Availability Bias

Starting from this week I am going to introduce to my readers the different types of mental bias that will hider successful trading in us. Today’s topic is “Availability Bias”, a behavioural finance theory that is based on Kahneman and Tversky’s famous literature – Judgement Under Uncertainty: Heuristics and Biases in 1974.

According to the availability bias theory, people pay attention to anything in the media that supports their fear and perception and ignore the other side of the story. In short, availability bias makes people less objective when making decisions.

For instance, many people have misconception about investing in the stock market. When asked why they rather put their money in the bank than in the stock market, they said: “Why? Because I don’t want to lose all my savings”.

People typically give too much weight to recent experience and extrapolate recent trends that are at odds with long-run averages and statistical odds. They tend to become more optimistic when the market goes up and more pessimistic when the markets are down. These people probably heard one or two stories about people losing all of their savings in the stock market, but they ignore other facts about the stories – maybe those people invested on speculative stocks or they put all their eggs into one fragile basket. These people do not realise that by doing some research, they can find some safe and sound investment that produce greater returns than the bank rate.

So the next time when you need to make a decision on stocks, remember not to fall trap into this mental mistake, instead we need to apply statistics, reasoning and probability into our thinking.



Happy investing,

Pauline Yong

Are You A Rational Investor?

Let me start by introducing to you what is Behavioural Finance. It is the study of the influence of psychology on the behaviour of investors and their subsequent effect on markets. It combined the discipline of psychology and economics to explain why and how people make irrational or illogical decisions when they make investment decisions.

For example, many investors know that before they invest in a particular stock, the first thing they should do is: RESEARCH! But honestly how many of us actually perform this step? You may be surprised that there are many investors who have the ability to do analysis on stocks but often find themselves making rush decisions based on tips and advice of their so-call expert friends. So in behavioural finance perspective, these investors are ‘irrational’.

Irrational investors are easily swayed by emotions, they do little planning, lack of savings and have low risk tolerance. Interestingly, according to statistics, there is a relationship between risk tolerance and capital base. Large capital based investors tend to have higher risk tolerance, think long term and they are more rational as compared to small capital base investors. So that means if we understand the mindset of a successful rational trader, we can actually produce the same winning strategies that have been proven for years and decades for them. All we need is to establish some ground rules for our portfolio.

Here is a summary of the six reasonable guidelines that we know work for irrational investors:

1. Never attempt to time the markets; it's impossible
2. Live below your means and save regularly
3. Asset allocation is the key to a winning portfolio
4. Buy and hold quality, and buy intending never to sell
5. Compounding guarantees long-term wealth-building
6. Do it yourself; millions do, especially millionaires

Bottom line: Nobody wants to think of themselves as an irrational investor. But the chances are four out of five that you are, and that you're probably in denial if you still believe you're rational.

Bottom line No. 2: Paradoxically, the biggest secret of the "Rational Investor" is that they know they're irrational! So they use the six rules to protect their portfolio from their own worst enemy, their brains.


Happy investing,

Pauline Yong

Can You Write Your Own Will?

Yes, you can, but that doesn’t mean you should!

A Will is an important legal document that contains your instructions and wishes for distributing your properties and assets after you die. This document contains the names of the people you want to benefit, your beneficiaries, as well as details about your home, land, vehicles, bank accounts, investments, jewelry, artwork, and other possessions. Your Will also allows you to choose a personal guardian to care for your children if you should die when they are still minors. Your Will should be written carefully, correctly and in compliance with the laws to be sure your beneficiaries will be taken care of when you are gone.

In order for your Will to be valid, and accepted by the court, it must, with some exceptions, be in writing, signed with your signature, and witnessed by at least two witnesses who are neither relatives nor beneficiaries. Otherwise, the court may not accept your Will, and it may be unenforceable. If your Will is found invalid, the court may distribute your assets as if there were no Will (or intestate), and the court will distribute your asset according to the Distribution Act 1958 (amended 1997).


