Three Steps to Protect Your Portfolio from the Next Bear Market

Three Steps to Protect Your Portfolio from the Next Bear Market

ALEXANDER GREEN, CHIEF INVESTMENT STRATEGIST, THE OXFORD CLUB

In one of my recent columns, I noted that investment analysis has gotten far trickier over the last few years. 

We have entered a period of “administrative markets,” in which equity returns are affected as much by government policies as they are by economic growth and corporate profits. 

In the last few years, we’ve seen large-scale bailouts; trillions in fiscal stimulus; massive quantitative easing; nearly seven years of zero short-term rates; heavy-handed regulation; and sharply higher taxes on income, dividends, and capital gains. 

Our corporate tax rate is the highest in the developed world, driving even iconic American companies like Burger King to move their headquarters to Canada. 

These policies distort markets... and lately equity investors have been paying the price. 

A Shot Across the Bow

The S&P 500 recently plunged more than 10% in four days. 

Don’t shrug this off. According to Bianco Research, this has happened only eight other times in the last 80 years. 

Yes, the markets took a significant bounce. But I still view this as a shot across the bow, a warning. 

Here’s what makes the smart money nervous right now... 

In the past, when the economy (and the stock market) went into the tank, the traditional policy response was to stimulate the economy with lower interest rates and deficit spending. 

But interest rates are already at zero. And under the Obama administration, the national debt has soared from $7.4 trillion to $18.4 trillion. 

What’s next? Are we moving to negative interest rates (like Europe), creating a situation in which you have to pay to leave your money in the bank and even more stupendous deficits? That policy prescription didn’t work well for Greece. 

Don’t put me in the gloom-and-doom camp. I’m not a pessimist. But I’m no Pollyanna either. 

I consider myself a skeptical realist who looks at both the positives and negatives. Despite the many government policy missteps over the last decade, there are factors to appreciate as well. 

For instance, the U.S. economy posted a much bigger rebound in growth during the spring than previously reported… (The Commerce Department adjusted the annual expansion rate in the April-June quarter sharply higher to 3.7%.) 

Plunging energy prices are a huge plus for everyone outside the oil and gas industry… 

Inflation is negligible… 

Housing is roaring back… 

Unemployment is falling… 

The dollar is strong... And the outlook for corporate profits is improving...

Three Essential Steps

Given the mixed outlook, what should you do with your portfolio now? Start with these three essential steps: 

1. Check your asset allocation. The roaring bull market of the last six and a half years has almost certainly increased – and perhaps more than doubled – your exposure to equities. If it’s now larger than you’re comfortable with, pare back to the point at which you’ll be able to sleep at night. How much in stocks is enough (or too much)? Investment great Benjamin Graham used to say that no one should have more than 80% of their portfolio in stocks – or less than 20%. Look at your age, time horizon, and risk tolerance, and adjust accordingly. 2. Move those trailing stops. Make sure they are no more than 25% below your holdings’ recent highs. And if you’re using “mental stops” – no actual stop orders entered – be sure to maintain your sell discipline when your stocks trade through your predetermined price. 3. Adopt a late-stage bull market strategy. That doesn’t mean move to cash. (This bull market could last five more weeks, five more months, or five more years.) History shows that as a bull market ages, the safest and best-performing stocks tend to be recession-resistant, mega-cap value stocks, preferably ones with growing dividends. (Those dividends both support your shares and provide income during the bad times.)

All this government meddling with the market makes this a challenging time for investors. We can only wait and see what policymakers dream up next, whether it’s higher rates or QE4 or something entirely new. 

Investment legend John Templeton used to point out that no matter how strange things look, economic and market cycles are all essentially the same. 

He famously noted that “this time is different” is the most expensive phrase in the annals of investing. That statement is generally true. 

But check your history. When was the last time the national debt was bigger than our GDP and the Fed held rates at zero for nearly seven years? 

This time really is different. Govern your portfolio accordingly. 

