Learn From The Masters

One trait many great investors have in common is a willingness to share their knowledge. Peter Lynch, for example, has inspired hundreds of thousands with his must-read books. Warren Buffett, one of the greatest investors ever, lays bare his knowledge in his annual shareholder letters to Berkshire Hathaway investors. And the list goes on: Ben Graham, Philip Fisher, John Neff, etc.


http://www.fool.com/news/commentary/2006/commentary06013118.htm

Big Winners for Small Investors - By Paul Elliott

By Paul Elliott (TMF Rael)
February 10, 2006

In 1999, Warren Buffett reportedly made the uncharacteristically bold guarantee that he could earn 50% profits on a portfolio of common stocks each year -- under one condition. Even better, he would accomplish this feat using ordinary, publicly traded stocks that you or I can buy and hold ourselves.

But even though Buffett meets with investors regularly and happily entertains questions from the gallery, he was uncharacteristically hard to pin down on this one point. He left the question open to much speculation, including plenty for years here at Fool HQ.

Enter a group of students from Kansas
While we were lollygagging about the water cooler, debating what exactly was said and when, a college investment class took matters into its own hands. These students trekked across the heartland and requested a private audience with this legend.

And these brave souls stood directly across the table and demanded to know ... Is it true? Did the investing genius really make his much-disputed "50% per year" boast? And more important, does he stand by it today?

Survey says ... Bing! Yes and yes! In fact, not only did this gentleman from Nebraska confirm what many already believed, he'd first proclaimed back in 1999, he went one giant step further.

We know all about the gazillions Buffett made on consumer giants like $100 billion Coca-Cola (NYSE: KO). But here's something you may not know. To earn that 50% per year -- to double your portfolio every 20.5 months -- Buffett wouldn't buy Coca-Cola or even his own company, Berkshire Hathaway. He'd buy obscure little outfits with names you've never even heard. How can I be so sure?

Simple. Remember that condition I mentioned earlier? Warren Buffett guaranteed he could earn 50% per year ... if he had less than $1 million to invest. That's because the world's greatest investor would focus on undiscovered, lightly traded small caps -- the area of the market where individual investors have an advantage over the pros.

Why Warren wishes he were you
I know, that sounds crazy. After all, the big money on Wall Street has all the advantages, right? In fact, that couldn't be further from the truth.

Think about it. Pros have way more than $1 million to put to work. They can't mess with smaller stocks -- no matter how undervalued or how great the business. Well, at least they can't without risking running up the price (before their order is filled) or getting stuck with a controlling share of the business.

That's why you see all the trading volume in mega caps. Just take a look at the five most active stocks on the Nasdaq on a recent morning (last Monday, actually).

Company
Market capitalization
Shares traded

Sirius Satellite Radio (Nasdaq: SIRI)
$7.4 billion
28 million

Intel (Nasdaq: INTC)
$125 billion
26 million

Apple (Nasdaq: AAPL)
$58 billion
20 million

Oracle (Nasdaq: ORCL)
$62 billion
19 million

Cisco (Nasdaq: CSCO)
$110 billion
18 million



And the most active stock on the New York Stock Exchange on that same morning? Motorola (NYSE: MOT), with a $52 billion market cap and 18 million shares traded.

So if you've got half a billion to put to work this afternoon, you'd better buy some Intel -- and forget about the next Intel. But let's face it, those monsters don't have many more doubles left in the tank -- much less one every 20 or so months.

Here are a few more numbers to chew on. Ibbotson Associates tracks stock returns by "style" and market cap (size). You could have invested $1,000 in Ibbotson's large-cap universe back in 1927, and you'd have about $2 million. Not bad.

If you'd bought small-cap value stocks instead, you'd have $33 million. Of course, the word "value" in that last sentence is critical. If you ask me, it's the missing link between the huge profit potential of small caps and the method to the madness of the world's greatest investor.

That's a little trick I learned from Motley Fool co-founder Tom Gardner, back when I worked with him on his Motley Fool Hidden Gems newsletter service. It's why Tom and I both focus on unloved, obscure, and, most important, underpriced companies. That can be a recipe for great volatility, but the returns can be fantastic. But Warren Buffett already told you about that.


Excerpted from Paul Elliott's article at
http://www.fool.com/news/commentary/2006/commentary06021006.htm

Get Ready to Buy - By Paul Elliott

By Paul Elliott (TMF Rael)
February 6, 2006

"Over the years, small-cap stocks crush their large- and mid-cap peers."

