Portrait of A Successful Investor
Musings on Investing Styles
Some Thoughts on Apple (
The world is full of successful investors. Some are famous;
most are not. Today's story is about one of the latter, a guy
Joe and my father became friends roughly 55 years ago while
they were working at General Electric in the aircraft engine
division. My father was a mechanical engineer, while Joe's talent
was operations research; it was a hot new field back then, a bit
like Cloud computing today.
Joe's main hobby was golf, while my father's main hobbies were
music and investing.
Well, Joe never could get my father to take up golf; tennis
was more his speed. But my father succeeded in getting Joe hooked
on investing, and over the years they spent many hours sharing
tips and discussing investing strategies.
After a few years, both moved on from GE. But they stayed in
My parents had five kids while Joe and his wife had three. Our
families vacationed together in the summer. Some of us skied
together in the winter; I remember piling into the back of Joe's
big station wagon for the ride to New Hampshire many times.
Today Joe is 87 years old. He turns 88 in June. He still plays
a lot of golf, in part because it provides increasingly important
But above all he invests-seriously. He's successful at it.
And here's why.
When Joe retired at age 77, he found himself with a lot of
time on his hands. Plus, he found that he wanted a mental
stimulant, to ward off any type of mental decline.
So he decided to focus his attention on small-cap
Now, small-cap investing is risky for anyone, and a lot of
people who try it don't last long; they lose their shirt and they
go back to mutual funds, or dividend-paying blue chips.
But Joe wasn't foolish. As a long-time reader of numerous
Cabot advisories, he knew enough to avoid the usual beginners'
So he kept the bulk of his investable funds in sensible
long-term securities, the way any competent money manager would:
dividend-paying blue chip stocks, municipal bonds, etc. It
doesn't take a lot of work, and the resulting average annual
return is enough to live on.
But with his "discretionary" money, the money he spends much
more time thinking about, Joe began to invest in underfollowed
small-cap stocks. More important, he began to research them, in
Just a few decades ago, researching these stocks was
difficult. If you wanted to learn anything, you had to subscribe
to investment newsletters or go to the library. Barron's was
useful, but it was limited.
Today, by contrast, the Internet has made information
abundant. And anyone who takes the time, and has a decent
system-and follows that system-can learn enough to do pretty
Joe has the time. He spends about four hours a day on his
discretionary portfolio, more than most of my readers.
And he has more than the Internet; he's a long-time reader of
numerous Cabot advisories, and particularly fond of Cabot Market
Letter, Cabot Top Ten Trader, Cabot Stock of the Month, Dick
Davis Investment Digest and Dick Davis Dividend Digest.
But he's not loyal to any particular system or editor. He
loves them for the ideas they provide, but he has his own
investing system, which he usually follows.
Joe's system is unusual in a couple of ways that are worth
First, he diversifies heavily; his discretionary portfolio has
roughly 60 stocks! To me, that's an unnecessarily large number.
As a growth investor, I like to focus much more narrowly; I like
every stock in my portfolio to be working for me today.
But Joe argues that his broad diversification provides safety.
He says any stock that crashes-and small-caps do sometimes
crash-won't have too heavy an impact on the whole. This is a
true, but it's an argument usually used by value investors.
And Joe is, in a way, a value investor!
He has a method of determining the fair value for a stock that
prevents him from buying stocks that are "too high" and gives him
confidence to hold onto a stock that's temporarily
This valuation model, like many, is based on a stock's P/E
ratio. But Joe adds a twist. Using data found online, he takes
the earnings estimate that's farthest in the future for that
company, and then applies a multiplier, based on the company's
expected earnings growth rate; a higher growth rate justifies a
greater multiple, which justifies paying a higher price.
Joe's system doesn't always work; no system does. And Joe
can't use it on companies that are not yet profitable, including
many biotech companies. But he thinks it's saved him a lot of
Furthermore, as Joe has put more and more weight on this
valuation system, he's evolved away from small-cap stocks. Today,
nearly 10% of his stocks are trading for more than $100 a share,
while roughly 25% are trading for less than $10 a share.
