In Plato‘s Republic, protagonist Socrates takes the Delphic aphorism “Know Thyself“ as his personal motto.
It’s a great motto … especially for investors.
As a market veteran of many years, I can tell you that this is one of the biggest weaknesses most investors have.
They don‘t know themselves …
I watch as folks take losses and miss out on profits – mistakes they could have easily avoided if they’d only taken the time to know their investing personalities just a little bit better.
So today I want to demonstrate how to transform yourself into the “Socrates of High-Tech Investing.”
And the profits you’ll reap will make it well worth your time.
It Ain’t No Rorschach Test
The whole “Know Thyself” philosophy is actually the basis of modern psychotherapy. In that realm, knowing thyself can involve quite a bit of very sophisticated analysis and testing.
But we’re not talking about “ink-blot tests” here.
Indeed, when it comes to investing, knowing thyself can be a pretty straightforward endeavor.
Here, in fact, I’ve narrowed this effort down to the five main tech-investing “types” or personalities. I’ve related them to my Five Tech-Wealth Rules. And once you’ve identified your type, I’ve also showed you how to avoid the pitfalls that are inherent with your particular investing personality.
When we’re done here, you’ll “know thyself.” And you’ll be ready to benefit.
Tech Investor Personality No. 1: The Race Car Driver
The Race Car Driver is someone who wants to profit from companies with above-average growth in sales, earnings and cash flow. For this growth-investor type, those three financial categories are much more important than the stock’s sticker price.
If you’re a Race-Car-Driver investor, you’re more than willing to pay a premium for growth as measured by key metrics. For instance, you probably won’t mind paying 40 times forward earnings when the overall market trades at just 15 times next year’s profits.
For this type of growth investor, paying five times book value (P/BV) or sales (P/S) is just fine – even though the general “rule of thumb” is a maximum of two times. The reason: They’re looking for firms that grow their earnings by 25% to 40% a year. With growth like that, a company’s stock could double in as little as 18 months.
Amazon.com Inc. (NasdaqGS: AMZN) is a classic growth stock. Trading at $375, the stock has gained 435% over the past five years. The company has a 20% increase in annual sales, but miniscule operating margins of 1%, which is why the stock is trading at 89 times forward earnings.
The Know-Thyself Risk: With a stock like this, the danger is quite clear: If they miss the expected earnings target by as little as a penny, the share price will get a “haircut.”
A way to manage that risk is follow my Tech Wealth Rule No. 4: Focus on Growth. When I told you about my rules last year, I said that focusing on growth means you have to sleuth out firms that have strong fundamentals.
Good candidates are companies that have demonstrated consistent double-digit sales growth. That way, when the company’s breakthrough technology finally achieves its potential, all that cash flow will fall to the bottom line.
Tech Investor Personality No. 2: The Banker
The Banker values income and is more concerned about the size and quality of a company’s dividend than on the firm’s earnings growth.
While this may seem contradictory for a “tech investor,” it’s become surprisingly prevalent since the bear-market bottom of early 2009. There’s a growing sense among investors that – in a low-interest-rate environment like this one – getting a steady dividend stream is a great way to bring in extra cash and increase the stock’s overall return.
And consider this: Over the last several years, the tech sector has steadily courted this type of investor by either introducing a dividend or by boosting the “payout ratio” on an existing dividend program.
A big reason for this is that tech firms can generate huge amounts of cash. U.S. firms today hold a combined $1.5 trillion in cash and equivalents, and tech accounts for a whopping 40% of the total.
Microsoft Inc. (NasdaqGS: MSFT) is a classic income-oriented tech stock. With a current yield of 3%, the stock has had four dividend increases in five years. Over the period, the stock itself had gains of 121% but when you add in the value of the dividends that rises to at least 143%.
The Know-Thyself Risk: If you’re a Banker, the biggest concern is that, if you tie up most of your capital in these “Steady Eddie” stocks, your returns may fall short of what you need to save to live on.
A way to manage that risk is to take a balanced approach to building a tech portfolio, getting an overall blend of both growth and income.
For this, you can use my Tech Wealth Rule No. 5: Target Stocks That Can Double Your Money. These are companies that are growing earnings at high rates, but that also have the ability to sustain their operations and reward investors with cash.
If you value both growth and income, keep an eye out for stocks like Honeywell International Inc. (NYSE: HON), which we talked about on March 14. This is a stock that offers double-digit earnings growth along with a 1.9% yield and a history of dividend increases.
Tech Investor Personality No. 3: The Power Player
If you’re a Power Player, you’re a “momentum” investor who’s looking for share-price action. You tend to focus on stocks that are on the move, often without regard to any underlying fundamentals favoring the company or its industry.