That's how I planned to open today. By now, I'd be making my case -- dropping names like Nagel and Quigley, plus 70 years' worth of market data from Ibbotson.

But you're no dummy
And by ... now! ... my inbox would be full. "Your numbers are skewed by a few abnormal years," you'd be shouting, or "What about survivorship bias?" And you'd be right. You'd have found the fatal flaw in all historical data: The future is not the past.

So forget the big numbers
Fortunately, you don't need an Excel spreadsheet to tell you that tomorrow's big winner is an upstart today. What you need is a few clues to help you find it. And history tells us that the one stock you'll brag about is very likely ...

Run by entrepreneurial zealots with ownership stakes.
Free of convoluted relationships with investment banks.
Positioned to grow its sales and cash flow exponentially.
But most important, this company is out there right now. And because Wall Street hasn't found it (yet), you can count on some pent-up demand to fuel the fire when the sell-side herd finally does catch on.

Get in near the ground floor?
My father once told me, "Be your own boss, and you'll die rich." He had a point. After all, investors who bought Wendy's (NYSE: WEN) in Columbus and Hershey (NYSE: HSY) in Lancaster hit the jackpot. But even those lucky devils didn't fare as well founders Dave Thomas and Milton Hershey. Of course, that's how capital works.

Think about it: The nearer your grandfather got to kindly old Henry, the sweeter his investment in Ford (NYSE: F). And just imagine the possibilities if his father had been a drinking pal of J.P. Morgan. You'd be a JPMorgan Chase (NYSE: JPM) millionaire.

Sadly, most of us don't build empires, plant seed money, or ever really encounter pure genius. But thanks to the stock market, we can still get in early. We just need to be patient and pick our spots. Better still, we can take a cue from Tom Gardner's Motley Fool Hidden Gems method and seek out companies with market caps below $2 billion offering:

Solid management with big stakes.
Great, sustainable businesses.
Dominant positions in niche markets.
Sterling balance sheets.
Strong free cash flow.
Just remember those five keys
In the early '90s, they led tech investors to mavericks like Cisco (Nasdaq: CSCO) and AOL (now part of Time Warner (NYSE: TWX)) -- and fantastic profits. Just as they led folks to Home Depot (NYSE: HD), among many others. In just the past two years, they have led Tom and his gang at Motley Fool Hidden Gems to a half a dozen stocks that have doubled in value or more.

(To be fair, I'll give you the whole story. As of Feb. 5, 2006, the stocks recommended in Hidden Gems are up on average 37.9%. That's compared with about 11.3% if you'd bought the S&P 500 instead. You can see the difference for yourself.)

For most investors, 2006 started out with a bang, but the market looks to be cooling off. I don't know about you, but I am a buyer on any weakness. Either way, I always have a wish list of small stocks on my watch list when opportunity knocks. You should, too.

If you need some help putting one together, here's a possible shortcut. You can try Tom Gardner's complete Hidden Gems service free for 30 days. Of course, there is no obligation to subscribe, and you have a whole month to decide. But you can get the full list of Tom's recommendations instantly. Click here to learn more.

This article was originally published on May 10, 2005. It has been updated.

Excerpted from Paul Elliott's article at
http://www.fool.com/news/commentary/2006/commentary06020603.htm

Whisper-Stock Party Tips - By Paul Elliott

If you own stocks, you should own small caps. That's not necessarily so with micro caps. Here's why.

By Paul Elliott (TMF Rael)
February 10, 2006

You know who you are. I've been knocking around this business for years, and everywhere I've stopped I've met you. And every time I turn up someplace new, I take one or two of you along with me.

Behold! My own personal whisper-stock-party-tip rumor mill. One day, it's Mark on the phone from Rockville. Then it's Sean from Miami or Shannon from Boston. And just when you think you've heard it all, it's the other Mark from New York. He's got to be the worst.

The greatest stocks of all?
A while back, I made the case for Wall Street's worst-kept secret. It's that small stocks tend to outperform their larger-cap peers over time -- and that smart stock investors own them. What, then, is Wall Street's best-kept secret?

It's that micro caps do even better. At least a certain type of them do. I'll back that up with some numbers in a bit. I'll even toss in a few anecdotes, but first, some fine print.

Micro caps are not for everyone. They're for people like Sean and Shannon and the Marks. They're for people who love this stuff -- who have the time to do some real digging. Or have someone do it for them.(You'll hear more about one possible solution just ahead).