Good investing, 

Alex Green 
Chief Investment Strategist, The Oxford Club 

Source: Bonner and Partners

Follow us on Twitter: @blacklioncm

Four Easy Steps to Banish Fear and Change Your Life, Today

Four Easy Steps to Banish Fear and Change Your Life, Today By Mark Ford, founder, The Palm Beach Research Group Wednesday, September 9, 2015

I used to dread the thought of public speaking. And when I was forced to make a speech, I did a terrible job – which only made me dread the next speech even more. It was a vicious cycle. When I became the editorial director of a newsletter business in South Florida in 1982, I found myself in an uncomfortable position… I had to conduct meetings and give presentations at industry functions on a fairly regular basis – something I was ill-prepared to do. So, I decided to enroll in a Dale Carnegie program for public speaking. Somehow, I registered for the wrong course. Instead of focusing on speech-making, it had a broader goal. And that program changed my life. It taught me the importance of setting goals and taking action. But it also taught me to be more comfortable as a speaker.  My speech-making skills improved almost accidentally.  Every week, we had to read a chapter of Carnegie's classic book, How to Win Friends and Influence People, and then make a two-minute in-class presentation about how we were going to put the principle of that chapter to work in our lives.  On Thursday evenings after work, I would drive a half-hour to the meeting place.  During that drive, I thought about what I was going to say. It was difficult in the beginning, but it got a little easier each week. By the end of the 14-week course, I was performing at a near-professional level. I had won several awards in competitions and was routinely rated at the top of the class.  The final session was a sort of commencement ceremony. Relatives and friends were allowed to attend, which tripled the size of the audience we had to speak to. I gave the last speech. I was still a little nervous when I got up to the podium, but I'd learned a lot by then.  So, I took a deep breath and did my thing. I got a strong round of applause. Several people I didn't even know came up to congratulate me… and one suggested I should become a comedian.  I wasn't foolish enough to take his advice to heart, but it did make me happy to think I had made so much progress in so little time, starting from practically zero.  How did I conquer my fear of public speaking?  The same way you would conquer the fear of anything else.  Humiliation and Humility  A big part of what we are afraid of is embarrassment – being shamed in front of other people. When embarrassment is extreme, we call it humiliation.  If you pass gas at a fancy dinner party, you feel embarrassed. If your big project at work fails miserably – and you've been bragging it would be a "sure thing" – you feel humiliated.  Humiliation is what happens to embarrassment when it's mixed with pride. The prouder you are, the more failure hurts.  Which brings us to our cure for the fear of failure: humility.  I'm guilty of priding myself. I'm proud of my writing, for example, and the success I've had in business. So, I have to keep reminding myself to be humble about those things.  But I'm not proud of everything I do.  I take no pride in my ability to dance, sing, or speak foreign languages because I do those things so badly. And because my ego isn't involved, I'm not embarrassed to ask stupid questions, to show myself as a beginner, and, ultimately, to fail again and again as I attempt to master those skills.  The truth is, when I started out in business, I wasn't very good at that, either.  Again, that made it possible for me to ask lots of questions, look stupid, and make mistakes… which accelerated my learning curve.  That last observation brings us to an important principle of success. I call it "the secret of accelerated failure." It's a principle I developed in the early 1990s.  The principle of accelerated failure is this: To develop any complex skill, you must be willing to make mistakes and endure failures. The faster you can make those mistakes and suffer those failures, the quicker you will master the skill.  At the Palm Beach Research Group, we teach this secret to our managers.  