And not all those low-priced stocks have great prospects!
You see, like many investors, Joe has trouble selling stocks
that go down. In fact, of his 60-odd stocks, roughly 10 show
losses of greater than 50%, and some are over 90%. I would sell
all of those big losers today and work to put the money in stocks
going the right direction. But Joe says, somewhat wistfully,
"They're not worth selling anymore." And as is common among all
investors who hold their big losers, he has some lingering hope
that they might come back!
Nevertheless, his numbers are very good.
Through last Friday, Joe's discretionary portfolio was up
20.1% year-to-date. By comparison, the Dow was up 12.3%, the
S&P 500 was up 10.9% and the Nasdaq Composite was up
And Joe isn't even trying to maximize his return! If he did,
he'd work more hours, and do more trading. But he doesn't want to
work harder. He just wants to make his account grow, and to keep
his mind engaged enough to keep from turning into a couch
I think Joe has done a marvelous job of developing an
investing system that works for him, in more ways than one, and I
recommend that you do the same and find a system that works for
you, if you have time.
MUSINGS ON INVESTING STYLES
I like to say that one of Cabot's missions is to help you find
the investment system that's right for you. So here's a quick,
subjective appraisal of some growth investing styles.
Joe's investing style might be called "Growth at a Reasonable
Price," or GARP. It works for him, as similar GARP systems work
for many investors. He doesn't rely much on charts, and as
mentioned, he could do better at selling.
My father, who founded Cabot, didn't give a hoot about
valuation. He liked strong charts. If a stock was going up, and
the story was good, he'd happily jump on board, knowing the
potential was there for it to climb even higher. In fact, Joe
remembers my father saying many times, "Always buy more of your
best performers." For my father, that sometimes meant 40% of his
portfolio ended up in one stock-and he was fine with that! My
father was also big on the idea that it was changes in perception
that moved a stock, so the best time to buy a stock was just
ahead of a big wave of improvement in investor perception. He
seldom sold too soon, while he sometimes sold too late.
Mike Cintolo, by contrast, is a great fan of high-potential
chart set-ups. He won't buy a stock that's over-extended; he
doesn't want the risk. But with a long watch list of
well-researched great growth stories, when a set-up does
materialize, Mike is often ready. Mike spends a little more time
than my father thinking about valuation, but not a lot; he likes
to say that for growth stocks, "Valuation is the result of good
performance, rather than vice versa." Finally, Mike has proven
himself better than both my father and Joe at selling; he'll
often take partial profits near a stock's peak and he'll sell
quickly when a stock breaks down.
Finally, there's me. I don't care much about valuation; I
think future numbers are too difficult to predict for great
growth stocks. I do respect charts a lot, so I prefer stocks that
are under accumulation. And I like great, often revolutionary
growth stories. But I've come to realize that what makes me
different is my focus on investor psychology. I like recommending
stocks where investor perception is very likely to improve, like
which I recommended more than a year ago, or
First Solar (
, which I recommended just three months ago. And I'm leery of
stocks that are too popular, like
last year, where a shift toward lower perceptions has the
potential to set off a selling stampede.
Lastly, some thoughts on
Most-perhaps all-investing systems that measured value called
Apple a decent value last year. Joe's system did, and so did our
Cabot Benjamin Graham Value Investor.
But that value didn't stop the stock from falling 31% in
little over six months!
In recent weeks, more and more advisors have been popping up
calling Apple a buy "at these depressed levels."
Well, I respectfully disagree, and here's why.
First, I wasn't surprised when Apple topped last year. As I
wrote both before and after the top, when a stock is owned by
everyone who has the potential to own it, the only way it can go
when perceptions begin to worsen-even infinitesimally-is down,
regardless of valuation.