For fast and easy will, please visit my website:
http://www.stocktips123.com/financialplanning/will_steps.html

Investmen Policy Statement

I always tell people to invest rationally and prudently. Then you may ask: “But how?” To be honest with you, I was once ‘lost’ in the stock market before, I found myself investing aimlessly, invested in one counter then sold quickly when I heard some bad news or when I was not sure about the stock; or sometimes I found myself buying into a counter without any research at all like I was buying into a hurry, worried that if I delay the stock price would rally further! Then I realized I was not investing at all, I was simply speculating, ‘hoping’ the price will go higher after I bought which in fact it usually didn’t because I bought when everyone else were buying too which was already in an overbought position.

So I finally looked into what all the experts have been saying: “Create an investment plan first”. I’ve heard so many times but I never followed this important step. I hope by sharing with you will help you to be a wiser investor. Below is a copy of a sample investment policy statement. An investment policy statement defines your goals and objectives and sets the guidelines for your investment activities. Most importantly, it provides the necessary disciplinary function of the investing business that any rational investor needed most. It is by far the most important step of the investment process however, most investors fail to recognize it.

Investment Policy Statement for Mr. Market, aged 40

Objective of Portfolio
The objective of this portfolio is to provide steady growth of capital until retirement and an inflation-adjusted of RM50,000 every year for 20 years in retirement.

Return Expectations
Return expectations are: 3% for cash, 8% for unit trust, 10% for stocks. In which the returns for unit trust and stocks include dividend yields.

Time Horizon
My target retirement date is 2030 when I am 60 years old. My initial investment is RM200,000, supplemented by annual periodic investment of RM12,000 per year or RM1,000 per month for until 2030.

Asset Allocation
Cash – 20%, Malaysia Equities – 30%, Singapore Equities – 40%, US Equities – 10%

Rebalancing
The investment portfolio will be rebalanced to the target asset allocation when new money is added. The portfolio’s asset allocation will be checked once every 6 months on June 1st and Dec 1st. I will rebalance back to the target by selling whatever has gone up and buying whatever has gone down.

Investment Vehicles
Cash will be held in either Fixed Deposit accounts or Merdeka Bonds if applicable. Local equities and foreign markets equities may include direct purchase from the relevant stock markets or through unit trust/ mutual funds run by well reputable fund managers. My portfolio will avoid: investing in options, futures and other derivatives, illiquid companies with average daily volume below 500,000 shares, and companies without proven track records.

Benchmark and Review
The benchmark for Malaysian equities – KLCI; Singapore – Straits Times Index (STI); U.S.- Dow Jones Index(DJI), Hong Kong- Hang Seng Index(HIS)


Note: This is just a sample investment policy for illustration purpose only. You can customize based on your goals and needs. A good investment policy will be as detail as possible.

Be Prepared !

Be prepared to see some selling pressure in the next 3 weeks. Short term view is still bearish, however the long term view is still bullish as the KLCI is still trading above the 200-day Moving Average.

EPF Nomination, Have You Done it?

Today I’m not going to talk about investment, but something equally important to us, which is Personal Financial Planning! According to EPF, as at March 2010, about as much as 74% of the EPF members have not made nomination to their EPF savings. Many EPF members are either not aware of the importance of nominating beneficiaries for their EPF savings or they are just too lazy to act! Hence, there’s an urgency for those who have not done it to act immediately!

Let me tell you the consequence of not having a nomination. First, the EPF savings will be termed ‘EPF savings without nomination’ after the demise of the EPF member. Then the EPF authority will disperse RM20,000 of the deceased money in two stages to the next of kin in 2 months time, and the balance will only be released upon the submission of Letter of Administration/ Grant of Probate/ Faraid Certificate which may take minimum 6 months or up to a maximum of 7 years. Imagine your love ones have to go through this tedious process, especially if you have schooling kids, it will be nightmares for them for not having enough money for education.