We encourage them to allow their employees to fail. Not to fail stupidly. Not to make the same mistakes over and over again. But to feel free to fail at something – so long as it was done in the pursuit of knowledge.  If you play golf or practice Brazilian jiu-jitsu, you know this to be true: If you tense up and focus on avoiding mistakes, you will learn very slowly. If you relax, let the mistakes happen, and learn from them, you will advance quickly.  It starts with being humble. Humble enough to accept the fact that when you begin anything new, you're likely to do it poorly.  Humility Is Nature's First Gift  Pride prevents us from admitting we are incompetent. But we're all incompetent when we're learning.  Think of how a baby learns to walk. He begins by crawling, then advances to "forward falling" (as my brother calls it), then to walking like a little drunkard, and then, finally, to walking masterfully.  Babies don't feel shame, because they're not proud.  There's a reason pride doesn't invade the human psyche until 6 or 7 years of age: There's simply too much to learn before then.  If toddlers had pride, it would take them years – or even decades – to walk and talk properly.  Humility is a much-underrated virtue. It provides us with at least three significant advantages:  •   It makes us more endearing. Humble people, especially accomplished individuals who remain humble, are well-liked.      •   It makes it easier to get cooperation. Humble people get more cooperation from others because they don't try to force strong-minded people to accept their ideas.     •   It makes learning easier and faster. Humble people are able to ask questions, make mistakes, and experience failures without embarrassment. This attracts good people to them who want to help. Humble people get the best teachers and get the most from them. If Humility Is the Solution, How Does a Proud Person Become Humble?  Now we are coming to the most important part of this discussion – a practical plan for defeating the fear of failure.  Here's how you can do it:   1.   Begin by accepting the truth. You're a good person, but that doesn't mean you are naturally good at everything. Look in the mirror and think about the skill you want to accomplish.        Say out loud, "I accept the fact that right now, I am incompetent at (name the skill)." Repeat this exercise until it doesn't hurt.     2.   Admit your incompetence to an indifferent audience. Once you can say it in front of a mirror, say it in front of a living human being. Begin by admitting your incompetence to someone who doesn't care.        Admit to your Spanish teacher you are incompetent at public speaking. Admit to your public speaking coach you are incompetent at speaking Spanish. Repeat this exercise until you can do it with grace and good humor.      3.   Next, admit your incompetence to a judgmental audience. Admit you are no good at languages to your Spanish teacher. Admit you have two left feet to your dance instructor. Do this not once, but every time you make a mistake or fail in some way. Do it with grace and good humor. As pop psychologists say, "own" the feeling.      4.   Admit your incompetence to someone who can punish you. This is the ultimate test. The next time you volunteer for a difficult assignment at work, admit to your boss you might fail before you succeed. Do it with grace and good humor, and you will be amazed at the result.         Your boss won't can you on the spot. (Unless he is reallyincompetent.) Rather, he will admire you for your humility. After all, he knows you are not yet competent. All he wants is your commitment to carry on until you are.         I've found the most productive and successful executives are very comfortable about saying, "I'm going to try such and such. I'll probably screw it up completely. But if I eventually succeed… just think what good will come of it!" Defeat your fear of failure by being happy – and even eager – to try and fail until you succeed.  That's how Edison invented the lightbulb. That's how Michael Jordan, a very mediocre basketball player in high school, became the greatest hoops player of all time.  They weren't afraid of failure.  You shouldn't be, either.  Regards,  Mark Ford  Source: Daily Wealth Follow us on Twitter: @blacklioncm

