Great topic, Rob.
Valuation is a tough one for me. I think it is incredibly important, and yet so vague and amorphous and nearly impossible to nail down. "Intrinsic value" is an important concept, but it is important to recognize that there is no formula that can reliably provide it. In fact, it is crucial to recognize that there IS no such thing as the "right" value for a stock -- if there were, there would be no trading at all, because nobody would pay more or accept less than that price. Disagreement about the right valuation is the only reason that we can have a market at all.
That said, I apply different standards to different companies. For cream of the crop dividend growth companies, I am comfortable buying "great companies at good prices." That is, for a JNJ or a KO, I am happy to buy when the price dips a little below its historical average P/E or yield, but I am not just waiting for a screaming bargain. I trust these companies to grow earnings over the long haul, and hence dividends, and so I don'y worry that I need a huge margin of safety to make the investment pay off in the long term.
But for companies with a few more question marks -- companies that are not top tier DG companies -- I need a lot more of a bargain to be comfortable taking a position. For example, I don't think I'd have F or LMT in my portfolio at all if I didn't feel like they were really undervalued at the time I bought them.
But how do I know? Again, I'm not sure any of us can "know," and my approach is hardly scientific. I do the usual light diligence -- looking at the main ratios (P/E, yield), especially as compared to the company's own historical averages. But usually it is a case of "I know it when I see it" and not a case of math.
For example, I started my dividend growth portfolio during the 2008-2009 financial crisis. I knew a lot less about stocks and valuation back then, but I knew the world was not going to stop spinning and that people were not going to keep smoking. MO was yielding 7 to 8 percent at the time. So I bought some. I should have bought a lot more. Summers of 2011 and 2012 saw major market downdrafts that provided above-average entry points on some great names.
I'd love more opportunities like that now, but with the market up, up, and up, it is harder now. But, as DG'ers hear all the time, it is a market of stocks, not a stock market. Right now I'm focused on companies that haven't really participated in the recent rally, but still have excellent prospects. TGT and PM are perfect examples. Great stocks have years where they languish and years where they surge ahead. I am happy to accumulate shares while they languish. I liked TGT at $70, and for various reasons it has been beaten down to almost $60 now. Is is irresponsible of me to accumulate more shares without doing DCF or other valuation formulas? Well, the Target near me is still packed, and I have no real concerns that they'll get their issues sorted out eventually. It is a well-managed company with a long streak of dividend increases and a safe payout ratio. And they have a plan to grow revenue and earnings. I think they will continue to pay and increase the dividend, despite the recent issues. Could I be wrong? Sure. But I'm happy to buy the shares on sale.
Sorry for the rambling answer -- I'm just coming back up for air after a grueling stretch at work.
Oh -- and I'm looking forward to this afternoon's matchup as well. Should be a great game!
Valuation is a tough one for me. I think it is incredibly important, and yet so vague and amorphous and nearly impossible to nail down. "Intrinsic value" is an important concept, but it is important to recognize that there is no formula that can reliably provide it. In fact, it is crucial to recognize that there IS no such thing as the "right" value for a stock -- if there were, there would be no trading at all, because nobody would pay more or accept less than that price. Disagreement about the right valuation is the only reason that we can have a market at all.
That said, I apply different standards to different companies. For cream of the crop dividend growth companies, I am comfortable buying "great companies at good prices." That is, for a JNJ or a KO, I am happy to buy when the price dips a little below its historical average P/E or yield, but I am not just waiting for a screaming bargain. I trust these companies to grow earnings over the long haul, and hence dividends, and so I don'y worry that I need a huge margin of safety to make the investment pay off in the long term.
But for companies with a few more question marks -- companies that are not top tier DG companies -- I need a lot more of a bargain to be comfortable taking a position. For example, I don't think I'd have F or LMT in my portfolio at all if I didn't feel like they were really undervalued at the time I bought them.
But how do I know? Again, I'm not sure any of us can "know," and my approach is hardly scientific. I do the usual light diligence -- looking at the main ratios (P/E, yield), especially as compared to the company's own historical averages. But usually it is a case of "I know it when I see it" and not a case of math.
For example, I started my dividend growth portfolio during the 2008-2009 financial crisis. I knew a lot less about stocks and valuation back then, but I knew the world was not going to stop spinning and that people were not going to keep smoking. MO was yielding 7 to 8 percent at the time. So I bought some. I should have bought a lot more. Summers of 2011 and 2012 saw major market downdrafts that provided above-average entry points on some great names.
I'd love more opportunities like that now, but with the market up, up, and up, it is harder now. But, as DG'ers hear all the time, it is a market of stocks, not a stock market. Right now I'm focused on companies that haven't really participated in the recent rally, but still have excellent prospects. TGT and PM are perfect examples. Great stocks have years where they languish and years where they surge ahead. I am happy to accumulate shares while they languish. I liked TGT at $70, and for various reasons it has been beaten down to almost $60 now. Is is irresponsible of me to accumulate more shares without doing DCF or other valuation formulas? Well, the Target near me is still packed, and I have no real concerns that they'll get their issues sorted out eventually. It is a well-managed company with a long streak of dividend increases and a safe payout ratio. And they have a plan to grow revenue and earnings. I think they will continue to pay and increase the dividend, despite the recent issues. Could I be wrong? Sure. But I'm happy to buy the shares on sale.
Sorry for the rambling answer -- I'm just coming back up for air after a grueling stretch at work.
Oh -- and I'm looking forward to this afternoon's matchup as well. Should be a great game!