Navigating the financial markets can be difficult in this volatile environment we’ve experienced in recent years, which is why it is more important than ever to have a financial dashboard to ensure you do not drive off a cliff. If investors do not have the time or focus to drive their financial future, then perhaps for the safety of themselves and others, they may consider riding a bus or hiring a chauffeur. For those committed to handling their own finances, the road may become rocky, so here are some important factors to monitor on your financial dashboard:
1) Fundamental Direction: Before you decide on an investment destination, it is important to know whether trends are accelerating (speeding up) or deteriorating (slowing down) – see also Forecasting – Trend Analysis. There is a broadly diversified global menu of investment options and asset classes, and if your hands are on the wheel, you need to determine which roads (investments) are providing the best driving conditions. If your investments are out of control, you may get lost or end up in a ditch.
How Warren Buffett Uses Discount Rates To Value Stocks
Warren Buffett has never detailed the process he uses to value the businesses he acquires for Berkshire Hathaway. However, over the years, he has provided some limited insight into his methods. Q3 2020 hedge fund letters, conferences and more Based on these comments, it is widely assumed that Buffett uses a discount cash flow model Read More
2) Are You Going the Speed limit? Nobody wants to get a costly speeding ticket, therefore assessing valuation metrics (i.e., risk) on your dashboard is a requirement. If you are speeding along the highway at a 100 miles per hour in an expensive stock (e.g., trading at a 50x+ Price/Earnings multiple), then there is little room for error. When traveling that fast the price of a speeding ticket becomes irrelevant, because hitting a pothole at those speeds (valuation) can be much more costly to your portfolio…irreparable damage.
3) Temperature Outside: There’s a huge difference between driving in the icy-cold snow and 100 degree heat. Each environment provides its own challenges. The same principle applies to the financial markets. On occasion, sentiment can become red hot, forcing heightened caution, whereas during other periods, chilling fear can scare everyone else off the roads, leaving clear sailing ahead. Correctly understanding the emotional temperature of financial markets is paramount.
4) Optimal Tire Pressure: Low pressure or bald tires can lead to treacherous driving conditions. A company with healthy cash flow generation relative to its market capitalization can make your investment ride a lot more stable (see alsoCash Flow Register). Remember, dividends and share buybacks are not generated out of thin air – they are a byproduct of healthy and stable cash flows. Earnings on the other hand are an accounting measurement that can easily be manipulated and distorted (see also Accounting Tricks Up Corporate Sleeves).
5) Driver Skill Level: People generally believe they are better than average drivers, however statistics tell a different and more truthful story. By definition, half of all drivers must be below average, but overconfidence skews investors’ self perception. If you are going to put your life’s retirement assets into a specific manager, you might as well select seasoned managers or companies with proven track records. On the other hand, if you are going to do the driving yourself, develop a systematic, disciplined process that can accommodate your shortcomings and also account for risk control.
Many investors drive blindly without relying on a dashboard. In the investment world, visibility is not very clear. Often, weather conditions in the financial markets become rainy, dark, and/or foggy. If you don’t want your portfolio to crash, it makes sense to build a reliable investment dashboard to navigate through the hazardous financial road conditions.