How to Get One of the Highest, Safest Yields in Today's Market

How to Get One of the Highest, Safest Yields in Today's Market By Dr. David Eifrig, editor, Income Intelligence Friday, August 21, 2015

Before we get started, I must admit… It's one of the most boring sectors of the market… You probably won't be bragging about it at the summer barbecue or your company's water cooler… If everyone purchased this type of investment, the financial news channels would die. Headlines would get a bit less shrill. And people would mostly ignore CNBC's latest "hot take" on the market… But most people would also enjoy better returns and have greater diversification. Rather than selling at bottoms and buying at peaks, investors would ride the inevitable waves and earn a fat return over the years. You see, the advantage to investing in this sector isn't just that it's safe… or nearly unknown outside of a group of select Wall Street "insiders"… It also returns a higher yield than nearly any other safe investment you could make today. In other words, this investment is a powerful tool for income investors that's right at the intersection of yield and safety. Today, I'm detailing the opportunity in what's known as preferred shares (or "preferreds")… the hybrid blend between bonds and stocks. Based on the benchmark S&P U.S. Preferred Stock Index, preferreds offer an average yield of 6.24%. That's a huge payout in today's low-rate world. That yield is also safer than traditional dividends.  Preferreds are able to do this because they are fundamentally different than other securities… Here's how a preferred share works…  If a company needs to raise $100 million in capital it could do this several ways:  •   It could sell shares of common stock. That would dilute each shareholder's ownership, but the company wouldn't have to make regular payments, unless it chose to pay dividends.      •   It could borrow the money by issuing bonds. It would have to pay interest along the way, and pay back the bonds at maturity.     •   Or, it could issue preferred shares. Unlike a common stock dividend, the dividend rate on preferreds is specified in the contract. The company could sell four million preferred shares at $25 each, collect $100 million, and agree to pay a dividend rate of, say 5%, in quarterly installments.  Now, the preferred dividend isn't guaranteed (and neither are common stock dividends). If the company runs into financial trouble, it canchoose to suspend its preferred dividends. However, it can't pay a single penny in dividends on its regular common stock unless it keeps paying dividends on its preferred shares. Many preferred shares are also "cumulative," meaning that if the dividend is suspended for a few quarters, that tally keeps adding up and it must all be paid back when the company starts paying a dividend again.  Preferred shares are typically issued as "perpetual" preferreds, meaning that they will go on paying that dividend rate indefinitely. Though like a bond, if the market price of a preferred share is higher than its issue price, a new buyer would earn a lower yield than the original rate. Other preferred shares are "callable," meaning the company can buy them back at a set price after a specific date in the future.  So as a practical matter, preferred shares' dividends are much safer than regular dividends. And there are some additional benefits to preferreds…  The way to build a safer and more profitable portfolio is by combining uncorrelated assets. For example, stocks and bonds don't move perfectly together. When you combine them, you can earn a better return relative to your risk.  When investments move perfectly together, they have a correlation of 1.0; and if they bear no relation to each other, they have a correlation of 0. As you add more uncorrelated assets, you make a portfolio stronger and stronger.  Preferreds, in particular, are in a class of their own. Preferreds have only a 50% correlation with stocks and are even less correlated with the bond market.  The closest correlation with preferreds are investment-grade corporate bonds. That makes sense. Preferred shares are high-quality, safe investments that pay regular income flows, just like good bonds.  By adding preferreds to your portfolio, you've utilized an entire new asset class, making your portfolio more resilient to volatility.  On top of that, the dividends paid by preferred shares are often considered "qualified dividend income." This means that they are taxed at the lower capital-gains rate, rather than as income. It depends on your income level, but if you're in the 25% tax bracket, you'll pay 25% on interest income from bonds, but only 15% on qualified dividends from preferreds. That means collecting $1 from a preferred is the equivalent of collecting $1.13 from a bond.  Preferreds have improving financials, rising stock prices, and more potential upside than bonds if a company does well.  At the same time, the income stream of preferreds is more dependable and fixed, like bonds. It also has a better claim on assets in the rare case of bankruptcy. If a company goes bankrupt, bondholders get to take what they are owed from the assets. After that, preferred shareholders take what they are owed.  Investing in individual preferred shares is relatively simple – most preferreds trade over the major exchanges and are easily accessible through your broker.  For investors looking for short-term capital gains, preferred shares don't make for the best investment. But the opportunity for an income investor should be clear. High yields paired with safety are exactly what I look for in Income Intelligence.  Here's to our health, wealth, and a great retirement,  Dr. David Eifrig  Source: Daily Wealth Follow us on Twitter: @blacklioncm

Four Steps for Finding Great Investments

By Porter Stansberry 

Wednesday, June 24, 2015

We're going to do something that's hard for most people in today's essay...

 

It involves some math. It involves thinking hard about rather abstract ideas. For most of you, it will involve learning new jargon, which is probably the hardest part. No, it's not as hard as walking across a giant desert for 40 days. But it's something most people will go to great lengths to avoid. So let me tell you why you should first calculate these four things every time you buy another stock.

 

What you'll find below is a nearly foolproof way to evaluate the quality and the value of any business. This four-part test will allow you to quantify, with surprising precision, exactly what makes a given business great, average, or poor. This knowledge will allow you to make vastly better and more-informed decisions about what any business is worth and what you should be willing to pay for it on a per-share basis. But that's not the best reason to learn this four-part test...

 

The real secret is, once you develop the discipline to always do this work before you buy any stock, you'll never make a quick decision to buy a stock ever again. Once you add something that's hard to do, that requires a little bit of time, a little rigor, and a little discipline to your investment process, you're going to greatly reduce the number of stocks you buy.

 

You're also going to radically improve the quality of the stocks you're willing to invest in because you'll have the skills to do so. And that will eliminate more than 90% of your investment mistakes. Remember... you don't need to find a great investment every month, or even every year. You just need to find them every now and then... and have capital ready to put to work.

