Making Money with Stockmarket

Making Money with Stockmarket by Colin Klinkert
The key to making money in the stock market is invest for the long-term, buying only undervalued stocks which, to quote Benjamin Graham, have a "Margin Of Safety". Ben Graham and Warren Buffett both made enormous fortunes through long-term value investing. Indeed, Buffett continues to do so and has averaged over 22% average compounded annual gains over a 39 year period.
These results are phenomenal and not easy to emulate. However, with time on your side and a little bit of work it is possible to do nearly as well as Buffett. Even if you beat the S&P 500's average long term return of around 11%, you are doing very well indeed.
Suppose you invest $3,000 in a Roth IRA or other tax-efficient retirement account every year for 20 years and achieve an average annual compounded gain of 11% over that period. At the end of the 20 year period you could have around $238,000 disregarding dealing costs and dividends. You have only invested $60,000 - so $178,000 is generated entirely through compound interest. If you were to emulate Buffett's 22%, that $60k would become $1,031,000. If you were to start earlier and invest $3,000 a year for 40 years at 11%, you would end up with $2,132,483. Match Buffett's 22% on these investments over 40 years and you may wind up with a whopping $55,000,000, for an investment of $120,000! That is the power of compound interest.
Many people ask me "Which stocks do I buy?" and "How do I start?" They keep making excuses NOT to start investing for the long-term. My advice is a bit like a Nike commercial: JUST DO IT! Get started. Open a Roth IRA, start by putting money in regularly, even if it's only $25/month. It's important to get into the HABIT of regular savings. In the meantime you can worry about which stocks to buy.
Picking stocks to buy is not actually that hard. It should not take a great deal of work. There are lots of places you can look for investment ideas: in fact there are hundreds of investing websites, including The Graham Investor where we tend to profile stocks that come up in value-based screens and give an opinion as to why a particular may be worth following - not necessarily buying.
There are many different strategies to take; a typical one is to first screen for stocks that meet a particular value criterion which might be any one of: a low PEG, high intrinsic value when compared to current price, price below two-thirds of the Graham Number. Once we have a list of suitable stocks meeting the basic criterion, we can filter out stocks with poor cash flow, excessive debt, poor earnings, or insignificant anticipated growth. We also avoid stocks with low liquidity by making sure average daily volume is as high as possible, and stocks with low prices (typically steering clear of stocks trading at less than $3).
Once the additional criteria are met, look at the charts for each stock. Look for a recent clear downtrend or new 52-week low. Put the stocks with a most obvious downtrend onto a watch list. In particular watch those where the downtrend also shows declining volume. Look at the news for these stocks to see if there is an obvious reason for their recent poor performance. Do not buy - they could go down more. We don't want to try to catch the bottom; it's a sure way to lose money. What we are watching for is a clear sign of a reversal and buy as the stock moves up. Often a reversal can take place slowly and imperceptibly, other times it can be an abrupt reversal. Most often it is somewhere in between. Perhaps the stock has been beaten down by investor sentiment in the form of an overreaction to bad news. At some point the bad news may be dispelled or proven to be unfounded, and the stock will begin to return to fair value. Or, some good news may come in and the stock reverses as investor sentiment comes in. Typically when this happens, we want to see the downtrend broken convincingly and the price rising on increasing volume.
How do we know if the downtrend has broken? Simply draw a line joining the high points in the downtrend, and wait for that line to be broken to the upside with significant volume. What is significant volume? It depends. The higher the volume the better. Look for at least 150% of the average daily volume.
Once you have bought, set a stop loss order around 8-10% below where you bought. If at all possible, set the stop loss order just below the lowest low point before the reversal, so long as it's not too far away from your entry. Spreading your risk can help minimize losses. Divide your equity into at least 10 lots; if you have $5,000 to invest only buy $500 worth of each stock and keep your stop loss 10% of that, or $50. If the logical stop loss point is too far from your possible entry point, don't invest. Stick to the rules and cut your losses short. Let your profits run. In the long run you will make much more on the winners than you lose on the losers -- you can have 5 losers and still be down only $250 or 5% of your equity.
Buying undervalued stocks with good fundamentals in this way at or near low points when nobody else has been interested for a while but there are signs of a reversal is possibly one of the least risky investment techniques because of the built-in "Margin Of Safety".
(c) 2005 The Graham Investor - Value Investing You may use this article, as-is, provided this copyright notice is kept intact.
Author Info: John B. Keown is an IT specialist, website builder and private investor who enjoys all things stock-related and in particular seeking out undervalued stocks. He can be contacted via http://www.grahaminvestor.com
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Dollar cost averaging

