Marcus Cicero is famous for saying that the man who doesn’t know what happened before he was born goes through life like a child. Charlie Munger once commented on this with the following sage advice:
"If you generalize Cicero, as I think one should, there are all these other things that you should know in addition to history. And those other things are the big ideas in all the other disciplines. You have to learn these things in such a way that they’re in a mental latticework in your head and you automatically use them for the rest of your life"
These words from Munger have application to our own quest in the stock market. How can we generalize Cicero as Munger suggests in the context of stock market trading?
A first cursory step involves analyzing a stock chart. This doesn’t mean glancing at what happened last week and commiting capital this week based on a minuscule data set. Rather, it demands that we evaluate from a charting perspective how a company has performed over the past 3 months, 6 months, 1 year, 3 year, 5 year and 10 year timeframes.
Cramer likes to say that we don’t care where a stock has been, we care where it’s going. While much of the statement is true, it is helpful to know the historical patterns of a stock chart when gauging probable future movement. For example, we should have a clear understanding of how a stock reacts around earnings if we are planning to initiate any trades in April (when most companies report earnings). We should know which, if any, of the moving averages or exponential moving averages are most applicable to a company. It is redundant to quote a stock being close to its 200-day Moving Average if the 200-day Moving Average for the stock has never held as resistance or support or shown much impact whatsoever on the stock price!
Another application of generalizing Cicero is to review past fundamentals. While the current fundamentals are important, they often provide just a snapshot of recent performance. By reviewing a 10-year history, as shown here for Garmin, we see the context of a company’s performance.
From this analysis we can learn whether a company has consistently performed well or has ragged results. Stability is a postive. A company that reports fantastic numbers one year and disappointing numbers the next cannot be trusted. This does not mean it cannot be traded. Strategies such as straddles and strangles can take advantage of volatility that may arise should a management team surprise analysts. But for long-term positions – which should comprise the bulk of most virtual portfolios – we should seek stability and sustained growth.
What does sustained growth look like? The link to Garmin’s 10-year performance has ample evidence of continuous gains in book value. And other metrics such as return on equity have been stellar too. For a longer history of stability, where better to turn than to Munger’s own company, Berkshire Hathaway.
Book Value (Annual Percent Change)
1965 ……………………………………………. 23.8
1966 ……………………………………………. 20.3
1967 ……………………………………………. 11.0
1968 ……………………………………………. 19.0
1969 ……………………………………………. 16.2
1970 ……………………………………………. 12.0
1971 ……………………………………………. 16.4
1972 ……………………………………………. 21.7
1973 ……………………………………………. 4.7
1974 ……………………………………………. 5.5
1975 ……………………………………………. 21.9
1976 ……………………………………………. 59.3
1977 ……………………………………………. 31.9
1978 ……………………………………………. 24.0
1979 ……………………………………………. 35.7
1980 ……………………………………………. 19.3
1981 ……………………………………………. 31.4
1982 ……………………………………………. 40.0
1983 ……………………………………………. 32.3
1984 ……………………………………………. 13.6
1985 ……………………………………………. 48.2
1986 ……………………………………………. 26.1
1987 ……………………………………………. 19.5
1988 ……………………………………………. 20.1
1989 ……………………………………………. 44.4
1990 ……………………………………………. 7.4
1991 ……………………………………………. 39.6
1992 ……………………………………………. 20.3
1993 ……………………………………………. 14.3
1994 ……………………………………………. 13.9
1995 ……………………………………………. 43.1
1996 ……………………………………………. 31.8
1997 ……………………………………………. 34.1
1998 ……………………………………………. 48.3
1999 ……………………………………………. .5
2000 ……………………………………………. 6.5
2001 ……………………………………………. (6.2)
2002 ……………………………………………. 10.0
2003 ……………………………………………. 21.0
2004 ……………………………………………. 10.5
2005 ……………………………………………. 6.4
2006 ……………………………………………. 18.4
2007 ……………………………………………. 11.0
Compounded Annual Gain – 1965-2007 21.1%
Overall Gain – 1964-2007 400,863%
For emphasis, let’s highlight the 21.1% compounded annual gain from 1965-2007 yielded an overall gain of 400,863%.
While you will see some services promote gains of 300%, keep in mind that these gains are usually from once-off bets. I could almost guarantee that a monkey placing 10 speculative option trades would find that at least 1 produced a triple digit gain! But one 100% winner won’t help you at all if you have nine 100% losers!
That’s why you will find Stock and Option Trades and Phil espousing the value of targeting reasonable and realistic gains. Overall virtual portfolio gains of 20% are achievable through sophisticated use of options. Obviously, greater gains can and have been displayed. But starting out, it is always best to start with realistic and achievable targets. The evidence shows that consistent gains such as Berkshire’s 21% can produce enormous wealth! Great skyscrapers are built upon strong foundations. Have you checked how sturdy your investing foundations are lately?