 

As I explained yesterday, I believe the No. 1 thing you need to know to be successful as an investor in common stocks is what type of business makes for a great investment.

 

Investment legend Warren Buffett says the same thing. He puts it this way...

 

Your goal as an investor should simply be to purchase, at a rational price, a part interest in an easily-understandable business whose earnings are virtually certain to be materially higher five, 10, and 20 years from now.

So... what makes a great business? How can you be certain its earnings will materially grow over reasonable periods of time? To figure it out, let's take one of Buffett's most famous investments – Coca-Cola (KO).

 

Coke sells addictive (caffeine-laced) sugar water for more than the price of gasoline all around the world. It has integrated its brand into people's lives through decades of advertising spending – an investment that has paid off tremendously. Coke has one of the world's most universally recognized and admired brands.

 

But how do these advantages translate into hard numbers? The most obvious characteristic of a great business is high profit margins. High profit margins are proof of a great brand, a superior product, or some form of regulatory capture that permits greater-than-normal profitability. On every dollar of revenue last year, Coke earned nearly $0.25 in cash. And it brought in $46 billion in revenue.

 

To figure out exactly how much money Coke earns in cash, we simply look at the company's cash flow statement, under the line: "total cash flow from operating activities." We see that in 2014, this was $10.6 billion. (You can get this by looking at the company's annual report, Yahoo Finance, or any number of other online databases, like Bloomberg. Here's a link to Coke's cash flow statement on Yahoo Finance.)

 

Next, we divide those cash profits by the company's total revenue ($45.9 billion), which you can find on the income statement. Doing the math gives you a fraction that is commonly expressed in percentage form: 23%. Coke's cash operating profit margin is 23%. It's earning $0.23 in profit on every dollar it generates in sales. In our experience, businesses with cash operating profit margins in excess of 20% are world-class. If you were putting together a checklist, you could start there. A great business must have cash operating profit margins greater than 20%.

 

The next "mile marker" you're looking for is something we call capital efficiency. This is another concept that, like profitability, is easy for most people to grasp. All you're trying to understand with this test is how much capital the company requires to maintain its facilities and grow its revenues. For example, oil and gas companies are notorious for spending every penny they make on drilling more holes and building more facilities. Their capital-spending programs leave little of their profits to be distributed to shareholders (often less than zero).

 

We've developed a sophisticated way to measure, in precise terms, the capital efficiency of any business using several factors in our monthly Capital Efficiency Monitor – a part of our supplemental Stansberry Data service.

 

But you can use a much simpler equation as part of our four-part test of a great business. All you need to do is figure out whether the company in question distributes more capital back to shareholders... or spends more money "on itself" via capital-spending programs.

 

A great business is able to distribute more profits to its shareholders than it consumes via capital investments. Coke, for example, spent $2.4 billion on capital investments in its own business in 2014. It spent $5.35 billion on dividends and $2.63 billion on share buybacks in the same period. You can see that Coke is spending far more on its shareholders than it spends on itself. (By the way, all of these numbers are labeled clearly on the cash flow statement I linked to earlier.)

 

What's powerful for investors about businesses like these is that you don't have to depend on a "greater fool" to come along and pay you more money for your shares than they're really worth. You don't need lower interest rates or a raging bull market to be successful. As these businesses grow, they're going to increase their payout amounts, year after year. It's the compounding effect of this growth that will make you wealthy – not the misguided actions of foolish investors. That's why Buffett says you should never buy a stock you wouldn't be happy to hold for a decade, even if the stock market was closed.

 

The third part of our four-part litmus test for great businesses is return on invested capital. (Here comes the jargon.) Yes, it's a mouthful. But I promise, with just a little practice, you'll be able to easily calculate this figure in your head. We use this metric because there's no purer way of determining the value and the power of a company's "moat" – the degree to which the company is sheltered from profit-eliminating competition.

 

The business school formula for determining the precise amount of invested capital is complex and requires several different numbers (and judgments about each of them). It's a pain. And there's a much easier way to get a ballpark figure – just add the total amount of a company's long-term debt and the total value of the company's equity capital. You'll find both numbers as simple line items on the balance sheet.

