"Life is simple, but we
insist on making complicated"
-Confucious
Welcome to The Golden Sense! Ranch dressing dates back to the owners of a dude ranch in Santa Barbara California. Yes, the ranch was named Hidden Valley and they served their guests a special salad topper that combined herbs, mayonnaise and buttermilk. This being the 1950's, the best they could to commercialize their invention was to sell little packets of seasonings which buyers then mixed with their own perishables at home. The breakthrough of Hidden Valley Ranch dressing came in the 1980's after chemists at Clorox (the new owner of the brand), figured out the right combination of preservatives to allow the dairy-heavy dressing to be sold as a “shelf stable” product that could last for 150 days.
Investing is not as complicated as chemistry. However, many people insist that it should be. There are all sorts of mathematical formulas, charts, trends, and theories to follow. Some people treat investing like gambling (they call it speculating), others think of it as a poker game and play with options and futures. Most of these strategies are based on buying a stock, or any other security, at the right time and selling it later at higher price. This may be a fashionable strategy, but it is devoid of long term wisdom and the creation of financial stability.
The only thing that matters when it comes to investing in stocks is cash flow and return on investment. This is where keeping it simple comes into play. There are three rules when it comes to investing in stocks. If you follow these rules you will most likely do well over the long run.
First, only invest in stocks that pay a 3% dividend or higher. A dividend is a sum of money paid regularly (typically quarterly) by a company to its shareholders out of its profits or reserves. By owning shares of a company that pays a healthy dividend, you are ensuring a quarterly cash flow into your personal account. This represents and actual return on investment.
Dividends are important because they measure the financial
health of a company. As the late Richard Russell used to say, "A lot
of lies can be told about a stock, but dividends don't lie. In order
to increase dividends a company must create a history of producing cash,
analysts can lie, earnings can lie, and CEO's can lie, but dividends don't lie."
An
investor should always get paid for the risk they take when investing in a
stock. Kevin O'Leary, of Shark Tank, emphasizes the same point when he says,
"don't rent your room out for free". His point is that you should not
invest money in a company without receiving a return on your investment as you
wait. Kevin O'Leary, just like me, encourages investing in dividend paying
stocks. Forget about stocks that don't pay a dividend. Investing in those
stocks are based on faith that the company will reinvest current profits and
make bigger profits in the future. This might happen, but it might not. It's
much better for the shareholder to receive a portion (dividend) of current
profits for the risk he or she took for investing in the company.
Secondly,
never invest in a stock or any security that you do not understand. This means
being brutally honest with yourself. Don't act like you know everything about
the tech industry or act like you understand what is on a bank’s balance sheet.
Unless you are an insider or actively involved in the industry... forget about
it. You probably know very little. Examples of easy to understand businesses
are Coca Cola, British American Tobacco, or United Parcel Service. I am not
saying these companies are a good buy at this point in time, but what I am
saying is that these companies have business models that are simple, time
tested, and hard to screw up. If you have a good understanding of a company’s
business model, it will force you to make better investment decisions. This is
critically important to your financial future because it helps you to take
responsibility for your decisions.
Third,
invest only in stocks that have a price to earnings ratio (P/E Ratio) of 17 or
below. A P/E ratio measures the current share price relative to the company’s
current earnings per a share. The higher the P/E ratio the more expensive the
stock is. You need to treat investing just like going to the grocery store. You
don't want to over pay for a stock just like you don't want to over pay for a
loaf of bread. You are getting ripped off if you over pay for a loaf of bread,
and if you over pay for a stock you are also getting ripped off and will most
likely lose money in the future as the price of the stock will lower in relation to
its earnings.
The
historical average P/E ratio for the entire stock market (S&P) is between
15 and 18 (depending on how far back you go). If you stick to the rule of
investing in companies with a P/E ratio of less than 17, you will most likely
avoid the mistake of buying a stock that is overvalued. You could also look at
the historical P/E ratio of a particular stock. However, if you generally follow
the rule of 17 or below, you won’t lose your shirt on the investment.
Imagine,
over time, continually investing in reasonably valued, easy to understand stocks
that pay a 3% dividend or better; as you age, your cash flow from the dividends
will get larger and larger. You will build a healthy second income that one day
could develop into the only income you need. Your investment portfolio won't be
at a huge risk because you will have purchased time tested stocks at reasonable
values. This practice is the corner stone of creating a stable financial
future. It is never too late to start, because getting your share of some
profits is always a good thing.
Speaking
of share, ranch dressing is now believed to be the most popular salad dressing
in America. It shows you what a little bit of stability can do.
Over
and Out
T.
Norman
References:
(Brown,
Steve 2016. Bank Investment Daily)