In addition, many EPF members did nominate beneficiaries but the names are not up to date. For example, they nominated their parents or their ex-girlfriends or boyfriends long time ago when they stepped into the workforce. There are cases whereby the nominees are no longer alive and the EPF savings will go to ‘EPF savings without nomination’. This is not too bad if you were to compare to other cases when the EPF savings went to the ex-lovers and your love ones will be left with nothing!

Act now! Either you want to do a nomination or an update, there is only one form to fill. Go to the nearest EPF office, complete Form KWSP 4 (AHL) and submit in person because they need to verify with your identification card.

If you’ve done this, congratulations! Your wise move will help prevent any dispute in claiming of the EPF money, and you have a peace of mind that your love ones will receive the payments promptly.

Benjamin Graham’s Number

Any value investor should have heard of Benjamin Graham. He was the teacher of Warren Buffett at Columbia University and was known as the ‘Father of Value Investing’. Graham is famous for his stringent stock criteria to pick the undervalued stocks. His idea was to buy the liquid assets such as cash and its equivalent of a company at a discount which is known as the Net Current Asset Value (NCAV).

Here’s the calculation: Take the total current assets of a company, minus the total short term and long term debt of the company, the value times two-third.

Formula = (Current asset – Total Debt) x 2/3

This means that Graham is only willing to pay 2/3 of the net current assets of the company!

In layman term, you are actually looking for a campany with solid financial position that can pay off all its short term and long term debt in a short period of time.

To give you an idea how stringent the criteria is I have calculated some cash rich companies in our Bursa Malaysia. Many stocks are in negatives with this NCAV formula, however I managed to scout for a few that are with positive NCAV per share:

Genting Malaysia RM0.73
Maybulk RM1.01
Petronas Gas RM0.47

And Graham was only willing to pay 2/3 of the above values! You may say
that’s impossible! However, in modern days, we may improvise the formula and work out one that is suitable for your risk profile and your investment plan.


Happy investing,

Pauline Yong

Pauline Yong Investment Seminar @ CIMB

How To Be A Long Term Winner in the Stock Market

There are 3 sessions

Date &Time
1. 20th November 2010 (Saturday)
10.30 am - 12.30 pm
(Registration starts at 10.00am)

2. 20th November 2010 (Saturday)
2.00pm - 4.00pm
(Registration starts at 1.30pm)

3. 3rd December 2010 (Friday)
12.30 pm – 2.00 pm
(Registration starts at 10.30pm)
(Registration closed for 3rd Dec as it was fully booked)

Venue
CIMB Securities Tropicana City Branch
Level G
Tropicana City Office Tower
3 Jalan SS20/27
47400 Petaling Jaya
Selangor

Topics:
1. Personal Financial Planning
2. About value investing
3. Fundamental Analysis
- Annual reports
- Financial ratios
- Analyst reports
4. Technical Analysis
- Price volume analysis
- Price charts
- Technical indicator
5. Market Psychology


See you there!

At 1526 KLCI, Where Do We Go From Here?

No body can predict the market. Even Warren Buffett said: “Don’t try to time the market.” However, we can always make our decisions based on facts and probabilities. Take a look at our KLCI chart, at 1526 it’s our all time high now, is there room for growth?

All the technical indicators and analyst reports are bullish about our stock market, mostly based on the favourable news from US that the US Federal Reserve announced they are going to pump in more liquidity in the market (its called the Quantitative Easing) and the possibility that our Malaysia general election might be coming soon, hence, many analysts predicted our KLCI will reach 1800 in 2 years time!

In order not to be crowded by all the noises in the market, we must be firmed with our own investment plan. In your investment plan, ask yourself these:
• What is your investment horizon? 2 years, 5 years or longer?
• What are my stocks? Dividend stocks, blue chips, or tech-stocks?
• Do I have the holding power if my investment portfolio reduced by 50%?

If you intend to hold a longer investment horizon for your retirement or your children education fund, most likely you will be holding dividend and blue chip stocks in your portfolio. In addition, you must have the holding power should the economy turns bad, then by all means invest in the stock market regularly because in any stock market there is only one trend in the long run – that’s UP!

