Theory | wealthymatters

Psychology And Bad Market Timing.

February 21, 2011 2 Comments

Every stock investor whether a technical or fundamental or value investor ultimately needs to take a call on whether he/she wishes to buy or sell at the price Mr. Market sets at any given time.How much an investment ultimately nets a person depends on the timing of the buy and sell decision and the actual price at which the transaction takes place,despite all the theories of averaging out and time in the market and reversion to the mean.

The following is a checklist of mental mistakes that may affect a person’s decision to buy or sell and cost a him/her dearly. The checklist is from Whitney Tilson’s presentation ‘How to Avoid – and Profit From – Manias,Bubbles and Investor Irrationality”

•Failing to Buy

–Status quo bias

–Regret aversion

–Choice paralysis

–Information overload

–Hope that stock will go down further (extrapolating recent past into the future; greed) or return to previous cheaper price (anchoring)

–Regret at not buying earlier (if stock has risen)

•Office Depot at $8 (vs. $6) Read more of this post

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Some Assumptions To Check Before Investing

February 19, 2011 4 Comments

The human brain is fascinating in the way it can use a rough form of inductive logic to help us make sense of our very complex world.But the human brain is not infalliable.Mental heuristics in the form of common sense,educated guesses,rules of thumb,intuitive judgments,etc.can help us find a good enough solution fast, when an exhaustive analysis is impractical.But at the same time such heuristics can lead us to over-generalize and make mistakes.Here is a checklist of some common traps to avoid falling into while investing:

Correlating GDP growth and market performance. High GDP growth rates don’t always translate into stockmarket outperformance. This may be due to three reasons—(a) unlisted companies may contribute to a large part of GDP growth; (b) while the listed companies’ net profit may grow, dilution of capital through periodic issuances will adversely affect earnings per share (EPS) and return-on-equity (RoE), thereby, impacting stock prices; and (c) the nature of stockmarkets, which serve as leading indicators, resulting in prices surging ahead well ahead of the actual GDP growth and, then, plateauing out for a long period once the growth actually materialises. Read more of this post

Filed under Paper Assets, Theory, Tool Kit Tagged with Assumptions, checklist, credit ratings, GDP Growth market Perfomance, great company great investment, Hueristics, Investing, ipo's, mutual fund size, Paper Assets, RandomBlog2011, sectoral perfomance, Securities Exchange Board of India SEBI, stocks, strong currency

Some Financial Thumb – Rules

February 18, 2011 2 Comments

Financial thumb-rules are rough guides for making sensible financial decisions .However they have their infirmities and so need to be used in the right context.Following are a few basic financial thumb-rules:

Pay yourself first rule: From any money you make, put away atleast 10% first before you pay any bills or debts or do anything else with the money i.e. make your investments the first obligation on your money.The general idea is that this money will start working for you by earning interest , gaining in capital value or giving you rents etc. and in time you will need to work less and less as your money starts working for you.
The emergency fund rule: Build a corpus equal to 3-6 months worth of expenses of your household.Life is uncertain and you never know when somebody might meet with an accident , fall sick , suffer losses in business , lose a job or suffer loses due to fires or natural calamities ,war, civil strife etc.The money is to take care of immediate expenses,provide a cushion to fall back on till you find your feet again and if necessary provide a small stake to start over again.The money needs to be kept in a safe place where there is no chance of loss of capital and where it can be withdrawn immediately and without hassles.
100 minus your age rule:This is a thumb-rule to determine how much of your paper assets should be in equities.The general idea is that as you grow older and wealthier you want less volatility and less risk of capital loss.Volatility might complicate withdrawls from the corpus in retirement and lost capital might not be so easily made up for later in life, after retirement.
The 10,5,3 rule : This rule states that you can on an average expect returns of 10% on equities,5% on bonds and 3% on liquid cash and cash-equivalent accounts in the long run.It’s important to remember this rule before reaching for that extra half percent that might lead to capital loss. Read more of this post

Filed under Paper Assets, Theory, Tool Kit Tagged with 10 5 3 Rule, 100 minus your age, 4% Withdrawl Rule, AAW, asset allocation rule, Average Accumulator of Wealth, bonds, cash, cash equivalent, emergency fund, Financial Thumb Rules, get your money to work for you, PAW, Pay Yourself First, Prodigious Accumulator of Wealth, Rule of 114, Rule of 144, Rule of 70, Rule of 72, shares, stocks, The Millionaire Mind, The Millionaire Next Door, Thomas J. Stanley, UAW, William D. Danko

Learn Wealth Building From The Millionaire Next Door

February 14, 2011 35 Comments

Do you want to be a millionaire? Then perhaps you should start by studying the habits of millionaires….. And this book is just the right place to start.

If you check lists of the best financial books of all time, you’re bound to find several that include The Millionaire Next Door: Surprising Secrets of America’s Wealthy. Written in 1996 by professors William Danko and Thomas Stanley, its main premise is that people who look rich may not be wealthy; they overspend — often on symbols of wealth — but actually have modest portfolios and, sometimes, big debts. On the other hand, many actual millionaires tend to live in middle-income neighbourhoods, drive economical cars, wear inexpensive watches, and buy suits off the rack.

Following are some of the gems of wisdom found in the book that the authors Danko and Stanley have gleaned from their thousands of surveys of millionaires.

#1: Income Does Not Equal Wealth
Yes, higher-income households tend to have more wealth than lower- and middle-income households. But the size of a paycheck explains only approximately 30% of the variation of wealth among households. What really matters is how much of the income is invested. On average, millionaires invest nearly 20% of their income.

Danko and Stanley even offer a “simple rule of thumb” formula for determining whether you have a net worth that is commensurate with your income:

Multiply your age times your realized pretax annual household income from all sources except inheritances. Divide by 10. This, less any inherited wealth, is what your net worth should be.

Those in the top quartile of wealth accumulation are prodigious accumulators of wealth (PAWs), according to Danko and Stanley. Those in the bottom quartile are under accumulators of wealth (UAWs).This formula also helps in sorting out the millionaires/millionaires-to-be(PAWs) and the millionaire-lookalikes(UAWs).Here is a calculator to do this calculation easily:https://wealthymatters.com/2011/01/17/am-i-wealthy-calculator/

#2: Work That Budget Read more of this post