Learn Your Strengths / Weaknesses, And Get Better Returns

Includes: DVY, JNJ, KO, UL
by: Income Surfer

If you're a regular reader of the Income Surfer, you know that this site is all about balance. Balance in our personal lives by making sure to pursue our passions and spending time with loved ones. Balance in our financial lives by limiting our debt and resisting the urge to over consume.

Today I want to extend that conversation to talk about balance in our passive cash flow. You can call it diversification if you want, but I prefer to think of it as balanced passive cash flow. My wife and I recently laid out a plan to generate cash flow from several different (and dissimilar) sources. We will have income from stocks, real estate, and bonds (even though we're still young).

I am a value investor and feel almost gleeful when picking through the wreckage when an asset class collapses. My idea of a great investment is one that is both (currently) undervalued and pays me to wait for other investors to find the value I see. A great example of that, was my purchases of Coca-Cola (NYSE:KO) and Johnson & Johnson (NYSE:JNJ) during the financial crisis of 2008-2009. I invested heavily in those companies and have been handsomely rewarded. I anticipate holding those companies for years to come.

A shorter term example is when I bought agricultural commodities (corn, wheat, etc) by way of an ETF last year, when a record crop had depressed their prices. I didn't know exactly when the bottom would be, but my research (and gut) told me it was coming near. I broke up my desired investment into 4 parts and averaged in. Some investors may think I should have waited for the bottom and timed the trade perfectly. Believe me, if I could, I would have. My crystal ball is broken however. I began to sell the ETF I was using when the Ukrainian conflict caused soft commodity prices to spike earlier this week. No matter what happens from here, it will have been a profitable trade.

Even more recently was my January 31st purchase of Unilever (NYSE:UL) at $38.46. I outlined the reasons I bought Unilever in the linked Seeking Alpha article. Again, I would have loved to be able to time my buying and selling perfectly…. but I'm just not able to. Therefore, I broke up my investment into three parts. I conducted my fundamental analysis, confirmed the timing with technical analysis… and bought. In this case the stock rallied before I could make my second and third investments, but I'll get another chance eventually.

Many legendary investors speak to the importance of knowing one's strengths and weaknesses. Warren Buffett, for instance, rarely speaks without mentioning his circle of competence. Legendary investor Jim Rogers knows his trades are often ill timed, so he breaks up his investments and averages in, like I described above.

I also believe it is critically important that each investor knows their own strengths and weaknesses. Do you get caught up in manias and buy cult stocks? Do you panic and liquidate your investments when the broad market has a big sell off? Do you tend to trade too often, or too little? I suggest you look at yourself and recognize your strengths and weaknesses. Obviously, it is easier to make money if we stay close to our strengths and avoid our weaknesses.

Most investors, however, are not self aware of their strengths and weaknesses. If you need proof, just type the following question into a search engine like Google, "Why do retail investors get such poor returns?" You will be linked to study after study about how average investors receive below average returns and time the stock market horribly. Oh, and one more thing…..this isn't Lake Wobegon… most of us are average investors! The good news is that once you recognize this fact, you can take steps to dramatically improve your results. In the Art of War, Sun Tzu reminds us to know our enemy, and OURSELVES.

I already told you of one technique I use to resist my weaknesses. Another is that I have a tendency to over trade. Therefore, I often sell too early and leave a lot of money on the table. I believe it is preferable to sell too early than buy too high, but it is still a weakness. Therefore, when I find a stock investment which I believe will be a great long term investment, I will buy it through a DRIP (Dividend Reinvestment Plan). That way dividends are reinvested in the company at little or no cost to me, but it takes more than a mouse click to sell my investment.

So you may be wondering, what if I don't want to reinvest the dividends because the company's prospects have changed. Well, I have a couple DRIP investments that are trading at prices I consider too high to reinvest. I called the plan administrator and asked to have the dividends deposited in my bank account (or sent to me by check). That way, I am less likely to sell the investment on a whim, but I can still reallocate the dividends to more appealing assets.

As I was saying earlier, often times the best investments are both (currently) undervalued and paying me to wait for other investors to realize what I believe to be true. This is one reason why the core of my portfolio is invested in companies that are both growing and paying increasing dividends. Many of these companies have been paying (steadily increasing) dividends for 40 or 50 years. Think Coca-Cola, General Mills (NYSE:GIS), Procter & Gamble (NYSE:PG), Johnson & Johnson, etc. You can literally buy the shares and just check in a couple times per year, while profiting from the company's success.

Does that sound too easy? Well, perhaps I'm overstating…..but not by much. Find great investments and let your money work for you. Obviously, if you pay too much for any company (even a great one) it won't turn out to be a great investment, but that addresses valuation, which we'll discuss in a future article.

Disclosure: I own shares in all of the companies mentioned in this article. This article is for informational/motivational purposes only and should not be considered a recommendation for anyone to buy, sell, or hold any equities. I am not a financial professional.