Personally, I did not sell my Maybank and Public Bank shares during the recent financial crisis, however, I did buy more when Maybank was at RM3 and Public Bank was at RM8.65. Hence, I was able to lower the average cost of my portfolio during the financial crisis. Moreover, I do invest in the stock market regularly but now I’m investing at a slower pace now.

However, if you just want to make quick bucks out the stock market, then my advice is: make sure you have the right tips and to take profits in time. Lastly, I want to leave you with a piece of advice from the popular investment guru, Warren Buffett:

“Most people get interested in stocks when everyone else is. The time to get interested is when no one else is. You can't buy what is popular and do well.”


Happy investing,

Pauline Yong

Get Organised With An Investment Form

Last week I mentioned about the importance of reading the analyst reports, however, just sitting down with a pile of financial statements isn't a very efficient or effective way of determining whether or not a company is a good investment decision. You've got to organize your thoughts - otherwise you're just going to be spinning your wheels. That's why creating your own investment analysis form can be one of the most valuable investment tools in your arsenal. An investment analysis form is a tool that you can use to help gather numbers and essential information needed to make an investment decision in one easy-to-use format.

An investment analysis form allows you to better interpret your data systematically, as all of the information is collected into a standardized format. Because information is plugged in uniformly, you're guaranteed not to miss anything that you have deemed important.

Moreover, an investment analysis form also allows an investor to simplify his or her research by only looking at information that is relevant to the investment decision.

The first step of creating an analysis form is to decide what you want to include in it. For example, you may want to include the PRINCED rule as your stock investment criteria, together with the 52-wk high/low, and some technical indicators information.

Once you're all set up with a form of your own, you'll probably find that collecting your thoughts is a lot easier than it used to be. It just simplifies the process of investment analysis.

What I like about the investment analysis form is that when you're trying to browse through the various companies in the analyst reports, your mind stays active while you jot down the key figures. This helps you to analyse your investment better. Just don't forget that an investment analysis form is just an aide. It won't tell you whether a particular stock is a smart investment, but it can help you organize your thoughts and data so that you can make an informed decision yourself based on facts and figures.




Happy investing,

Pauline Yong

Is Stock Investment A Passive Income or Active Income ?

Many people say property and share investments are sources of passive income. Well, yes and no! No doubt, if you are a value investor that practices long term hold strategy, you may not sell your share until 5 or 10 years later. Hence, you get dividends and capital appreciation during the holding period, and yes that’s passive income. However, as an investor, before we buy any investment, be it properties or shares, we need to “actively” searching for the relevant information available to us, and to scan for any fundamental problem for the particular investment that we are buying, as there must be a reason why a certain investment is too cheap.

There are many sources of information available in the stock investing business. One good source is the analyst report. Just two months ago in August, it was the Chinese “Hungry Ghost Festival”, traditionally, investors would think that it is not a good month for investment, however, when I read the analyst reports from various brokerage firms, most of them recommend overweight on the banking sector. Not long after the reports, I saw the banking stocks jumping 10sen, 20 sen per day!

Our stock market is very much driven by so called “investment themes”. Besides the above banking sector theme, other examples are: Iskandar Development Region (IDR), Economic Transform Program (ETP), and The Budget that will have impact on the stock market. Hence, we must breathe the same air as other market participants, but don’t follow the trend blindly. Stay objective and try to make decisions based on probabilities and reasons.

Hence, from today onwards, give yourself some time to read the analyst reports every week, it doesn’t matter how much you can absorbed, at least by browsing through them will give you some investment ideas.


Happy investing,

Pauline Yong

Investment Lessons

In February 2010, Personal Money, one of the leading financial magazine in Malaysia interviewed me on how to be a better investor. In order to help more young investors to know more about share investing, here, I would like to share with you part of the interview contents.

