The Hindu Business Line : Investment Nuggets

"The legend of growth stock investing", Jim Slater, is also regarded as the stock market's pre-eminent asset strippers in the late 1960s. His method of choosing companies is best explained in The Zulu Principle — a bestseller in investments. A chartered accountant by profession, a columnist in the Sunday Telegraph under the pseudonym `Capitalist' and a partner at an investment company `Slater Walker', he rose to prominence through his articles on stock picking. Between 1963 and 1965, the Capitalist portfolio rose by 68.9 per cent. Over the same time, the UK stock market rose by just 3.6 per cent.

"The successful investor believes he knows something that other investors do not fully appreciate. There is very little that is unknown about leading stocks. In contrast, most leading brokers cannot spare the time and money to research smaller stocks. You are therefore more likely to find a bargain in this relatively under-exploited area of the stock market."

"If a share fulfils all of my other criteria except competitive advantage, I usually soon realise that the company must have an advantage that I have failed to identify."

"Astronomic price earnings ratios rarely last for long, as they thrive on excessive hope and for that reason the most has to be made of them while they persist."

Rules of investing

Any method, whether it be growth or value, should be based on establishing a margin of safety — a cushion between the amount you pay for a company's shares and the amount you believe they are worth. The attraction of building a margin of safety is that it helps to protect against downside risk and at the same time provides the scope for an upwards re-rating.

For growth stocks, a typical method embracing a margin of safety would be to seek out shares with strong earnings growth records and a relatively low price-earnings ratio in relation to their future growth rates. Ideally, the growth rate should be at least one-third more than the price-earnings ratio. To increase the safety factor, it is also highly desirable for the company to have a record of strong cash flow in relation to earnings per share and a strong balance sheet. For value stocks, the margin of safety can be established by a low price-to-sales ratio, low price-to-book value and strong cash flow. The ability of management is hard to quantify. Management can best be judged by several years of good results with brokers' forecasts confirming that they are likely to continue. The financial results are the best judge of management, not the people going to see them.

Run profits and cut losses: It is a far better practice to add to winners and pare holdings that are not performing well. This way your losses will always be small and your gains can be gigantic. Remember that the power of compounding is the eighth wonder of the world.

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