Can You Invest with Certainty?

Filed in archive Investing on February 2, 2006

Phil Town of Rule #1 believes you can. I completely agree with him when he says: "For starters -- know your company." He is exactly right. I have tried to tell people for years that you don't invest in this glob called a market, you invest in a company. And if you are going to invest in an individual company you do need to know it as in depth as you are able to.

Of course I know that there are index funds and mutual funds etc. But even in those there are very specific factors that need to be known and then acted upon.

In response to one of his reader's questions, he gave him this advice:

"The key to investing with certainty is to know where the stock will be priced in ten years. Obviously if you know that, you then know what to pay today to make a great return. So predictability is critical. Predictability is not guessing. It's knowing. You have to know the business well enough to know that it is vastly undervalued, it is totally durable and it is consistent. While you have the right idea -- buy when there's been a problem -- you haven't yet put 2+2 together. "

Durable + Consistent = Predictable.

"If it's predictable we can put a value on it. If it isn't, we can't.
So back to Montpelier. What's it worth? Well, it's got a bad ROIC and a bad ROE so we know it isn't managed well. Its EPS growth and sales growth are all over the map. Equity and cash are doing well but it only has 4 years of data, so what can we project from that? Nothing. Its current EPS is negative so what do we start with to estimate earnings in the future? I could go with analyst's estimates of 2006 earnings if I like shooting craps."

This is not really that difficult to understand. It goes back to what Mr. Town says about you just need to know the company. When it comes down to it that's the bottom line that will affect your bottom line.

This advice is in the context of the strategy Warren Buffet uses. When you invest in a company and it is undervalued, and you know it is, you can absolutely invest with the knowledge that if you hold onto it for a long season of time, you will predictably reap great results.