Personal Money: "Personally, how did you learnt to be a better investor? What are the experiences that you went through (mistakes you made) that taught you the “better” ways?"

Pauline Yong: I had some rough rides before but I’m glad that I started young as those experiences help me to become a better investor now.

The first lesson that I learned was back in my high school. One of my school teachers was an ex-broker in stocks, so he liked to talk about shares in our class. Under his influence I bought the first stock under my relative’s account. I had no idea what the company was doing and I didn’t bother to find out either. Then I went to overseas for my education and when I came back the value became less than a third.

So lesson No.1: Never listen to rumours. We should do our due diligent.

Subsequently the 1997 Asian financial crisis was another great lesson in my life. It was in 1996 that I just graduated from university and I received RM10,000 from my father as a gift. As a young and eager finance graduate I opened a trading account and started investing.

I invested all my money into three counters, all construction related as they were enjoying the economic boom during the “Four Tigers Era”. And soon the Asian financial crisis struck, there goes my investment. At present, one of them was de-listed, one was sold at break-even and I’m still holding the third counter at paper loss.

Hence, lesson No.2: Never invest all your money at once. We should invest in stages; and

Lesson No.3: Never invest all the money in one sector. We should practice diversification.

After all those hiccups, I was not discouraged at all. In 1998, I kept buying and I have learned the most valuable lesson in the stock market.

Lesson No. 4: It’s a cycle – what goes down will come up; and what goes up will come down!

I bought Public Bank at RM1 and sold at RM3, I bought Public Bank again at RM2 and sold at RM4, I did that to other stocks too - “buy low, sell high”. This strategy works very well when the stock market is on an uptrend.

As I was getting “hooked” on the “buy low, sell high” game I discovered the next lesson:

Lesson No.5: Do not over-trade as it will turn us into highly emotional.

I realised I was very emotional, I suffered from heart palpitation and nervousness as I was always guessing the next move of the market. That was not investing, that was speculating! Emotional investing will turn us into a loser in the long run.

It all boils down of being a better person. That means that you should improve your attitude because it does reflect or influence your performance in share investing. Don’t be afraid of making mistakes, mistakes make us grow. What is more important is to foster a positive attitude which makes you decide things objectively and to control your negative emotions better.

China - The Next Super Power?

In Goldman Sachs's 2007 update on the BRIC's report, by 2027 China will overtake US to be the world no. 1, if this is true will it surprise you?

For those who know the ancient China history, China was once a very powerful nation interms of military and prosperity during the beginning of the Qing dynasty, under the guidance of Kang Xi (reigned 1662-1722), Yong Zheng (reigned 1723-1735) and Qian Long (reigned 1736-1795) emperors.

The divergence between China and the western countries started during the 1800's where the European countries led by Britain were gaining power through the industrial revolution. Since then the divergence became bigger and bigger until 1978 when Deng Xiao Ping decided to open up its door to the world.

From 1978 - 2000, China's economy was rising due to its capitalism. Later when China joined the World Trade Organisation (WTO), it's growth has been accelerated and now, China has become the world 3rd largest economy in terms of GDP (lagging behind USA and Japan).

After hundreds of years of lagging behind the western world, China is now closing this gap in less than 50 years. There are a lot of hard work behind. Let me share with you my personal thaughts.

All these boil down to a simple word - "Vision". In the 1950's they shared a vision with Russia to have their countries run in the communism way whereby they believe socialism and communism will benefit their people most. Indeed, they will able to eliminate the internal wars within their own country and bring peace. However the prices these communists have to pay were huge. As everything was state owned, there were lack of initiative, labour productivity was low and the people were having low levels of standard of living.

The death of Mao Tze Tung in 1976 signifies the end of communism in China. After Mao Tze Tung era, it was Deng Xiao Ping who had contributed China the most. Have you heard of the Deng's cat theory - "whether its a black cat or white cat, as long as the cat catches mice, its a good cat". So China has a vision, the vision of an "efficient" country which lead to prosperity in China now.

