Great investment returns won’t grow themselves. They need a solid foundation with which to blossom and grow. A simple process that finds the best stocks to buy is the lifeblood of every great investor. The following rules are a simple process to help you find great investment opportunities fast.
6) Be Contrarian (sometimes).
“Do not follow where the path may lead. Go, instead, where there is no path and leave a trail.” - Ralph Waldo Emerson
As an investor you can’t be afraid to buy stocks that others have left for dead. You will never be 100% certain in investing. If you believe your investment thesis still holds true, then you must have the courage in your convictions to let your decision play out. In order to control your flight response to combat fear and pain, give yourself room to buy more on the down side. If you believe you’ve found a great investment opportunity, don’t purchase the entire position right away.
For example, let's say I want to establish a $10,000 position in AAPL which equates to 10% of my overall portfolio. Because I am a horrible market timer, I will establish a core position of $5,000 (5% of portfolio) and add to my position if the stock continued to drift lower till I established my full $10,000 position (all else being equal).
It’s a technique to help investors average into great investments safety.
“Value investing is at its core the marriage of a contrarian streak and a calculator.” - Seth Klarman
When making contrarian investment decisions, it is vital that an investor control his/her emotions. Emotion must be left at the door when investing. Fear and greed are two powerful emotions that can wreak havoc to the decision making process, which then trickles down to your investment returns. There is nothing worse than being right with your investment thesis, and then selling out of your investment at the lows right before the subsequent recovery.
The market will always attempt to cause the most amount of pain to the most amount of people. Any time you find yourself leaning too far with the majority or the herd, it could be time to rethink your strategy.
Contrarian investors are always on the look-out for low-risk, high uncertainty investments. Mohnish Pabrai (Pabrai Funds) calls it “heads, I win…tails, I don’t lose too much.” Investors will be able to separate themselves from the rest of the crowd by consistently buying low-risk, high uncertainty contrarian investments with risk reward scenarios greater than 5:1.
7) Be Patient.
“If you are not willing to own a stock for 10 years, do not even think about owning it for 10 minutes.” - Warren Buffett
An investor should expect a convergence between Price and Intrinsic Value over the course of 2-3 years (sometimes more). I believe this is an acceptable time period for an individual to be patient, while you give your investment thesis time to play out. Sometimes the convergence gets there quicker, and sometimes it doesn’t get there at all.
If you succumb to the short-term whims of Mr. Market, you are severely handicapping yourself. Allowing at least 2-3 years for your investment to work, gives you an superior advantage over other market participants.
Personally, I have held positions for up to 7 years (and counting). Most worked out, some didn’t.
Stocks don’t go up immediately. Be ready for that to happen. In fact, be ready for the stock to go down in value after your initial purchase. It will put you in a better state of mind by expecting a drop in stock prices.
I always hope that a stock goes down after I purchase it. I know…I am sick. 
Smart investors will be patient and give themselves room to purchase more at lower prices. If it was a great investment at $15 per share, then it should be an even better investment at $10 per share. That’s great investing. Most people don’t think like this though.
8) Always Seek Catalysts.
“Value investors are always on the lookout for catalysts. While buying assets at a discount from underlying value is the defining characteristic of value investing, the partial or total realization of underlying value through a catalyst is an important means of generating profits.” - Seth Klarman
Catalysts help investors pinpoint potential events which will cause the business to grow and/or the stock to rise.
Cheap prices can sometimes be enough of a catalyst for share price appreciation, however we want a greater assurance for share price appreciation and margin of safety.
The presence of readily established catalysts helps to increase our margin of safety by potentially increasing the speed of return. Shareholders benefit in two ways after a stock is purchased at a discount from a business’s underlying value:
- The stock begins to rise to converge with its underlying intrinsic value.
- An event(s) occurs which causes the value to be realized instantly or over time by other market participants.
Although an investor will likely do extremely well over the long-term by purchasing businesses at deep discounts to their intrinsic values, we want further confirmation. An investor never wants to be completely held captive by the vagaries of of human nature and the often times irrational behavior of the markets.
Investors want to invest in in high quality business, at deep discounts to intrinsic value which have likely events in the horizon to bring about full value of that investment. Investors call these events catalysts.
Catalysts reduce risk and help investors by:
- Reducing their dependence on market forces for investment returns.
- Fast-tracking the time between price and value.
Here are a few catalysts that investors use to bring about full or partial value in an investment:
- Liquidations
- Spin-Offs or Divestitures
- Recapitalization
- Major asset sales (includes merger-arbitrage)
- Stock Buybacks
- Dividend Initiation or Increase
- Activist Involvement
- Future growth of the underlying business
- Future growth of the industry
- Volatility Squeeze
- Short-Interest
- Business Turnaround
9) Be Cautious Of Leverage.
On Leverage: “If you’re smart you don’t need it, and if you’re dumb, you got no business using it.” - Anonymous
Leverage is a double-edged sword.
As quickly as leverage can work well on the upside, it can turn at the flip of a switch. It can work amazingly well during the boom times. And it can be disastrous, and wipe you out on the downside if your not careful. Ideally, you never want to invest using leverage.
This goes for businesses too. The majority of investor failures occur from investing in businesses that were over-leveraged. As an investor, you never want to interrupt the power of compounding if you can help it.
Businesses with strong balance sheets can give investors the confidence to buy more of their favorite ideas when it seems the world is coming to an end. Nothing kills a business faster excessive leverage.
Leverage brings added risk of permanent loss of capital to the individual and business alike. As an investor, it's best to stay away from leverage. If you’re investing correctly, the power of compounding will make you extremely wealthy in short order.
10) The Best Stock To Buy May Be One You Already Own.
“Exactly when to sell – or buy – depends on the alternative opportunities that are available…It would be foolish to hold out for an extra fraction of a point of gain in a stock selling just below underlying value when the market offers many bargains.” - Seth Klarman
Every investment decision you make should be weighed against the investments in your current portfolio.
Only sell your current positions if the stock becomes incredibly expensive, or if you find a better high-quality investment with a greater divergence between price and intrinsic value. This will lower your risk profile, while increasing your potential rate of return at the same time.
What’s Next
“What lies behind us and what lies before us are tiny matters compared to what lies within us.” - Ralph Waldo Emerson
The sky’s the limit!
Investing is a fun, challenging, exciting, dynamic and lucrative endeavor. And it can also be dangerous and time consuming too, if an investor doesn’t have a simple, repeatable system for finding the best stocks to buy.
We’ve laid out the Golden Rules for you to go find amazing investment opportunities. You now have no more need for teams of ‘crack-shot’ analysts or high-priced newsletters or overpaid money managers.
Virtually every investment idea we make is cloned from another investor we admire or respect (and then vetted through our in-depth research process). And the best part of this business model is we still get the out-sized investment returns, while not having to pay management and return fees (or team of analysts).
Make it simple — Be a cloner. You can do it all by yourself.
And just in case you get lonely, you have Endless Rise Investor and the Super Investors beside you all the way to give you their best ideas.
What are you waiting for?
Go get ‘em!
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