Buying Strategies
Part III: Making the Most of Your Money
This is the third part of a three part series
By Chandler Lutz
November 16, 2007
As most of you know, the market is a fickle entity and will test the nerves of the most experienced investors. Often times, after investors make a purchase of a great company, the stock price drops making them regret the initial decision. A short term drop in share price does not prove a decision true or false.
Investors need to be ready for a share price dives even when they make the right decision to execute a buy order. In some cases, investors are best off pouncing on the opportunities presented by Mr. Market. This is why many great investors plan to buy a stock two or three or even four times.
The legendary Philip A. Fisher wrote that investors need to make sure they have plans to fund their brokerage accounts two or three years into the future to ensure that they have cash available for when the market drops or an attractive opportunity arises. This does not mean you need to have money in your brokerage account today for the next three years, but rather that you need to have some sort of plan or strategy to ensure that your account has funds available from today to three years in the future. To clarify my point let me present to you the following simple example: Suppose you have 100 dollars of cash in your brokerage account for investments over the next six months. Obviously, over the next three years you will need a much larger sum than just the 120 dollars. So your plan could be to deposit 20 dollars a month for the next three years. Notice that after six months of deposits you have added an additional 120 dollars. So, if you followed your plan, by the end of the six months you will have a fresh new 120 dollars available for the purchase of stocks or bonds. This cycle will continue for the duration of the period and the brokerage account will always have cash available in case an opportunity arises.
A key feature of any brokerage funding plan is to “stay ahead of the curve.” By this I mean that cash is always available for the purchase of stocks for some time in the future. In our example above, the investor was “ahead of the curve” by six months.
Undoubtedly, the duration and the rigidity of the plan will differ for every investor. Some investors will like their plans to be extremely flexible where they may invest 200 dollars one six month period zero dollars for the following six months (continuing with our example from above). Other investors may want to have a plan that spans five years or more; while a different person may be comfortable with plan of a significantly shorter duration. Regardless of what kind of plan you choose, the most important thing is that your plan incorporates features that allow you to take advantage of opportunities.
In One Up On Wall Street, Peter Lynch described dynamic stock investing in a much different way. He used the analogy of a game of seven card stud poker. In seven card stud poker, players initially get two cards face down and one face card up. Each subsequent turn involves players receiving one more card face up (so everyone can see) and giving the player an option of folding or betting. Lynch compared investing to endless game of seven card poker where after every “card” that comes up investors can increase or decrease that position. As the story of a company gets better and better, you can add to your position and hopefully increase your return and if the story doesn’t play out in a fashion that you expected, you can decrease your position or “fold.” Choosing to invest in this matter will result in buying a stock several times as the company’s prospects become more attractive.
Investing in a particular stock is not a static event in the sense that it happens at just one point in time. Instead investing in a stock should be dynamic where you can invest in a particular stock over a long period of time. Investing in a dynamic way allows people to take advantage of market opportunities and maximize the gains of their winning stocks and minimize the losses of poor performers.