Had a thought, wanted to get opinions. Will do my best to provide an example below with some simple numbers.
You want to purchase shares in company X that you've done your research on, have faith in the management and strategy of and is reasonably priced to perform well over a 3, 5 or 10 year period.
I'm curious to propose a strategy that makes the most of tax LOSSES while dollar-cost averaging into a position without "trying to pick the bottom".
You have an educated expectation that the shares will be sitting around $27 per share within 7 years (compound 15% P.A.) so you start with an initial investment of $20,000 at a price of $10 per share. (2,000 shares)
Within the first 12 months, the SP has in fact dropped 30% from a good announcement that the market seems to have misread. So each share is now selling on the market for $7 per share. (value is now $14,000) You want to invest another $20,000 cash into the business. You think WOW I'm getting a 30% discount! This would bring your average entry cost to $8.50 per share with a cumulative value of $34,000 (4,000 shares total, $40k actually invested.)
My proposal would be to SELL the entire investment at a loss. That's a $6,000 loss that can be brought forward to offset a gain. Then buy back all immediately still $34,000 worth but you would end up with more stock in the company at the cheaper offering of $7.00.
You would then still have a $34k holding of 4,850 shares (give or take) instead of the other method of holding 4,000 shares and a loss that isn't crystallised.
Let's say this is the only time over a period of 7 years that you made this manoeuvre. Thankfully you've picked a company that is relatively consistent in it's growth.
If you never sold and decided to add the extra cash as above you would see 4,000 Shares X $27 each = $108,000 (not yet taxed, you haven't sold yet and "nothing" to write off against the gain. This is still off $40,000 invested. Not bad by any means)
If you were to take the other approach, you'd be looking at 4,850 shares x $27 each = $130,950 (not yet taxed, haven't sold yet - but also have a $6,000 loss to take off the taxes due.)
That's a difference of $22,950 plus you can work in your tax loss whenever you like. Could also take advantage of mis-pricing along the way as well as standard procedure of taking risk off the table if/when hype comes into play etc.
You could rinse and repeat this process as long as you are consistent with your thesis and don't let your biases get in your way of throwing good money after bad.
I kind of see this as a slightly ballsier approach to dollar cost averaging which would probably only benefit on a big scale.
I had all of this going through my head on a motorcycle commute listening to a podcast about something completely unrelated so would love to hear thoughts and opinions and see if there is actually a title for this style of investing or any literature/media that would demonstrate success?
***EDIT***
I would like to also add on some basics calculations, you would end up making more money in my proposed scenario but also have a 20% larger tax bill. Surely the ATO would like that???
Hi Strawpeople.
What investment principles do you think are important? And do you follow any investment principles in your process?
I've been reassessing my investment strategy. I've only been investing for about 5 years now and so far my investment process has been as rudimentary. Find companies i like, do some research, valuation and invest then monitor the progress.
I want to try and build a strategy with more framework and purpose. I have come up with some "Principles" I want to base my process and strategy on. The aim is to use these principles to build and implement processes which I can follow.
The principles and the processes I build will not be locked. Ill progressively develop and change them as I learn more.
Below are the 10 principles I have come up with to start (the quotes I added just for fun):-
1. Only buy quality companies.
Only invest in companies which I identify as quality businesses through my stock analysis. Use checklists to analyse company competitive advantages, management, business models, strategies, durability, financials, long-term prospects etc. Remember the vast majority of losses in the stock market come from picking the wrong business.
“It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price.” Warren Buffett
2. Business focused.
My investment process is completely bottom-up, based on company specific research. Trying to predict or forecast macro conditions is unlikely to be accurate and easily forecastable things are unlikely to provide any edge. Ignore the outside noise and market sentiment. The businesses I invest in should be durable and be able to prosper through the macro cycles.
Share price is not the business, the business is not the share price. Focus on the business performance and its long-term prospects.
“We believe consistently excellent performance can only be achieved through superior knowledge of companies and their securities, not through attempts at predicting what is in store for the economy, interest rates or the securities markets.” - Howard Marks
3. Valuation matters.
Have a clear concise valuation with easy-to-understand reasoning. Conduct valuation calculations under various possible scenarios with a reasonable margin of safety. Based off these calculations and prior to committing capital, ensure the high probability that this investment will meet my desired return.
