When I bought my first computer, the hardest part was to learn to type as a kid. Yes, it took me a while before I could touch-type, but everything changed once I did. The speed at which I could create reports increased tremendously and since then have been typing up all sorts of stuff from memos to long documents in no time.
After I mastered touch-typing, the next thing was to write code. Back then, the computer talk was still obscure, but when I finally learned how to do it, everything changed again. This time around my productivity increased 10x, in fact if only I knew about online content then my productivity would have been much greater than that.
Once you master something, your productivity is nearly limitless.
As a stock investor, my portfolio increased in value over time because of the many lessons I've learned along the way. Because of these lessons, it has grown tremendously, and now people are coming to me for advice on doing things.
This article is a brief summary of those lessons, three things that go into making a great stock portfolio and I hope you find them useful.
1. Great Stock Portfolios Have High Return On Capital
All businesses should be able to earn at least a 20% return on capital and ideally over 40%. The first number should not be too difficult because chances are you are already earning more than that on your money if you're investing in high quality businesses.
The second number will be a little harder to achieve, especially if the market is currently fully priced. This means that if you had bought into any of the great companies back then, chances are you'll have difficulty getting at least 40% return over five years.
This is not impossible, but it adds a lot of risk for your investment, and most people will trade away returns for safety at this point.
Once you're ready to re-enter the market, that would be another story, we may even see 100% or more return on capital at that time, and if you're fully invested, it could be a great time to make some money.
If you're not sure what businesses are trading at less than 20% return on capital, the simplest way is to do this quick test. Add up the free cash flow of all your businesses and if it's less than 20%, then ask yourself why since these are returns you already have.
2. Great Stock Portfolios Have High Margin Of Safety
As a stock investor, you should never risk more than 5-10% of your capital on any given investment, otherwise it's too risky for most people. If you have limited resources, the lower the better, but there are also businesses priced at a 20% margin of safety that are still great investments.
This means that you should never buy anything at market prices, instead try to find undervalued opportunities where you can get in at 50-70% off the current price. When the market corrects these will be even cheaper, so there's no need to rush. It also has requires being patient and waiting for the stock price to go down before you make your investment.
3. Great Stock Portfolios Take Advantage Of Tax Savings & Is Not Held At Retirement Accounts
If you learn anything from this article, let it be that if you don't take advantage of tax savings, you'll lose out on a lot of money. The market is very efficient in pricing things, but it does not take into account tax savings or retirement accounts, so this is where you can take advantage of the market.
You should always try to buy undervalued assets in your name if possible because you have much better control over it. If things are priced right, I would only buy in a retirement account when it's under 50% off the market price.
If you have a business, then it's even better, you're able to take advantage of tax savings without holding too much capital inside your retirement account, which is what most rich people do because it eliminates the risk of being audited.
Above all else, maintaining a portfolio that has these qualities will ensure that you have good returns over the long term.