Finding quality, profitable investments or avoiding mistakes that
cost you money: which do you consider the more important?
Many people write and tell us that avoiding costly mistakes
is what worries them more. The possibility of seriously
reducing your retirement nest egg is one example that causes
When it comes to investing mistakes, they
fall into two categories, subjective and objective. Subjective
mistakes are due to fuzzy thinking and behavioral biases.
Objective mistakes are due to not understanding what are
the drivers of profitable companies or to not recognizing
danger signs in a company.
Fuzzy thinking and behavioral
You can see a range of subjective mistakes
including Get-Evenitis, Consolidated Profitus and Tradophilia
in the articles Get-Evenitis
and Other Investor Maladies and
Maladies: The King Kong Syndrome and Tradophilia.
For example, Get-Evenitis is the disease of usually holding
onto your stocks whenever they go down in price irrespective
of whether or not they continue to be investments that are
likely to bring healthy returns.
I call them chronic investor diseases. Like
chronic diseases in the area of health, it is often hard
to put your finger on the precise problem. You just know
that something is wrong but it is hard to describe what
it is and often even harder to treat.
Conscious Investor will help you diagnose
and treat these diseases. And, most importantly, it will
strengthen your (investment) immune system so that you won't
contract it again.
Lack of proper screening
and evaluation methods
Objective mistakes are based in not having
the ability to screen the market and not knowing what to
do to evaluate the likely success of businesses. In Conscious
Investor® this is done in a systematic way. First of
all there is a preliminary screening or filtering on the
level of the sectors or even the whole market. This is done
in a few seconds using the database of all the listed stocks
on the AMEX, NYSE, NASDAQ, as well as the Canadian and Australian
This quickly weeds out from 95 to 98 percent
of companies. For example, a common investor mistake is
to buy stock in companies with excessive debt. For example,
as we will see in the table below Enron would not have passed
this level of filtering because of its high levels of debt
with its debt actually exceeded the equity of the company
in many years.
Another mistake of investors is to invest
in companies with low return on equity. For example, Warren
Buffett looks for companies with a high return on equity
and little or no debt.
This mistake is avoided as part of the next
analysis which considers the current and historical financial
position of the remaining companies in six areas: management,
growth, debt, liquidity, payout and price-earnings ratio.
This is done very quickly and thoroughly through a series
of six charts. Whether companies pass these criteria at
the present time as well as over the past years is vitally
important before you would consider investing in it.
Avoiding companies before fraud
The filters of Conscious Investor are so powerful
that they helped to avoid companies such as Enron, WorldCom
and Tyco before the fraud they committed was detected. It
is not that Conscious Investor itself uncovers the fraud.
Rather, there are generally other actions associated with
fraud and criminal activity of companies that bars the companies
from being suitable investments. The following table shows
the examples of Enron, WorldCom and Tyco.
In late 2001, Enron revealed it would incur losses
of at least $1 billion and would restate its financial
results for 1997, 1998, 1999, 2000, and the first
two quarters of 2001, to correct errors that inflated
Enron's net income by $591 million. The impact of
this restatement was enormous as Enron's stock dropped
91%. Soon after, Dynegy Inc.'s attempted acquisition
of Enron fell through, Enron's debt was downgraded
to junk bond status and its stock dropped to just
$0.26 per share. On December 2, 2001, Enron filed
for Chapter 11 bankruptcy.
Total cost to stock and bond investors: $74 billion
from the company's peak valuation
|In the six years prior to the announcements of the
situation with Enron the company had an average debt
to equity ration of 107.8%. Also it had an average return
on capital of 6.12%. Both these measures would ensure
that Enron would not be an acceptable company to invest
in according to Conscious Investor filters.
Executives at telecommunications giant WorldCom
perpetrated accounting fraud that led to the largest
bankruptcy in history. The fraud was revealed to the
public in June 2002 and WorldCom filed for bankruptcy
in July 2002. Evidence shows that the accounting fraud
was discovered as early as June 2001, when several
former employees gave statements alleging instances
of hiding bad debt, understating costs, and backdating
Total cost to investors: $107 billion.
|One of the areas that Conscious Investor focuses on
is stability in the growth of earnings and sales. Earnings
for WorldCom were extremely unstable during the 10 years
prior to the announcement of the investigation. (From
a technical perspective, they had a STAEGR of 20.8%
[details].) Also over
the same period the company had a return on equity of
5.63%. In both cases this would block WorldCom from
having the potential of a "wealth creating"
|During 2002, the Securities and Exchange Commission
began an investigation of Tyco's top executives. Inquiries
into the accuracy of the company's books began in January.
As investigations continued it was uncovered that Dennis
Kozlowski, Tyco's former CEO; Mark Swartz, Tyco's former
CFO; and Mark Belnick, the company's chief legal officer,
had taken over $170 million in loans from Tyco without
receiving appropriate approval from Tyco's compensation
committee and notifying shareholders. In July 2005 Kozlowski
and Swartz were found guilty of stealing more than $150
million from Tyco..
||The case of Tyco is not as clear cut as those of Enron
and WorldCom. Nevertheless, the evidence shows that
Tyco would not be a company for "conscious investors".
For example, its average return on equity over the years
95-99 was only 9.82%. Also its earnings stability from
1995 to 2001 was 76.9%.
Putting it simply, if investors had run Enron,
WorldCom and Tyco through Conscious Investor before deciding
to buy the stock, they would not have gone ahead with the
purchases and consequently would have saved themselves billions
Avoid the publicity-seeking
Another danger sign is when the CEO pushes
to get publicity for his or her successes to an excessive
level. Sometimes it can be just small signs that tip you
off. For example, Jeff Skilling, the former CEO of Enron,
drove a black luxury car with a license plate that reads
"WLEC". Translation: World’s Leading Energy
Company. In contrast, the number plate of Warren Buffett's
car reads "THRIFTY".
Conscious Investor helps
you avoid these mistakes
The important outcome is that Conscious Investor
provides the framework and tools to avoid these and other
common and not-so-common investor mistakes. And it can even
help you avoid what is feared by most investors, putting
your money in a company where you later find out has management
that's engaged in fraudulent and criminal activity. You
can see how effectively it does this in any of the free