INVESTMENT "MAGIC" DOLLAR AVERAGING
In a story in early 1959 on a decision by the State of New Mexico to invest 25 percent of its $159 million Permanent Fund in common stocks (as against a previous practice of holding the entire fund in high grade bonds), it was reported that the $59 million bundle would be sunk into equities under a "slow, four-and-a-half year program," calling for stock purchases of about $1.1 million a month.1
This application of what has come to be known as dollar averaging (or dollar cost averaging) is striking evidence of the high prestige of this investment formula. Although dollar aver-aging is usually thought of in connection with the small investor, a large number of institutions have long been practitioners— especially those such as pension funds, which deal with a constant flow of incoming cash.
The New Mexico example is significant in that it involves a sum of money already on hand. A look at the special circum-stances shows why the New Mexico Investment Council, responsir ble for investing the money, picked the dollar averaging ap-proach. A majority of the eight council members were described as "amateurs" in investing and were undoubtedly reluctant to take the blame for making a quick, big plunge in the market at what might turn out to be the wrong moment—especially in view of the all-time high level of stock prices at the time. As it hap-pened, the market did rise considerably for some time after the initial decision was made. It is therefore easy to say that the plan was wrong, since some stocks could have been bought at lower prices if a sizable portion of the money had been invested right
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INVESTMENT MAGIC . DOLLAR AVERAGING
at the start. However, it must not be forgotten that quite a large amount of money was involved, and even an investment pro-fessional would not be eager to take the responsibility for de-ciding that any particular moment might be the appropriate time to invest $159 million. Then too, the council members were in positions of public responsibility, and were thus doubly on the spot.
PRINCIPLE OF DOLLAR AVERAGING
The idea of dollar averaging is to purchase the same dollar amount of a stock or stocks at regular intervals—monthly, quar-terly or annually. Naturally, the method is especially appealing to small investors, who perhaps would not be able to buy stocks any other way, and it has been publicized primarily by the New York Stock Exchange in connection with its Monthly In-vestment Plan, and by mutual fund marketing organizations.
Buying stock at regular intervals seems a completely prac-tical and relatively painless way of accumulating a sizable account. More important, however, the automatic result of buying a fixed dollar amount of stocks at each purchase point—instead of, say, a fixed number of shares—is that more shares are bought at low points, and fewer at high points. By increasing the number of shares purchased when prices are low, and cutting down as prices rise, the investor is constantly working to reduce his average cost, so that the average cost of shares purchased is always lower than the average of the prices paid.
For a clearer picture of exactly what this means, take a look at Table 1, showing results of a hypothetical dollar averaging program using the stock of Bond Stores. Over the 15-year period beginning in 1944, the stock rose sharply from the twenties to a high of nearly 50 in 1946, dropped slowly in succeeding years, and recovered near the end of the period. Our dollar averaging program assumes purchases of $1,000 worth of stock on the last trading day of each year, at an approximate average of the high and low prices of that day, the last purchase being made in 1958. The first purchase is at 221/4, and the last at 211/8, with purchases in intervening years ranging from a high of 391/2 to a low of 131/8. Thus we see the operation of the plan over a complete market cycle, in which stock is bought above as well as below
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HOW TO PROFIT FROM FORMULA PLANS IN THE STOCK MARKET
the initial price, and the last purchase is near the same price as the first. Neither commissions nor dividends are included in the calculations, and investment of the $1,000 in full and fractional shares is assumed.
TABLE 1
BOND STORES
Dollar Averaging Program, 1944-58

				TOTAL				AVG.
			NO.	NO.	TOTAL	TOTAL	AVG. OF	COST
	AMOUNT		SHARES	SHARES	AMOUNT	MKT.	PRICES	PER
YEAR	Invested	) PRICE	PURCHASED	PURCHASED	INVESTED	VALUE	PAH)	SHARE
1944	$1,000	22lA*	44.85	44.85	$1,000	$1,000.00	22.25	22.25
1945	1,000	39Y2	25.32	70.17	2,000	2,771.72	30.88	28.5
1946	1,000	31Vi	31.74	101.91	3,000	3,210.17	31.08	29.54
1947	1,000	25W	39.22	141.13	4,000	3,598.82	29.69	28.34
1948	1,000	17	58.82	199.95	5,000	3,399.25	27.15	25.01
1949	1,000	15%	65.04	264.99	6,000	4,073.22	25.19	22.64
1950	1,000	16%	59.64	324.63	7,000	5,457.55	23.98	21.56
1951	1,000	14	71.43	396.06	8,000	5,544.84	22.93	20.2
1952	1,000	14	71.43	467.49	9,000	6,544.86	21.76	19.25
1953	1,000	13V6	76.19	543.68	10,000	7,125.80	20.9	18.39
1954	1,000	17Y2	57.14	600.82	11,000	10,514.25	20.59	18.31
1955	1,000	16%	59.65	660.47	12,000	10,462.87	20.27	18.17
1956	1,000	14%	69.57	730.04	13,000	10,494.33	19.77	17.81
1957	1,000	14Vi	68.97	799.01	14,000	11,585.64	19.64	17.52
1958	1,000	21V8	47.33	846.34	15,000	17,878.93	19.55	17.61

Last Updated on 11/5/2005

By geoff

♦Adjusted for 2-for-l split in 1945.
The number of shares purchased ranges from 31.74 in 1946, to 76.19 in 1953. Over the 15-year period, a total of $15,000 is invested, and total market value is $17,878.93 at the end of the plan. While this may seem an unexciting result, it should be noted that the stock itself has not only made no progress at all, but has lost ground.
The reason for the satisfactory result despite relatively poor market performance is, as stated above, that at any time after the beginning of the plan, the average cost of shares purchased is lower than the average of prices paid, because fewer shares are bought at high prices, more at low prices. The discrepancy between the average of prices paid and average cost per share is shown in the table. Not shown in the table are dividends, which would have been considerable, amounting to about $1,000 during
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