Most investors are aware that patient buy and hold portfolio strategies offer far better odds of success than a casino bet. In proving this mathematically, however, the Of Dollars and Data site offers an important insight into the process of successful investors.
Author Nick Maggiulli begins “Why You Should Invest in Stocks” by calculating the odds of success in a typical bet in roulette. On a typical 38-space roulette wheel there are 18 red spaces. The author shows the formula to calculate that the expected return on a $100 bet that the ball will fall on red is -$5.26.
The article goes on to show that because the odds of the Dow Jones Industrial Average closing positive on any given day is 52.3 per cent, the probability of making profits converges to 100 per cent for longer time periods like 20 years.
I want to focus on the formula for expected returns. In basic terms, it’s merely the amount of money at risk, multiplied by the probability of success, minus the probability and extent of a potential loss.
Investors rarely calculate potential loss in my experience, but it’s a vital part of the investment process. Assessing, for instance, the potential price decline for a market-leading stock if it falls to the average price-to-earnings ratio for the sector can stop an investor from taking a big loss.
Assigning probabilities for gains or losses on individual investments is, of course, far from straightforward. The good news is that investors can practice using the formula without buying the assets involved, and over time become more accurate.
The most successful investors only risk their assets when the odds are in their favour. The formula presented by Mr. Maggiulli, by providing the means to assess likely risks and rewards, can put all investors on the path to success.
-- Scott Barlow, Globe and Mail market strategist
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Stocks to ponder
AirBoss of America Corp. This Canadian dividend-paying stock has skyrocketed nearly 60 per cent year-to-date thanks to a recent contract win for its protective health care products used in the fight against COVID-19. Its earnings are growing and its CEO promises no cuts to its dividend are planned. Jennifer Dowty tells us more about this turnaround stock. (for subscribers only)
The Rundown (most for subscribers only)
Five reasons why it’s so hard to invest in preferred shares
Conceptually, preferred shares sound great: Yields around 5 per cent, which is a massive premium over bonds and guaranteed investment certificates, and a fair degree of security. Only after a company has cut its common share dividend can it suspend payouts on preferred shares. But preferred shares are a handful for retail investors. Over the years, Rob Carrick says he has seen people encounter these five problems in buying preferred shares.
Here’s why there is reason for optimism as the TSX emerges from a bear market
investors in Canada don’t have to be in any hurry when it comes to buying shares in a bear market. Those who bought when the markets first hit new historic highs after bear markets were also rewarded. Norman Rothery has this analysis.
Warren Buffett warns money may be cheap, but stocks aren’t
Warren Buffett this weekend at Berkshire Hathaway’s annual meeting demonstrated one of his favourite themes – that good investing is as much about emotional balance as it is about extraordinary intelligence. For our Ian McGugan, three lessons in particular stood out.
Global markets now wary of pandemic scarring
The pandemic may finally be past its peak but markets are no longer frontloading a rapid economic recovery as the realization sinks in that the exit from COVID-19 might be messy. Amid all the government plans and timelines for a return to normality, there’s a parallel rethink among investors about just how cautious consumers will remain beyond the lockdowns - even as restrictions on movement, travel and large gatherings ease. Mike Dolan from Reuters tells us more.
Pandemic upheaval gives cause for a few changes to John Heinzl’s Yield Hog dividend portfolio
John Heinzl loves A&W’s burgers and believes it’s one of the best-managed fast-food chains in Canada. But with no clear timeline as to when its restaurants will reopen or when distributions will resume – or at what level – the units no longer qualify for inclusion in his model Yield Hog Dividend Growth Portfolio. John explains more about his decision here and reveals some other tweaks he’s making to the portfolio.
Companies managed by value-investor CEOs outperform companies that are not
Companies managed by CEOs who allocate company cash flows according to a value-investing style seem to outperform companies that are not managed by value investor CEOs, says Dr. George Athanassakos. For example, between 1991 and 2018, on average, the portfolio of good asset allocator companies outperformed the portfolio of bad asset allocator companies by 33 per cent in terms of cumulative three-year returns. When buying other businesses, value investor CEOs ensure that their consolidated operating margins remained high, as opposed to other firms managed by poor asset allocator CEOs who buy businesses that bring down operating margins, either because they overpay or they’re unable to realize expected synergies. George tells us more about this stock-picking strategy and reveals the companies that should outperform based on his research.
Others (for subscribers)
Ask Globe Investor
Question: I am having great difficulty finding where I can put about $10,000 in a bond to support the green economy. I can find no simple, clear statement on the Ontario green bond website or any other in Canada as to who to contact or what the process is. It appears at this time that these bonds in Canada are not available to individuals to purchase. Is this true? Is it the same in the U.S.? Must I look to Europe?
Answer: Gordon Pape put the question to John Cook, CEO of Greenchip Financial. His response: “Right now, there is no retail option. I’m working on it with Mackenzie Financial, but I don’t think it’s imminent. Global supply is growing but, that said, new issues are often oversubscribed by institutional investors and liquidity is poor. Retail investors could always buy renewable developer bonds like Brookfield Renewable, Boralex, or Algonquin, but I would not recommend this as they can be very illiquid.”
What’s up in the days ahead
Rob Carrick will report on the financial planning industry’s latest set of return projections for the next 10 years.
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Compiled by Globe Investor Staff