Today, Apple is combating its stock's slide by doing the only
thing it can; shoveling cash to investors through stock buy-backs
and dividends. In the next year, these efforts will cost it $60
billion, and probably stem the stock's slide.
AAPL's chart may help, too. The stock is nearing its 200-week
moving average-it's now at 370-and there's also support in the
350 region dating back to 2011, so the odds are good for AAPL to
build a base in that area.
But I don't think the stock will reward buyers who are jumping
on board here, because investing is not that easy!
This is not about valuation. It's not about charts. And it's
not even about the loss of Steve Jobs; I'm pretty sure this would
have happened even if Steve were still around.
What it's about is investor psychology.
The way I see it, too many people today still hold the memory
of AAPL being a great investment. Too many people still remember
missing the opportunity to buy AAPL low enough the first time
around, and thus too many people are attuned to the "opportunity"
to now buy APPL some 30% off its high.
But the market doesn't give you what you wish for. Instead,
the market offers opportunities that you're not looking for, and
that are hard to recognize.
Note: Also arguing for a more difficult future is the fact
that Apple's business is deteriorating fast. Thanks to growing
competition and falling prices, Apple's margins appeared doomed
to shrink dramatically in the years ahead. But I won't get into
THE FIVE-YEAR RULE
My rule of thumb about investing in past big winners like
Apple is that the stock needs to fall out of the public's
consciousness first. People have to stop expecting the stock to
be bargain; they have to give up on it! That takes time, and
experience tells me that five years will usually do it.
For example, exactly three months ago today, I recommended
First Solar (
at 28. Today the stock is selling at 46, up a very satisfying
That's more than I'd expected so quickly, but I'm not totally
surprised, because the potential was there.
Here's what I wrote back in January.
"First Solar came public in December 2006 at 26, and soared
all the way to a high of 317 in May of 2008, for a gain of
Cabot Market Letter
subscribers bought in March of 2007 at 57, took partial profits
on the way up at 115, 167 and 220, and sold the last bit in
September 2008 at 228 as the stock started to crash.)
Interestingly, the base that was built following that crash-and
which centered on 140-didn't hold, and the stock crashed again in
2011 and 2012. It's been less than a year since the second crash,
so it's possible the stock needs more time. On the other hand,
it's been five years since the first crash, and that's the one
that took the stock out of the limelight."
Lesson: If you're buying what's popular, you might be buying
near a top. If you're buying what was popular five years ago, and
what's now out of favor, you might be buying near a bottom. For
AAPL, I'd wait until 2017.
I'll finish this long letter with a stock most investors don't
know about. Those investors represent potential buying power, as
they learn about it.
Its name is
, which in my mind puts it in the same category as other fun
names like Yahoo! and Zappo's-and they haven't done badly!
Here's what editor Mike Cintolo wrote in
Cabot Top Ten Trader
a month ago.
"Splunk is a software company whose products give businesses
control over the mountains of data that they collect and store in
the Cloud, often in Hadoop clusters, which are cheap commodity
servers connected with open-source software. Splunk's software
eliminates bottlenecks and security breaches in software
applications and networks, and analysts say that it's such a
superior product that the company is competing on an equal
footing with HP and IBM. With 60 of the Fortune 100 companies on
the customer list and a string of 25 seven-figure contracts
signed in the fiscal year ending in January, Splunk is clearly
getting major traction .… The demand for software to handle Big
Data is so strong that Splunk has been able to grow revenue at an
impressive rate; the 51% revenue growth in the latest quarter
would have many companies doing cartwheels, but it's the lowest
growth rate in over two years for Splunk. The 200% jump in
earnings in its latest quarter is also important, as it pushes
the company closer to consistent profitability."
When that was published, SPLK was trading at 40. Since then
it's been up to 42 and back down to test 40 and now it's
advancing again. I think buying in expectation of a breakout
above 42 will probably work.
Yours in pursuit of wisdom and wealth,
Editor of Cabot Stock of the Month