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Perspective and Perception in Investing

Back at the beginning of this email, I mentioned the American Association of Individual Investors (AAII). I’m a life member; they made me an offer I couldn’t refuse about a decade ago, and I expect to come out ahead on the deal. Anyway, AAII regularly tests investing systems to see which ones perform best, and over the long run, two systems stand head-and-shoulders above the rest. The first is the CANSLIM approach advocated by Investor’s Business Daily (IBD). The second is Martin Zweig’s system.

A subscriber - who happens to be located right here in Salem - recently wrote the following:

“Thanks for the articles. Always an interesting perspective. Anyway I remember a while ago you listed some magazines you read regularly. I am looking to increase my knowledge of computer analysis as it relates to financial research and was wondering if you could recommend any periodicals or newsletters that might help me out.



Before I answer JR’s request, I want to note that he uses a very important word in his letter, and that word is “perspective”. I firmly believe that while genetics are important, a person’s environment is generally a far more powerful determinant of his life’s course, in that it determines his perspective. It determines, in the end, how he thinks ... where he’s “coming from.”

Environment includes everything, not just what your parents gave you and your teachers taught you. It also includes the life you, yourself choose to live every day.

If you choose to spend your evenings taking night courses in computer programming, or reading the journal of the American Medical Association, no doubt you’ll come to develop a different perspective than the person who spends his evenings watching Australian-rules football on satellite TV with a six-pack of Foster’s, or the woman who plays the slots for hours on end at the local casino.

For most of us, the happy medium is somewhere in between. I myself just spent a number of evenings watching the Boston Red Sox win first the American League pennant and then the World Series. But I did so with either a crossword puzzle or a Sudoku puzzle in front of me at all times; I can’t bear to simply watch TV.

And, of course, I skipped all the commercials, thanks to my ReplayTV (an early competitor of TiVo).

Now to answer JR’s question, broad as it is. The best starting point might be Computerized Investing, a publication of the American Association of Individual Investors. This periodical regularly reviews all the computer programs and web sites designed to serve investors, both technical and fundamental, and discusses the merits of each. It’s a great guide to the online brokers. And it discusses various investing systems, one of which I will discuss later in this email.

More generally, if you want to improve your “environment” to become a better investor, I suggest you read the following books.

“One Up On Wall Street” by Peter Lynch “Reminiscences of a Stock Operator” by Edwin LeFevre “The Battle for Investment Survival” by Gerald Loeb “How to Make Money in Stocks” by William O’Neil “Being Right or Making Money” by Ned Davis “Winning on Wall Street” by Martin Zweig

My father always said, as he read a book, “All I’m looking for is one good idea.” Each one of these books has substantially more than that. Beginners will want to start with Peter Lynch’s book, while those of you who are more experienced will move down the list.

I also recommend the best newspaper for investors in growth stocks, Investors Business Daily. It’s more attuned to younger, growing companies than most newspapers. And it’s more optimistic, which is a trait that comes in handy for growth investors.

Finally, there’s the Internet. We all use Google, for better or worse, but for more in-depth work, I find that Wikipedia has a wealth of knowledge; I enjoy pushing the “Random” button to see what comes up. One shortcoming of the people’s encyclopedia, however, is that it has more than I want about garage bands that have come and gone and less than I want about successful investors who are still here.

You’ll find nothing there, for example, about Ned Davis, Jim Grant, Ron Barron, Ralph Wanger or Humphrey Neill!

And from my perspective, that’s just not right.


Another correspondent recently wrote”

“Dear Timothy

It seems to me that the people who are active in the markets are a bunch of idiots. One day up one day down. A company is not from one day to another less or more worth.

Regards Alfons”

Alfons, by the way, writes from Belgium, so his less-than-standard English is understandable. I have a second-cousin in Belgium; he teaches plant biology at the University of Louvain. And I have a lot of readers in Belgium too; many of them are investing experts. But Alfons has a lot to learn about investing.

