personally, I try to map out my overall investing strategy with sufficient income from yields I think are sustainable to live on. I then add in a multitude of individual equities I think are undervalued across different sectors and wait patiently for what I perceive to be a fair value to come out (while watching any developments in the story along the way, of course). The sustainable yield is the bottom-line clincher for me, though, as I have dependents to support. Any capital rise is then a bonus. And on value credentials, net tangible asset value (and the nature of that asset value) is the single most important criterion.
So for example, among my largest holdings are RSA Insurance (LSE: RSA) where I believe the gravity-defying potential yield of almost 8.7% at 108.2p per share can be maintained. I also think defensive stock J Sainsbury (LSE: SBRY) has a little of everything given its PTBV of around 0.62 (when including the property valuation surplus over book value) and expected yield of over 5.5% at 306.5p. Its competitor Morrison (LSE: MRW) also looks good value to me at 266.5p, given its undemanding forward P/E of 8.8, gearing of 27% and a PTBV of 1.3.
And BP (LSE: BP) looks a long-term bargain at 435.1p given its forward P/E of just over 6 and potential yield of over 6.3%.
I'm not trying to recommend my own system of investing, nor anyone else's for that matter. But I am recommending that you find a system of some sort that -- demonstrably -- works for you.
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> David owns shares in RSA Insurance, J Sainsbury and BP.