There is also a little story about Deng. In the 1990's he once said that Singapore was a role model for China. He admired Singapore, a country that is so rich and efficient and yet there are law and order in placed. So China developed its Guang Dong province to be like Singapore.

Another reason for China's success is education! They realised the main driver for economic growth is really its people - the human resource. Look at Singapore, its world class education sector has successfully transformed Singapore from a manufacturing based economy to high skill service based economy. Likewise, over the years, China's education sector has been developing steadily with primary school children equiped with computer knowledge.

Having look at how others become so successful, we should also look at ourselves. Why aren't the foreign investors coming to Malaysia? Not only the foreign talents not coming, the local talents are leaving, why? Our politicians should know the answers!

Happy investing,

Pauline Yong

The China Renminbi (RMB)

While everyone is celebrating the news that the Chinese government has decided to let its currency to revalue I'm still skeptical about it.

Since 2005, China has been under tremendous pressure from the US to revalue its currency as the US blamed China for causing the US high current account deficit with cheap influx of the Chinese goods. Hence, in July 2005, the RMB was revalued to 8.11 per US dollar, which was a mere 2% increment (Prior to that the Yuan was pegged to the US dollar at 8.27 from 1997 to 2005). Since 2005 the Chinese yuan was unpegged and allowed to float within a narrow band of 0.3% - 0.5%. However, in 2008 due to the financial crisis around the world, the Chinese Central Bank has manipulated their yuan to the dollar of around 6.90. Until recently, the Central Bank of China has announced to further revalue their currency through a more flexible exchange rate policy, how 'flexible' we do not know as there was not much information given.

According to the Big Mac Index, Renminbi was undervalued for nearly 50%! Hence I really doubt the China is going to let its currency to reflect its true value, the most I would predict is another 5% appreciation, no more! Why? As it makes no sense for the Chinese yuan to be so strong for the following reasons:

1. Chinese Exports
According to BBC, Chinese exports value has reached US$1.2 trillion which make China to be probably the no.1 exporter in the world. They export mostly electrical goods, textiles, and many low-valued daily products like tooth brush and under garments. These products are the driver for the economic growth in China, for the past decade, it has recorded tremendous growth of 6% to 13%, it will soon overtake Japan to be the Asia largest economy.

2. Job opportunity
Due to the cheap goods demanded by the whole world including you and me, it has contributed to their income and employment, improved their standard of living, and most importantly the influx of foreign direct investment (FDI) into China.

3. Foreign Direct Investment
Since 1980, the FDI has been increasing by an exponential rate, which can be seen from the graph. In the beginning when China first open its door to the world, it was the Taiwanese and Hong Kong factories went over there to set up their operating plants. Later when China joined the World Trade Organisation WTO more capital from all over the world came to capitalise on the China's cheap labour. These valuable foreign direct investments and exports has turned China to be the second largest economy in Asia.

Value of Yuan
The value of a currency is usually reflected based on a country's economic performance, which is reflected on its Balance of Payment. Over the years, while many western countries like US and EU countries are experiencing deficits in their balance of payments, China has surpluses year after year. Hence, by right we should be seeing depreciation of those western countries currency (which is happening now) and an appreciation of the yuan. But yuan has been relatively constant at around 7-8 per US dollar over the years! Clearly, the yuan has been artificially kept low by their Central Bank.

So, what's the big deal? If it's not a big deal then why should US kept barking on the China to appreciate their currency?

Let me explain further. First when Chinese yuan suppose to reflect its true value but it didn't then we will continue to see China exports continue to sell at low price to its trading partners like US, make them keep buying the Chinese goods and worsen the US deficits further! Hence, if the yuan is stronger, the US will import less Chinese goods and thus their balance of payment shall improve.

The currency war between the US and China has been long, and it will continue to stay if the yuan continues to be undervalue against the greenback.