 

Coke has $30 billion worth of equity capital and $42 billion worth of debt (adding the current position of long-term debt to long-term debt). So in our book, the company has invested capital of $72 billion. On this capital last year, the company reported $7 billion worth of net income, or "earnings." You'll find Coke's net income on the key statistics page, or you can look at the income statement directly. Once you have the numbers, you just do the basic math (seven divided by 72) to derive another percentage: 10%. As you'll see, this is where Coke falls a bit flat. The beverage market is ultra-competitive and Coke's brand only provides a small measure of protection against competitive pricing.

 

The last part of our great business test is also a bit "wonky" and will make you sound like a finance geek. It's called return on net tangible assets. This number gives you the best overall measure of the quality of any business. It's similar to the more commonly used return on equity (ROE) with two important differences.

 

First, measuring returns against net tangible assets takes goodwill out of the calculation. So companies with large amounts of goodwill (like companies with great brands) will typically show a much higher return. Second, this measure of quality rewards companies that can borrow most of the capital they need because their results aren't cyclical.

 

Calculating this number is also really easy. Yahoo Finance lists “net tangible assets” among its balance sheet statistics. All you have to do is compare this number with the company's net income for the last year. In Coke's case, net tangible assets total only $3.9 billion. Coke earned a profit equal to 179% of its net tangible assets – a truly outstanding figure.

 

(Note: In some cases, a company will actually have more liabilities than it has tangible assets. In those cases, the math you see above no longer works because you can’t divide using a negative net tangible assets figure. When that happens, we’ll subtract out only the long-term portion of total liabilities. This provides a more meaningful number, while still measuring the company's ability to safely replace equity with debt in its capital structure.)

 

Putting all of these factors together, our test of business greatness starts with profits. How much money, in cash, does a business earn from its operations, expressed as a percentage of its sales? The higher the margins, the better. This tells us that the company owns high-quality brands and products, and market position. We expect great businesses to produce cash operating margins of at least 20%.

 

Our second test is capital efficiency. Does the business produce substantial amounts of excess capital, and does management treat shareholders well? We test this by seeing whether shareholders receive at least as much capital each year as the business reinvests in itself.

 

The third test is return on invested capital, which is the best measure of a company's moat. Here again, we would expect to see returns on invested capital of at least 20% to qualify as a great business.

 

Finally, our last measure of great companies – return on net tangible assets – is the single best overall measure of the quality of a business. It combines brand value, capital efficiency, the quality of earnings, etc. No surprise, we expect returns on net tangible assets in excess of 20% annually.

 

Business quality is extremely important, but the stock price is equally important for investment outcomes. Our best advice is to value high-quality businesses by the amount of cash they earn before interest, taxes, depreciation, and amortization. In finance jargon, this measure of profits is called "EBITDA." You can't use this measure with lower-quality businesses, but it works well for high-quality businesses because it allows you to quickly judge companies in different industries against each other.

 

Now, let me show you a trick that will show you when to buy a high-quality company. We try to avoid paying more than 10 years' worth of EBITDA per share when we buy a business. We measure the cash earnings against the enterprise value of the business (the value of all of the shares and all of the debt, minus the cash in the business). But you don't need to do all of this work yourself. You can find this multiple on Yahoo Finance on the key statistics page for any given stock. Valuing businesses is a lot more difficult than evaluating their performance. You should be willing to pay more for a high-quality business that's growing.

 

Below, you'll find nearly 40 different companies we consider great businesses, according to their results over the last three years. Roughly half of these companies are trading at or close to reasonable prices. Not including the valuation figure (No. 5), the numbers below were compiled using the last three years of operating metrics, so these numbers may look a little different than the ones you calculate at home, if you're only using current figures.

 

