Monitoring Investment Return

Great emphasis is placed on getting the "inside track" and making a fast profit. In the stock market, the very idea of getting the jump on everyone else is, perhaps, the most alluring aspect of investing—for many, a primary motive for buying and selling stocks directly. In comparison, putting funds into a no-load mutual fund, reinvesting dividends, and forgetting about it, seems relatively uninteresting.

The real inside track—fundamental analysis—is not very exciting, at least in the short term. However, the rewards of gaining profits over time from the intelligent and informed selection of stocks, can be exciting as well as profitable. For this reason, it is important that you develop the means for measuring your market success. You cannot truly be aware of success unless you have a method for measuring it; and if you do not measure, then how else can you identify if or when you have succeeded?

In school, success is measured by grades. In the market, success is measured by profits. That means not only that you need to select companies that run their operations profitably, but also that are recognized and rewarded by the market. This is reflected in market price.

You cannot simply identify success as selling stock for more than its original purchase price. That is obviously better than selling at a loss, but it does not establish any standard. You need to develop a method for measuring your own investment success. For this purpose, you may want to determine a method that defines success in your portfolio. The more this measurement is tied to market price, the more tendency you will have to be distracted by short-term price movement. The challenge is to identify a long-term measure of your success, without the recurring temptation to make investment decisions in response to short-term price movement.

KEY POINT

Fundamental analysis is the ultimate "inside track" for the long-term investor.

One method worth considering is the annual yield approach. Set a goal for yourself concerning average annual yield you expect to earn from each investment. Remember, this is an average and might not be met each year. By setting the minimum standard, you will be able to better monitor your portfolio, and to determine if and when you will need to alter the direction you have chosen. This is the best method for even the long-term investor.

Example: You have purchased shares of several companies, with the intention of building a retirement portfolio. The stocks were selected on the basis of several fundamental tests and you monitor results through ongoing trend analysis. One standard you set for yourself was a minimum annual average yield of 3 percent or more. This should be relatively easy to achieve, because the majority of your stocks cover about half that requirement through dividends. However, you have set a second part to this goal: If any stock fails to meet the average yield requirement after three years, you plan to sell and replace it with a different investment.

In this example, the goal is established and a means for monitoring and defining success is included in the mix. The three-year average yield requirement enables you to fine-tune the portfolio in the future, if and when a particular company's performance falls below minimum. In addition, your trend analysis should be designed to set minimum standards as well. For example, you might require certain performance-related outcomes tied to working capital, sales, debt/equity ratio, and any number of other tests—alone or in combination.

Can you equate investment success with corporate performance? You already know that the financial statement results do not necessarily mirror the market price of a company's stock, in fact, the perceptions of future value—a short-term market indicator—might frustrate the fundamental analyst in the illogic of the outcome. In the short term, there may be no relationship between corporate profits and perceptions of future value. In the long term, the two factors are tied together and cannot be separated. Of course the fundamentals ultimately affect stocks' market value. Perceptions are modified as future outcomes confirm or dispute forecasts.

There is a direct and inescapable relationship between a stock's market price and the fundamentals. However, that relationship is long-term. This is why the market price, as important as it is in the selection of a stock and in the decision to hold or to sell, does not mean as much today as most people think. If you plan to hold your investment for many years, then today's minor stock price movements should not concern you. As an investor, you will be interested in the performance of the stock, but market price alone is a tempting distraction that can easily cloud your judgment and make you forget about your long-term—and less exciting—investment goals. Don't overlook the importance of your trend analysis in determining whether or not your investments continue to meet a standard you have set. For long-term profits, that is more important than today's market price.