“No matter how wonderful a business is, it’s not worth an infinite price. We have to have a price that makes sense and gives a margin of safety considering the normal vicissitudes of life.” - Charlie Munger
4. Rational and objective.
Base all my investment decisions on rational interpretation of the facts. A rational and objective view will give me a behavioral edge over the market irrational sentiment swings of fear or greed. The market is not a fundamental analyst it is only a barometer of the collective sentiment. Therefore, avoiding emotional decisions is critical to increasing the probability of investment success. It’s crucial to attempt to recognize and avoid the pitfalls of cognitive, emotional, and behavioral biases. I will avoid hubris and embrace humility by recognizing that I will often be wrong. I will continually work on my ability to embrace and rationally assess new information as its presented. If the facts change, I will change my mind.
“The investor’s chief problem—and his worst enemy—is likely to be himself. In the end, how your investments behave is much less important than how you behave.”- Benjamin Graham
5. Remain within my circle of competence.
Look for investments where I have great understanding, or the ability and desire to acquire a great understanding. Don’t be seduced by complexity. Seek out simplicity - wait for “the fat pitch”. Complexity is not required for great returns. If a company is too hard to understand avoid wasting time, especially if it is an area that doesn’t interest me enough to put in the effort to learn. There is plenty of other lower hanging fruit to choose from.
“I don't look to jump over 7-foot bars: I look around for 1-foot bars that I can step over.” - Warren Buffett
6. Do the work.
Commit to completing the processes I have put in place prior to making any investment decisions. There are no shortcuts to long-term investment success. For every potential investment, build an in-depth understanding of the business and the market it operates in. Knowledge of the business will build more conviction. As my understanding, knowledge and research base increases so will my informational and analytical edge over other market participants.
“The person that turns over the most rocks wins the game.” - Peter Lynch
7. Reduce unnecessary risk.
It is of the highest importance to protect my capital from unnecessary risk. Rather than just pursuing potential profits, I will put priority on avoiding losses. Every investment carries a certain level of risk. Look for asymmetrical opportunities where the upside far outweighs the downside. Be healthily sceptical, actively seeking to identify and monitor the risks of each investment. Establish clear framework outlining the bear case and what the circumstances are which would cause me to sell.
“If you don’t invest in risk management, it doesn’t matter what business you’re in, it’s a risky business.” – Gary Cohn
8. Patience, think long-term.
Invest with a minimum 5-year time horizon. A long-term investment horizon will drastically reduce my competition within the market providing an edge over participants with shorter horizons. Longer term investing may require me to endure periods of underperformance and delay gratification of returns (as long as the underlying business is performing as expected). The patience needed should be executed in conjunction with low trading activity to limit costs and eliminate the impossible task of trying to time the market. Activity does not equate to adding value. Low activity coupled with patience and time is the best way to maximize the benefits of compounding.
“The stock market is a device to transfer money from the impatient to the patient.” - Warren Buffett
9. Discipline & Consistency
Being disciplined and consistent with all aspects of my investment principles and process will ensure a higher probability of success overall. The principles and process will evolve as I discover what works and what doesn’t work. By remaining disciplined and consistent this will be easily identifiable over time. Don’t fall victim to hype, FOMO, fear, or greed, which pressure to sway from sound strategy. There will always be exceptions to the rule which can make strategies seem silly at times. But with discipline and consistency, a sound investment strategy will produce the results I want in aggregation over the long run.
Discipline to continually accumulate assets by consistently adding to my investing capital is more important than the strategy itself. Having more investment capital maximizes the dollar amount to be compounded.
“We don’t have to be smarter than the rest. We have to be more disciplined than the rest.” – Warren Buffet
10. Perpetual learning
Prepare my mind. Curiosity about areas and companies I am interested in will lead to a willingness to learn. The more I learn and develop, the easier it will be to recognize opportunity.
Take in as much information as I can. Continually study and improve my skill as an investor. It’s wise to expect I will get a lot of picks wrong. Learn from these mistakes and avoid repeating the same mistakes again.
“If you’re not willing to learn, no one can help you. If you are determined to learn, no one can stop you.” – Brian Tracey