Friday, June 11, 2010

Stormy Weather Ahead...

I would like to preface this entry by paraphrasing what WEB has already stated multiple times: I have no idea what the stock market will do in the near term (day, month or years).

That said, I'm currently working to prepare for a crash. I'm doing this because I expect it to happen soon, and I need to be prepared to act when the opportunities exist.

This means building a shopping list of ideas to buy at 6x or under free cash flow (its like buying a bond with a 16% interest rate that's either paid to me or is reinvested into the company) and finding companies that have the liquidity to weather a terrible downturn involving many years of stagnation or declining revenue. If the investment also happens to be a good company that's growing with high returns on invested capital, that's great, but I don't need to have it. If a stock doesn't have the two key qualities (low P/FCF and liquidity), I'm not interested.

While it is exhilarating, I'm a little drained mentally and emotionally as I've been working on this list in any free time I have (excluding time at work or with the fiance) pretty much for a month now (and less diligently for the last year).


My personal return in 2008 and 2009 was over 50% each year largely through a combination of good fortune and preparation. In November 2008, one idea that I had been following for a year fell in my lap, dropping 70% in 1 day on hogwash headlines. The market overreacted, and I put 30% of my assets in the stock. Other than this one pick, I effectively sat in cash most of the crash, with my eyes focused almost entirely on this one idea. In retrospect, while I beat the market, I did not succeed (a la Wooden - doing the best in which you are capable). Had I been better prepared I would have invested the remaining 70% of my portfolio in the opportunities available at the time which included some companies trading for 2-4x normalized free cash flow. Instead I froze. I had never made a bet so big and I needed inactivity.

This next crash I must be better prepared. I need more ideas and I want to be fully invested when everyone else is panicking. I need to emotionally brace myself for a down year as I average down into my cheapest positions. I've learned so much since then, and the stakes are so much higher now.

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