I recently read the book “Shaking the Money Tree” written by Winthrop Knowlton and John L. Furth in 1972. The book is a guide for any person willing to invest in stock markets.
The book covers US securities markets and performance of sixteen successful companies over the decade of 1960-70. This period is considered as the lost decade, one of the most turbulent times of US markets history. US market index, Dow Jones Industrial Average (DJIA) ended 1964 at 874 and increased to 995 in 1966. It stayed above 900 until 1969 only to plummet to 631 in May 1970, erasing gains of almost one decade and destroying careers, reputation & wealth of many fund managers and investors.
The book highlights the lessons learned from this tumultuous decade and summarizes the characteristics of successful companies that can create long-term wealth for stock market investors.
Lessons from the Lost Decade of Stock Markets:
- Investment environment does not remain stable. Bull runs are going to end and bear will take charge. They are not going to last either.
- Entire Wall Street can be easily swept by euphoria and fear. Crowd is not always right.
- Institutional investors are as prone to investment fashions as anyone else is. Big money is not always the smartest.
- Never put all your cash in stock markets. Accidents do happen.
- Always invest in companies with innovative products & services catering to large & growing markets and in very good financial condition.
How to Choose a Successful Company (The Money Tree):
Authors call the successful companies The Money Tree, which grows year after year. Investors can hang onto them and shake them with pleasant results. The book contains many guidelines for stock market investors to choose Money Trees, which still stand true after more than 40 years since they were written:
1. Stocks must be looked not as assets in the ground, inflation hedges or income producers but as the end result of combined effort of groups of talented human beings. People make or break companies.
2. Do not be frightened away from successful companies simply because they sell at high price to earning ratio (P/E ratio). They have talented managements, are innovators, operate in large markets, have remarkable degree of control on their destinies. They deserve to be sold at high P/E ratio. Do not succumb to “market acrophobia,” a paralysis resulting from the fact that a stock has already made a lot of money for other investors. It would prove a Money Tree to you as well.
3. Invest in companies that innovate. They may introduce superior or unique products or services and surprise like a Xerox copier. They can also go a step further and combine a new product/service into a package not available elsewhere for sale like Avon salespersons going door to door for selling cosmetics. They may even combine a seemingly infinite number of products/services and packages into an all-powerful system like General Motors, which created an ecosystem of cars in every price, range catering to all segments of users.
4. Invest in companies that have staying power in the market place. They serve a large & growing market and are difficult to dislodge. Always keep eye on signs when the industry or company is getting tired.
- Product pricing strategy is the first sign that tells when an industry or company is losing steam. Initially the company has no competition and it charges the most a consumer can pay. Then it lowers the price to broaden the market but still is not afraid of competition. Later comes the stage when many competitors enter the market and everyone lowers the price to increase or hold market share (Authors call this stage: Shareitis). All these companies, then start on their way to become problem companies unless they innovate.
- Next sign is attempts to increase the market share by acquisitions
5. Invest in companies that have financial discipline.
- They manage their costs effectively
- Have good sources of funding. Most preferred source of funding is internal resources. Next best is a mix of internal sources and long-term debt at a low rate. Any company should resort to preferred stock, convertible securities or equity dilution only after exhausting the borrowing power.
6. Invest in companies that show consistent growth & high return. One should measure “quality” of earnings by not a high profit in relation to sales (high profit margin) but by a high return on invested capital.
7. Don’t shy away from investing in problem companies. Problems can be cyclical or permanent. Problems can be related to regulators, labor or environment. It can be imports or obsolescence of product. It can be a bad financial position or poor management. Identify the problem and its probable solution.
- Never invest in a company with too many problem.
- Never invest in a company with serious financial problem
- Never invest in a company with a poor management.
8. Telltale signs of a poor management:
- Aging top executive,
- Overly optimistic forecasts,
- High executive turnover,
- Too many footnotes in financial statement and
- Lack of clear corporate objectives.
9. Organize your portfolio:
- Do not put all your money in stock markets
- Do not try to guess the market. Timing the market is a futile exercise.
- Do not buy too many stocks. Buy 5 to 6 stocks for $100,000 portfolio and 10 to 12 stocks for a larger portfolio.
10. Diversify: It is not only about the number of stocks in your portfolio but also about time and psychological diversification. Time diversification means you should keep a mix of stocks with short-term investment horizon (6 months) as well as others with long-term investment horizon (3-5 years). Psychological diversification means that you should keep a mix of popular stocks and unpopular stocks in the portfolio.
I have different views than the authors on two of these principles:
- about advising investors for keeping stocks with expectations of quick return in their portfolio. I believe that stock investments should always be done with long-term horizon. (Read: Trading Diary of a Value Investor).
- about advising investors to find growth stocks and invest in them despite high P/E ratios. However, I believe in investing in fundamentally strong stocks selling at low P/E ratios. (Read: How to earn High Returns at Low Risk – Invest in Low P/E Stocks)
Nevertheless, “Shaking the Money Tree” has highlighted some of the principles of investing that have stood the test of time. Even almost after half a century later, we see that the markets and investors behave the same. It’s like a fixed cycle of euphoria & fear which repeats itself as bulls & bears again and again. What we need as investors, to tide over these cycles, is to buy some Money Trees, keep clinging to them for years and shaking them time & again. The fruits, which fall over time, would be very sweet.
You may read about my process of stock selection here.
You may know about my checklist for buying stocks here.
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Have you read the book “Shaking the Money Tree”? How did you find it? Do you agree with the investing principles highlighted in the book? Share your thoughts with the author and the readers.You may provide your inputs in the comments below or contact me here.
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Disclosure: The article contains affiliate links of the book.