Happy investing,
Pauline Yong

British Pounds

For those who has been keeping track of the British pounds will notice the recent rapid depreciation of the currency. Over a period of two years, the pound has fallen almost 30% against the ringgit. How nice if I could delay paying my MBA tuition fees!

There are many factors affecting the British pounds. The following are some of them:


1. Current account deficit

Since 1997, UK's current account has been in bad shape. Having a current account deficit means that the country is spending beyond their means, or they are importing more than what they are exporting. This will increase the supply of British pounds that subsequently reduce the value of the currency.


2. Fiscal policy

Over the years, the British government has been proposing a national budget that is bigger than before. The 2009 public spending on welfare and social security stood at 650 billion pounds which was equivalent to about 46% of the UK GDP. The unprecedented size of the UK budget deficit has in fact balked by many economists as that means more public debt to finance the budget deficit. As such, many believe that the sterling pounds will remain weak and it may eventually reach parity with the euro.


3. The Greece effect

As UK is located in the Euro zone not far from Greece who also has great appetite for debt. Many people suggested that UK will be the next Greece. However, that's not the case. Although UK is highly debt ridden with a debt of 60% of its GDP, but compare to Greece, this is much better as Greece's debt is recorded at 130% of its GDP!


Overall, the above are the economic reasons for the weak pounds, however there are other factors such as political scandals, the purchase of AIG by Prudential and so on that will definitely aggrevate the problem.


Anyway I told my students if the pounds really hit parity with the euro, I will convert all my savings into pounds... Just kidding!



Happy investing,
Pauline Yong

Think Like Warren Buffett

Think Like Warren Buffett
by Glenn Curtis

Back in 1999, Robert G. Hagstrom wrote a book about the legendary investor Warren Buffett, entitled "The Warren Buffett Portfolio". What's so great about the book, and what makes it different from the countless other books and articles written about the "Oracle of Omaha" is that it offers the reader valuable insight into how Buffett actually thinks about investments. In other words, the book delves into the psychological mindset that has made Buffett so fabulously wealthy.

Although investors could benefit from reading the entire book, we've selected a bite-sized sampling of the tips and suggestions regarding the investor mindset and ways that an investor can improve their stock selection that will help you get inside Buffett's head.

1. Think of Stocks as a Business
Many investors think of stocks and the stock market in general as nothing more than little pieces of paper being traded back and forth among investors, which might help prevent investors from becoming too emotional over a given position but it doesn't necessarily allow them to make the best possible investment decisions.That's why Buffett has stated he believes stockholders should think of themselves as "part owners" of the business in which they are investing. By thinking that way, both Hagstrom and Buffett argue that investors will tend to avoid making off-the-cuff investment decisions, and become more focused on the longer term. Furthermore, longer-term "owners" also tend to analyze situations in greater detail and then put a great eal of thought into buy and sell decisions. Hagstrom says this increased thought and analysis tends to lead to improved investment returns.

2. Increase the Size of Your Investment
While it rarely - if ever - makes sense for investors to "put all of their eggs in one basket," putting all your eggs in too many baskets may not be a good thing either. Buffett contends that over-diversification can hamper returns as much as a lack of diversification. That's why he doesn't invest in mutual funds. It's also why he prefers to make significant investments in just a handful of companies.

Buffett is a firm believer that an investor must first do his or her homework before investing in any security. But after that due deligence process is completed, an investor should feel comfortable enough to dedicate a sizable portion of assets to that stock. They should also feel comfortable in winnowing down their overall investment portfolio to a handful of good companies with excellent growth prospects.Buffett's stance on taking time to properly allocate your funds is furthered with his comment that it's not just about the best company, but how you feel about the company. If the best business you own presents the least financial risk and has the most favorable long-term prospects, why would you put money into your 20th favorite business rather than add money to the top choices?

