Hi I'm Jimmy in this video.
I'm going to walk through how we can identify exactly when to buy a stock.
I believe that many investors often ask themselves they say to themselves you know I really like
this company but when do I buy this stock or this bond or whatever the investment may be.
My goal with this video is to give a reliable method for identifying the when we should
buy a stock.
And I'm going to use previous research videos that I've done videos where I've talked about
an analysis to illustrate how we could have applied this method if we ever were interested
in buying one of those companies.
So our first step is to pick a company that we know and one that we want to own one that
we like. So I've got three examples.
I'm going to use three different companies that I've previously made videos on Apple
Disney and J.P. Morgan.
But this would work for pretty much any of the research videos that I've put up or any
of the companies that you've researched.
So let me lay the groundwork real quick.
Well I did the apple video back in September of last year and the price is about 220 and
I used a forward PE valuation and we made the case that the fair value of the stock
was about two hundred and forty dollars.
At that time with Disney we researched that one back in October.
The stock was about 115 at the time and I made the case to the fair value the stock
should be about one hundred twenty two dollars per share and with Disney stock we use a discounted
cash flow technique and then jumping over to JP Morgan.
Well here we use price to tangible book value to value the stock.
The stock was at about 103 at the time and we made the case that it should be worth about
one hundred and ten dollars per share.
Now I'm using these three examples because in each of these cases where we use a different
valuation technique to try to determine the fair value of a stock.
Now I want to point something out.
I always try to use the term fair value and not price target.
Oftentimes you may hear analysts say Oh the price target is this or the price target is
that or the target price whatever they might say.
And although they pretty much mean the exact same thing I'm a big fan of the concept of
fair value instead mostly because I believe in long term investing.
And I feel like price target implies that we're somehow going to jump out of that stock
or that company that we've invested in once it reaches that price. OK.
So that being said clearly after we pick the company that we like our next step is to come
up with the fair value of that stock.
So I'm going to be doing a whole series of videos on how to come up the fair value of
stocks. The first one is going to be on the discounted cash flow method.
That's my personal favorite. That one's going to be coming out soon.
But then I plan on doing a whole series of videos on many different ways to come up with
a fair value of stocks and then maybe at the end we'll try to hit some ways to value bonds.
OK so step one find the company step to research it and come up with a fair value.
Now once we come up the fair value and this is key we need to try to be honest with ourselves
as to our level of confidence with our calculation of the fair value.
So with the Disney pick as an example I would classify after the research I had done that
I was highly I would classify that one as highly confident with the J.P. Morgan one
I would say was close not quite as high as Disney.
But I'll say pretty confident or a fairly confident with the apple one I was probably
a little less confident.
Now that might have to do with the fact that I like this kind of cash flow which I used
for Disney and I and price to tangible book value which is what I use for J.P. Morgan.
I like those two methods and they apply very well to that situation.
I used PE for Apple and price to earnings.
To me it's among the weaker valuation techniques.
So I was okay with it but I wasn't thrilled with it.
I think there's just a little bit more room for error with that type of valuation.
Okay. So now that we know how confident we are in our calculation of fair value now it's time
for us to apply a margin of safety to that fair value.
Now this is the key to the question When do I buy a stock.
So each of us should set our own margin of safety requirements based on our own risk
profiles.
But for me I'm going to say that I'm very confident my analysis that I'm going to apply
a margin of safety of let's say 15 percent if I'm fairly confident that I'm going to
apply margin of safety of 20 percent and if it lands in the somewhat confident bucket
I'm going to call it 25 percent.
Clearly the more risk that you see in it or the less confident you are the higher the
margin of safety should be.
Then if there's a company that I'm not confident at all in or I don't like my calculation at
all I'm just going to skip that.
That's the beautiful part to investing is you could just move on to the next company.
There is tons of good companies out there.
Okay.
So using Disney back in the day we did the research.