At its most basic, this approach appeals to investors who eschew “brand loyalty.” All that matters is that you’re invested in a stock, and that stock is headed up. You’re looking for “fast-movers” capable of providing a quick profit.
Power Players are far more likely to go long on the way up but then turn right around and short the stock once it tops out.
Small-cap Plug Power Inc. (NasdaqCM: PLUG) exemplifies “momentum investing.” The company is losing money hand over fist, has negative cash flow and trades at 130 times next year’s earnings. But the stock zoomed from $3.63 on Feb. 21 all the way to $11.71 on March 10 – and then collapsed when the “momentum” faltered.
The Know-Thyself Risk: To be a successful Power Player, you must be able to quickly and unemotionally pull the trigger quickly at the first hint of trouble. But you have to take care that you don’t engage in so much trading that your gains are eaten up by transaction costs.
This is where Tech Wealth Rule No. 3: Ride the Unstoppable Trends comes into play. To make these plays profitable over the long haul, you must differentiate between a stock that’s benefitting from a temporary surge and one that’s getting a run thanks to meaningful catalysts like a “disruptive” new product.
Tech Investing Personality No. 4: The Opportunist
The Opportunist is a personality type I know well. During the summer, I sail two times a month with a group of tech-investing friends of mine.
One of them is Bob, a retired engineer. It’s not unusual in a single two-hour sail for us to discuss turnaround stocks, initial public offerings (IPOs), dividend plays, and small-cap biotech firms that may report progress on blockbuster drugs.
So, he’s always on the lookout for a great opportunity whether that’s growth, income, momentum, IPOs, workouts, or spinoffs – as long as there is a strong investment case.
In the past we’ve actually discussed several opportunistic plays here at Strategic Tech Investor. Most of them fall in the category of “special-situation” plays, including corporate turnarounds.
Adept Technology Inc. (NasdaqCM: ADEP) is an opportunistic play on a small-cap turnaround in the robotics industry. Since I first told you about this stock on March 19, 2013, Adept is up 487%.
The Know-Thyself Risk: Opportunists must remember that there are many “moving parts” to investments like this. So if you don’t have the time and discipline to review your holdings several times a day – as Bob does – you run a very good risk of being blind-sided.
If you want to be an all-around player, you can mitigate the risk by following my Tech Wealth Rule No. 1: Great Companies Have Great Operations. By focusing on companies that have proven leadership they are more likely to be innovative and nimble and thus able to execute their vision to deliver wealth-building opportunities.
Tech Investing Personality No. 5: Good Time Charlie
This type of investor likes to be “in the know” at all times and jump on the latest trends. Good Time Charlies can chew up a lot of time and energy trying to stay abreast of investment news from newspapers, blogs, television and the Internet.
These are people who take a lot of pride in picking the right stock at the right time. But just like teens who swoon over the flavor-of-the-month pop stars, Good Time Charlies focus heavily on the stock du jour.
The Know-Thyself Risk: The downside of being a Good Time Charlie is when a stock or the whole market heads down, they take it personally – or blame the tipster. They often sell too early because they can’t stomach the dips, or the volatility.
Because they really only love big rallies, these investors tend to “gut out” the sort of choppy, sideways markets we’ve experienced recently. Thus, they often miss great buying opportunities.
Take the case of Apple Inc. (NasdaqGS: AAPL). As long as the company seemed invincible, it was an easy stock to love. But the minute it hit a bumpy patch in mid-2012, investors dumped it en masse.
Apple has a PEG (Price/Earnings to Growth Rate) Ratio of 0.59, or 59% of its “fair value.” That means Apple remains a screaming buy at $536 a share. So, where are the Good Time Charlies now?
This is where Tech Wealth Rule No. 2: Separate the Signal From the Noise comes in handy. Rather than be overwhelmed by the constant buzz, Good Time Charlies should ignore the hype and discern whether the touted stock has the rock-solid fundamentals needed to generate strong returns.
Bringing It All Together
Let me be clear on one thing. There is no right or wrong approach here. Any investment strategy can work well – and pay off big – as long as you are consistent in its application … and are honest with yourself.
By that, I mean you have to be honest with yourself about your true goals and motivations. And it’s even more important to be honest with yourself about your weaknesses or flaws. It’s there that “knowing thyself” can pay off the most.
So pick an approach that suits your sentiment, and run with it.
Do that and you’ll remember this as the day that you really came to terms with yourself – and put yourself on a pathway to wealth.
See you later this week.
[Editor‘s Note: What type of Tech Personality are you? Do you fall into any of the categories that Michael has listed here today? Or are you a different personality entirely. Let us know below.]