Newsletter
August 18, 2007
Expect the Worst or Expect the Best?
The T. Rowe Price Approach to Investing in Growth Stocks
Largest Changes In Raw Numbers (21 Days)
The next newsletter will be September 8, 2007. Our foreign exchange student will be arriving this week from Hamburg, Germany and we have many plans for her besides just getting to know one another. The following week is Labor Day, the unofficial end to summer. I'll be enjoying these last two weeks as much as possible, so should you. Daily postings and the site update will continue as usual. Postings however will may not be as frequent.
Expect the Worst or Expect the Best?
This Week By: Vic Johnson (MP3 Motivators)
“As a being of thought, your dominant mental attitude will determine your condition in life…Thought is causal and creative, and appears in your character and life in the form of results.” - Above Life’s Turmoil
In his outstanding book, The Miracle of Right Thought, Orison Swett Marden has a great chapter entitled “Working For One Thing and Expecting Something Else.” It very neatly explains why many of us get the results we do despite our desire for better.
“To be ambitious for wealth and yet always expecting to be poor, to be always doubting your ability to get what you long for, is like trying to reach East by traveling West. There is no philosophy which will help a person to succeed when he is always doubting his ability to do so, and thus attracting failure.”
When you are faced with a difficult circumstance do you expect the worst or expect the best? Both Allen and Marden tell us that whatever we expect we attract. If it’s your habit to always expect the worst you’re simply adding fuel to the fire, creating more negative circumstances that will create more negative expectations on your part.
And it is a habit. At some point in your life (and it may have been many years ago) you began to expect the worst. Eventually it became a habit. Want to change your results? Change your habit of expectation. Learn to expect the best.
Negative expectations are really nothing more than a manifestation of fear, so look the fear in the face. What is the worst that could happen? Is there some action you can take that will change it? If so, take the action — nothing conquers fear faster than action. If no action on your part will change it, then have the Faith that you will handle the outcome. That thought alone is a positive expectation. Take to heart the ages old wisdom that “what doesn’t kill you makes you stronger.”
In the final analysis, always expecting the worst is living a life in fear. Always expecting the best is living a life in Faith. As the ancient writer Paul noted, “Faith is the substance of things hoped for.” And Marden described the power of Faith in The Miracle of Right Thought: “Faith is the bed rock upon which all other foundation stones in every great character rest. Thus the person who has an invincible faith in his mission, an unconquerable faith in himself and his God, has power in the world.”
And that’s worth thinking about.
The T. Rowe Price Approach to Investing in Growth Stocks
I have found in my career that just about everyone is different in their approach to the markets. Some invest for long periods of time, some trade in and out over very short periods of time. I have learned there is no right way to go about it. Each of us must align ourselves with the philosophies of trading/investing that we are, as individuals, most comfortable with. That is and has been the purpose of this series of newsletters (which will continue), to familiarize those that perhaps are still searching, with various methodologies that have been and are being used by extremely successful professionals.
T. Rowe Price, who died in 1983, was the founder of T. Rowe Price Associates, the Baltimore investment advisory firm that manages the T. Rowe Price family of no-load mutual funds. In the process of managing private accounts, Price started several mutual funds using his approach (the family's Growth Stock, New Horizons and New Era funds); he sold the firm when he retired in the early 1970s.
Price developed his investment philosophy in the 1930s, when the prevailing approach was to jump in and out of stocks based on the cyclical nature of the stock market. Instead, Price felt that investors should mimic the owners of successful business enterprises, who "do not attempt to sell out and buy back again their ownerships of the businesses through the ups and downs of the business and stock market cycles."
Price's growth stock approach was based on the theory that, over time, both dividend payments and market values will increase as earnings grow, which he felt to be particularly attractive as protection against inflation. At the time he developed his approach, many investors preferred high-dividend-yielding stocks for steady returns in the form of dividends. However, Price felt that these stocks showed less promise for gains and dividend increases and, thus, in the long-term, real growth could be threatened by inflation. Interestingly, Price recognized the threat of inflation in the 1930s, despite the prior devastating experience faced by investors-the Depression, a time of deflation.
The search for growth stocks was based on Price's "life cycle" theory of corporations, which held that companies go through a cycle of growth, maturity, and decline. The greatest possibility for gain and least risk, he felt, is when the long-term earnings trend in a company is positive. And the best time to invest in a company, he stated, is when it is small, before its shares "gain in stature" and sell at high price-earnings ratios.
T. Rowe Price suggests identifying growth companies by looking for increasing earnings per share at the peak of each succeeding major business cycle, as well as increased projected earnings per share at the peak of future business cycles. Screening programs geared toward individual investors do not provide data going back far enough in time to screen for this occurrence. The filter makes sense financially-it is trying to exclude cyclical companies that currently may look like growth stocks-however, it can not be reasonably applied automatically. After a prolonged economic expansion, the growth rates of cyclical companies may look extremely high because you are comparing earnings against a very low base level.
In screening for growth stocks, it may be possible to focus on industries in the early stages of their life cycle, which can be fairly easy to accomplish with screening programs. Alternatively, you can explicitly exclude industries known to be at their mature stage; however, T. Rowe Price also expressed interest in looking at divisions of old industries experiencing vigorous growth as a result of new products or new uses for old products. In the end, when applying this screen it may be better to screen for reasonable levels of growth and manually exclude firms that do not have strong long-term growth potential.
While T. Rowe Price concentrated on growth, he would not pay any price for that growth. When looking at price-earnings ratios, he would prefer not to buy stocks selling at levels high relative to their historical average. A current price-earnings ratio lower than its historical average would be a potential sign that a stock is undervalued, while a current price-earnings ratio that is high compared to its historical average might indicate an overvalued firm.
Management
T. Rowe Price felt that good management was an important consideration when selecting firms, believing that managers should have substantial interest in the firm and not receive compensation primarily from big salaries and pensions.
Strong Finances
T. Rowe Price thought that a company should have strong finances to be considered for purchase. The failing of many growth firms is the inability to obtain further capital for future expansion. T. Rowe Price focused in on the ability to increase capital from retained earnings and on the ability to obtain further financing.
Return on Invested Capital
T. Rowe Price looked for high and expanding return on invested capital (earnings before interest, taxes and dividends divided by common equity, preferred stock and long-term debt) when selecting stocks.
Largest Changes In Raw Numbers (21 Days)
NOTE: The presentation of this report has now been changed to an excel spreadsheet format containing all Industry Groups, ETF's, and Indexes, allowing you to sort all from best to worst. In addition each weeks report will appear next to the last weeks report and so on, allowing I believe much easier research on your part.
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Have A Great Week!
Bill
Prudent Trader.com
Disclaimer: Trading in securities, of any type, may not be suitable for all individuals. The contents of this newsletter are not a solicitation to buy or sell securities. The opinions expressed are solely that of the author. You must do your own research, contact your own financial advisor for suitability of any investments. Data gathered is from sources believed to be reliable, but NO guarantee as to their accuracy is made.
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