What he’s missing above all is the fact that market valuations are set by the masses of people who buy and sell stocks each day and that their aggregate perception of the future value of these companies changes every day, due to many factors.

As the dollar falls, American companies are perceived to be a little less valuable.

As interest rates fall, the costs for companies fall and prospects for the future brighten a bit.

As China acts to rein in soaring market valuations, investors respond by knocking the prices of Chinese stocks down a bit.

Every day, bits of data, both macro, like Fed rate cuts, and micro, like monthly sales at Wal-Mart, are absorbed by people. These bits of information are part of a never-ending stream of data that influence people’s perceptions of companies - and thus the action of all stocks.

The fact that some of these actions appear irrational is irrelevant; there’s no reason the market should always act rationally. The way to succeed as an investor is to recognize the fact that people can and do act irrationally, and that perception is what matters, and then to act to take advantage of the trends and opportunities that those perceptions create.

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And now the investing tip.

Back at the beginning of this email, I mentioned the American Association of Individual Investors (AAII). I’m a life member; they made me an offer I couldn’t refuse about a decade ago, and I expect to come out ahead on the deal.

Anyway, AAII regularly tests investing systems to see which ones perform best, and over the long run, two systems stand head-and-shoulders above the rest. The first is the CANSLIM approach advocated by Investor’s Business Daily (IBD). The second is Martin Zweig’s system.

Both systems focus on the stocks of companies with growing sales and earnings. And both systems focus on stocks that are going up. But while IBD gives not a fig about valuation, Zweig does. Which means it misses the skyrockets like First Solar (FSLR) ... and also misses the crashes like CROX.

This style of investing is commonly known as growth-at-a-reasonable-price, or GARP, and at times like the present, when the market is rather unsupportive and high-flying stocks are at risk of major corrections, I like to run a Zweig screen I set up a few years ago.

Here are three stocks it suggested recently.

Amedisys (AMED) is benefiting from the push to get patients out of the hospital and back home, where care is cheaper and the quality of life is better. The company provides home nursing services through 261 offices and 14 hospice offices in the Southern and Southeastern U.S. and thus has great expansion potential. In the third quarter, revenues grew 32% to $181 million, while earnings climbed 27% to $0.61 per share. The chart shows a steady, rational-looking uptrend, punctuated by a sharp spike two weeks ago when terrific earnings were released. The correction since then is normal and makes the stock look like a decent buy here.

American Ecology Corp. (ECOL) treats and disposes of radioactive waste, PCB waste and other hazardous waste, operating sites in Nevada, Idaho, Texas and Washington. In the third quarter, revenues grew 44% to $39.4 million, while earnings climbed 56% to $0.25 per share. The stock is rather thinly traded, volume averages just 100,000 per day. But the stock toped at 28 in early 2006, declined to 17, and is now working its way back.

Companhia de Saneamento (SBS) is a Brazilian company that operates the water and sewage systems in over 368 cities in the state of Sao Paulo. In the third quarter, revenues grew 24% to $751 million, while earnings jumped 80% to $1.35 per share. The long-term trend of the stock is up, and it’s spent the past four months building a base at 50.


Editor’s Note:

These three stocks, interesting as they may be, may never be mentioned again. We simply don’t have the time or resources to track such “mentions” as the months go by, so if you buy them, you’re on your own.

If you want recommendations that come with regular follow-ups, I suggest the Cabot Market Letter. Edited by Mike Cintolo and myself, this service uses both technical and fundamental analysis - and market timing - to get you into the best stocks when the market is strong, and get you out and into cash before a bear market takes your profits away.

Recent successes include:

GameStop, up 74% in six months Crocs, up 312% in thirteen months First Solar, up 261% in eight months

To get started simply click this link.

Yours in pursuit of wisdom and wealth,

Timothy Lutts
Cabot Wealth Advisory

Timothy Lutts is Chairman Emeritus of Cabot Wealth Network, leading a dedicated team of professionals who serve individual investors with high-quality investment advice based on time-tested Cabot systems.