Company	Symbol	Share Price	No. 1: Profits	No. 2: Efficiency	No. 3: Moat	No. 4: Quality	No. 5: Price
InterDigital	IDCC	$57.80	45%	29.3	21%	48%	6.2
Shanda	GAME	$6.95	39%	15.0	30%	99%	7.5
Apple *	AAPL	$128.60	32%	3.4	29%	35%	8.1
Gilead	GILD	$114.18	42%	4.0	29%	485%	8.9
TiVo	TIVO	$10.57	49%	21.2	16%	30%	8.9
Microsoft *	MSFT	$46.26	39%	3.0	22%	35%	9.4
Scripps	SNI	$67.80	30%	14.0	20%	413%	9.7
Edwards	EW	$131.77	30%	2.3	24%	38%	9.8
Coach *	COH	$35.88	25%	3.4	45%	50%	10.1
Oracle	ORCL	$43.78	38%	14.1	18%	606%	10.2
VeriSign	VRSN	$62.75	60%	13.5	46%	39%	11.6
Myriad	MYGN	$33.37	27%	10.3	21%	28%	12.2
Ubiquiti	UBNT	$31.29	27%	9.4	59%	59%	12.2
Lorillard **	LO	$71.22	25%	23.5	98%	35%	12.3
3M	MMM	$157.08	19%	3.2	21%	27%	12.3
Philip Morris **	PM	$80.04	30%	9.8	40%	34%	12.4
j2 Global	JCOM	$66.47	36%	4.9	15%	64%	13.0
AVG	AVG	$25.38	33%	0.3	162%	63%	13.0
F5 Networks	FFIV	$124.14	34%	11.6	21%	33%	13.2
CBOE	CBOE	$57.45	40%	4.5	69%	68%	13.6
Linear	LLTC	$46.67	44%	7.4	28%	42%	13.7
Check Point	CHKP	$83.87	58%	49.6	18%	23%	14.2
Moody's	MCO	$107.15	31%	15.0	41%	79%	14.3
MasterCard	MA	$92.36	42%	19.4	43%	62%	16.1
Verisk **	VRSK	$73.88	31%	2.3	22%	51%	16.2
QIWI	QIWI	$28.29	37%	5.7	57%	161%	16.2
Core Labs	CLB	$120.51	27%	8.3	56%	127%	16.6
Choice Hotels **	CHH	$56.36	22%	11.5	45%	26%	17.2
Biogen	BIIB	$387.78	32%	2.4	23%	51%	17.4
Sirius XM	SIRI	$3.90	28%	11.3	47%	71%	18.0
NetEase	NTES	$144.99	53%	3.1	20%	22%	18.6
Visa	V	$68.42	44%	8.6	13%	100%	18.7
Priceline	PCLN	$1,180.86	34%	6.4	28%	56%	18.7
FactSet	FDS	$164.58	30%	11.5	38%	85%	19.5
Celgene	CELG	$110.46	36%	12.6	17%	321%	25.7
TripAdvisor	TRIP	$75.41	33%	(0.9)	19%	89%	25.8
AbbVie	ABBV	$67.53	28%	5.9	24%	94%	27.9
Baidu	BIDU	$206.99	42%	(0.4)	22%	49%	28.6
Intuit	INTU	$105.59	33%	5.5	23%	55%	32.7
WisdomTree	WETF	$21.78	39%	0.8	45%	36%	35.9
* In the Stansberry's Investment Advisory model portfolio
** For Quality, using return on tangible assets because intangible assets minus long-term debt is negative
We believe the best overall measure of the overall quality of a business is return on net tangible assets. We derive this figure by dividing annual profits (net income) by the company's tangible assets minus total liabilities. Companies that can produce large profits on their asset base may sometimes have more debt on their balance sheets than equity, in effect replacing equity capital with long-term debt. While investors normally should seek to avoid highly indebted firms, companies like these that can produce high and consistent returns can safely use credit as a replacement for equity in their capital structure. This produces large returns on equity, making these businesses extremely attractive to outside passive investors. Please note: In certain examples, extreme amounts of negative equity made our calculations meaningless – you can't divide with a negative number. In those situations, we isolate long-term debt (as opposed total liabilities) to derive net tangible assets. If that still yields a negative number, we simply use returns on tangible assets as a substitute.

The Four-Step Test of Greatness:
 

	No. 1. Cash operating profit margin: cash from operations / revenue (should be greater than 20%).
	No. 2. Shareholder payout ratio: capital returned to shareholders / capital expenditures (should be greater than 1).
	No. 3. Return on invested capital: net income / long-term debt + shareholder equity (should be greater than 20%).
	No. 4. Returns on net tangible assets: net income / net tangible assets (should be greater than 20%).

Bonus Step:
 

No. 5. Share price multiple: enterprise value / EBITDA (ideally less than 10).

Regards,

 

Porter Stansberry