The stock was trading at about one hundred fifteen dollars a share.
Well I believe that the fair value at that time was one hundred twenty two dollars per
share.
So when we buy Disney we wanted to be with a 15 percent margin of safety below our calculated
fair value.
So if we multiply 122 times point eight five a concert 15 percent.
We get one hundred and four dollars a share.
Now this is a chart of what Disney looks like on the day we created where at the very end
the day we created the video.
That was when the research was done.
So as we could see Disney stock needed to get all the way back to this level before
we'd meet our margin of safety requirements.
But that's OK.
That would do the same thing for J.P. Morgan.
Well we apply our 20 percent margin of safety to our fair.
Our calculated fair value which was one hundred ten dollars and we need to enter at about
88 dollars per share.
Well the stock.
Morgan stock hadn't been at eighty eight dollars per share in the entire year leading up to
when we did our research.
Now jumping over to Apple now we want to apply a 25 percent margin of safety to our fair
value calculation of two hundred forty dollars a share and that means we want to enter at
about 180 dollars.
So this is apples chart.
And as we could see optimism was pretty high the stock was moving higher.
So it was a reasonable chance at the time to believe it might never get back down to
that level.
But that's OK.
So after we finish all of our research I believe it makes sense to put together a table like
this.
This simply maps out the day we did the analysis our calculated fair value our margin of safety
and our ideal entry point.
And this finally gives us the answer to the question When do I buy a stock.
It's really as simple as wait for it to get below our levels.
Now one word of caution and that is that it can take a long time for stocks to get to
our ideal entry point if they ever get there.
So we need to keep our research up to date.
So let's look at Disney as an example.
So with Disney we used a discounted cash flow valuation and our anticipated cash flow for
2018 was 9720.
And the actual free cash flow for that year came in at ninety 9830.
So it came in better than expected.
Now this is no we want to look at this is just one illustration of it but we also want
to check the news check the new company filings see if projections had changed any.
Basically we want to challenge our own investment thesis to see if it's still in play and assuming
it is still in play we can keep waiting.
Okay.
So this is an updated chart of Disney and this is where we did our research and this
is the way the stock would have played out and thanks to the pullback that happened for
the stock market the end of 2018.
Well Disney would have had hit our entry price.
Okay now switching over to Apple even with our 25 percent margin of safety we would have
had an opportunity to buy Apple there is that when we first enter research.
Here's where the stock is now and here's our entry level.
And we would have done quite well with both of these stocks had we been disciplined with
our approach.
But what about J.P. Morgan.
Well here it never quite got to where we wanted to buy it.
And I'm fine with that even though I'm a huge fan of JP Morgan but I'm a big fan at the
right price.
So the more stocks that we research the longer this list is going to get for us and the more
opportunities will eventually come our way.
Now as I finish up the Dow 30 analysis I plan on putting together a table just like this
for all 30 companies mapping out our ideal entry points as of when we do the build the
different portfolios and I recommend that each of us have our own list just like this.
Applying our own personal level of margin of safety to each stock that we research and
the ones that we are considering and investing in.
So as you may have noticed the real answer to the question When do I buy a stock can
really be where do I buy the stock.
Once you find that level well then it's just a matter of sitting watching the fundamentals
and waiting for it to get to your level.
So that is how I do it.
But how do you do it do you do it the same way.
Does this way make sense to you.
Do you have any questions that I didn't fully cover.
I didn't explain well enough in this video outside of.
How do you come up with a fair value because like I said I'm going to come up with a whole
slew of videos covering that exact topic.
You haven't done so yet hit subscribe so you can get those videos when they come up.
Now another question I would have for you is what is your personal level of margin of
safety.
Do you have one.
Because I have found that that can vary pretty wildly from invested invested.
So thank you for stick with me all the way into the videos for any questions or comments
please put them in the comments below.
You haven't done so hit subscribe and I'll see in the next video.
Thanks.