There has to be a better way
No offense to my old rumor mill, but it's hard to find decent research on tiny companies. Forget Wall Street. Not even the boutique shops offer much by way of coverage. Believe me, I've looked.

That isn't to say that the rumor mill doesn't have its place. I mean, we dug up a few killers over the years. We bought ImClone (Nasdaq: IMCL) years before Icahn got on boards. Then again, we also bought Genta (Nasdaq: GNTA) for a hellish ride. (We're taking our lumps on that one today, let me tell you!)

But I guess it stands to reason that our results would be mixed. After all, our method was never particularly rigorous, and the rumor mill deals in high hopes and speculations. No wonder we've had our ups and downs.

But do small companies have to be risky?
Maybe not. After all, Wal-Mart (NYSE: WMT) once had a market cap of less than $30 million. Yet the company made money. It was shareholder-friendly, conservatively managed, and heavily owned by its founders. But Wall Street's investment banks had little use for it.

Too bad for them. Hindsight is 20/20, and Wal-Mart is an extreme example, but it hardly seems Wal-Mart was ever a risky investment. After all, it actually paid a dividend, even when it was a small fry.

The Holy Grail, obviously, is to find companies today with the characteristics of a 1980s-era Wal-Mart. As with any small cap, look for these in any micro cap:

Solid management with significant stakes
Great, sustainable businesses
Dominant positions in niche markets
Sterling balance sheets
Strong free cash flow
Just look twice as hard. Because the smaller the company, the more important these things are. And look for micro caps that pay a dividend, like Wal-Mart did. A dividend implies a lot of good things, including that the company won't be out begging for new capital -- a great sign if ever there was one.

You didn't really have to find Wal-Mart
How about Biogen Idec (Nasdaq: BIIB) or even Schwab (NYSE: SCHW)? Both were long familiar names in very different circles, and yet both made fortunes for early investors. If you're a mall rat, you could have bought teen-themed retailer American Eagle Outfitters -- an original rumor-mill favorite -- as recently as 1997 for a 5,000% gain.

Of course, that's the beauty of getting in early. Consider Dell Computer. Had you bought Dell in 1990, you'd be up some 40,000%. But if you'd held off until January 1992, your $5,000 investment would be worth around $750,000 -- a lot of money, but downright paltry compared with the $2 million if you'd pulled the trigger just two years before.

And don't get me wrong, you could run out and buy IBM (NYSE: IBM) or Qualcomm (Nasdaq: QCOM) right now. And maybe you should, but neither can be the next big winner. With market caps in the hundred billions, what are the chances these guys can run up another 1,000% in value? Zippy.

Here's a little proof
I can't claim with any certainty that micro-cap stocks will continue to outperform over the next 20 years. Or that we can find the next big winners. I can't even promise that micro-cap value stocks will outperform. But they have in the past.

It's widely known that, since Ibbotson Associates started keeping data in 1926, small caps have thumped large caps. Well, Ibbotson also ran the numbers for micro caps, this time from 1968 to 2002. Turns out, micro-cap value stocks take the cake.

Illustration: $10,000 invested in micro-cap value stocks back in 1968 grew to nearly $1.1 million a quarter-century later. Compare that with around $950,000 for the same amount invested in small-cap value and just $180,000 for large-cap growth.

Now, how about that better way?
Micro caps aren't for everyone, but they sure are a blast. At the same time -- aside from walking the malls and scouring trade magazines -- how are you supposed to find out about these smaller companies? And with nobody following the stocks once you do, how can you stay on top of them?

Earlier, I hinted there might be a better way. Here it is. Motley Fool co-founder Tom Gardner follows small stocks for his regular readers at Motley Fool Hidden Gems. In fact, he's got a regular feature dedicated to micro caps. And it's not just Tom; the Tiny Gems discussion group is full of stock jocks turning over rocks all across the country.

In fact, you can sample the complete Hidden Gems service at no charge for 30 days. That way, you can see whether it's right for you without putting any capital at risk. Intrigued? To hear all about it, click here.

This commentary was originally published on Feb. 4, 2005. It has been updated.


Excerpted from Paul Elliott's article at
http://www.fool.com/news/commentary/2006/commentary06021005.htm

Quote of the Day

"It's better doing nothing than busy doing nothing."


I was watching the Suze Orman show and had a great laugh when they interviewed the Yankees what they know about bonds. Do you know what is a bond ?





Cheers
Niversphere.