3. Reduce Portfolio Turnover
Rapidly trading in and out of stocks can potentially make an individual a lot of money, but according to Buffett this trader is actually hampering his or her investment returns. That's because portfolio turnover increases the amount of taxes that must be paid on capital gains and boosts the total amount of commission dollars that must be paid in a given year.The "Oracle" contends that what makes sense in business also makes sense in stocks: An investor should ordinarily hold a small piece of an outstanding business with the same tenacity that an owner would exhibit if he owned all of that business.Investors must think long term. By having that mindset, they can avoid paying huge commission fees and lofty short-term capital gains taxes. They'll also be more apt to ride out any short-term fluctuations in the business, and to ultimately reap the rewards of increased earnings and/or dividends over time.

4. Develop Alternative Benchmarks
While stock prices may be the ultimate barometer of the success or failure of a given investment choice, Buffett does not focus on this metric. Instead, he analyzes and pores over the underlying economics of a given business or group of businesses. If a company is doing what it takes to grow itself on a profitable basis, then the share price will ultimately take care of itself.Successful investors must look at the companies they own and study their true earnings potential. If the fundamentals are solid and the company is enhancing shareholder value by generating consistent bottom-line growth, the share price, in the long term, should reflect that.

5. Learn to Think in Probabilities
Bridge is a card game in which the most successful players are able to judge mathematical probabilities to beat their opponents. Perhaps not surprisingly, Buffett loves and actively plays the game, and he takes the strategies beyond the game into the investing world. Buffett suggests that investors focus on the economics of the companies they own (in other words the underlying businesses), and then try to weigh the probability that certain events will or will not transpire, much like a Bridge player checking the probabilities of his opponents' hands. He adds that by focusing on the economic aspect of the equation and not the stock price, an investor will be more accurate in his or her ability to judge probability.Thinking in probabilities has its advantages. For example, an investor that ponders the probability that a company will report a certain rate of earnings growth over a period of five or 10 years is much more apt to ride out short-term fluctuations in the share price. By extension, this means that his investment returns are likely to be superior and that he will also realize fewer transaction and/or capital gains costs.

6. Recognize the Psychological Aspects of Investing
Very simply, this means that individuals must understand that there is a psychological mindset that the successful investor tends to have. More specifically, the successful investor will focus on probabilities and economic issues and let decisions be ruled by rational, as opposed to emotional, thinking.More than anything, investors' own emotions can be their worst enemy. Buffett contends that the key to overcoming emotions is being able to "retain your belief in the real fundamentals of the business and to not get too concerned about the stock market."Investors should realize that there is a certain psychological mindset that they should have if they want to be successful and try to implement that mindset.

7. Ignore Market Forecasts
There is an old saying that the Dow "climbs a wall of worry". In other words, in spite of the negativity in the marketplace, and those who perpetually contend that a recession is "just around the corner", the markets have fared quite well over time. Therefore, doomsayers should be ignored.On the other side of the coin, there are just as many eternal optimists who argue that the stock market is headed perpetually higher. These should be ignored as well.In all this confusion, Buffett suggests that investors should focus their efforts of isolating and investing in shares that are not currently being accurately valued by the market. The logic here is that as the stock market begins to realize the company's intrinsic value (through higher prices and greater demand), the investor will stand to make a lot of money.

8. Wait for the Fat Pitch
Hagstrom's book uses the model of legendary baseball player Ted Williams as an example of a wise investor. Williams would wait for a specific pitch (in an area of the plate where he knew he had a high probability of making contact with the ball) before swinging. It is said that this discipline enabled Williams to have a higher lifetime batting average than the average player. Buffett, in the same way, suggests that all investors act as if they owned a lifetime decision card with only 20 investment choice punches in it. The logic is that this should prevent them from making mediocre investment choices and hopefully, by extension, enhance the overall returns of their respective portfolios.

Hence, "The Warren Buffett Portfolio" is a timeless book that offers valuable insight into the psychological mindset of the legendary investor Warren Buffett. Of course, if learning how to invest like Warren Buffett were as easy as reading a book, everyone would be rich! But if you take that time and effort to implement some of Buffett's proven strategies, you could be on your way to better stock selection and greater returns.