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New book offers 'wealth of insight' on investing's buy side

Author Robin Speziale has managed his own portfolio for about seven years.

A just-published book, Market Masters: Proven Investing Strategies You Can Apply (ECW Press), rolls out a smorgasbord of interviews with 28 of Canada's top investors. At 600 pages, it delivers the goods. Or, as James O'Shaughnessy, author of What Works on Wall Street, notes on the book's back cover: "[It] provides a wealth of insight into what it takes to succeed as an investor."

Author Robin Speziale is only 28 years old, but he has soaked up a lot of investing knowledge since winning a national stock-picking contest in high school. Prior to Market Masters, he did the research for two self-published investing books. And for about seven years, he has managed his own portfolio (his approach was outlined in a recent Me and My Money column).

As for Market Masters, one concern might be with the selection of the featured investors. I'm not sure whether some of them fit the mould. Perhaps more qualified investors, such as Prem Watsa of Fairfax Financial Holdings Ltd., would have been better to include (if not by interview, then perhaps through a summary of written material from them and others). Nevertheless, there was still plenty of informative content in the book. Let's look at some highlights.

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Barry Schwartz, a partner at Baskin Wealth Management, likes buying into companies that have ample free cash flow over the business cycle. "If you are shooting out all that cash, something explosive is going to happen," he remarks. "Either the company's going to buy back its stock or make an acquisition or reduce debt or somebody's going to snap it up."

A case in point is his purchase of shares in Shoppers Drug Mart Corp. several years ago, after they had been pummelled by competition and government restrictions on generic drugs. "Loblaws … essentially said, 'We want the free cash flow,'" Mr. Schwartz recounts. The takeover price was about 50-per-cent premium to the market.

Michael Sprung, founder and president of Sprung Investment Management, looks for companies that are not earning a high return on equity but have a history of achieving better readings "given the business cycle or longer time frame." An important step is DuPont analysis to break down the return-on-equity ratio (profit-to-equity) into its component ratios of profit margin (profit-to-sales), asset efficiency (sales-to-assets) and financial leverage (assets-to-equity).

This helps avoid value traps. Of note, a high return on equity is not necessarily good if it's based on a high financial leverage. Moreover, deteriorating profit margins and/or rising financial leverage are "often a sign that a value trap is going to develop."

I'm trying to buy 80 cents for 40 cents," declares Francis Chou, the money manager behind the Chou Associates Fund. But to determine a company's intrinsic value, one has to be able to evaluate the inventories, revenues, distribution channels and many other aspects of a business – just like a businessman considering the purchase of the company.

For example, Mr. Chou invested in Sears Holdings Corp. because he judged that its real estate was worth more than what the stock was trading at. Also, he invested in BlackBerry Ltd. because "their patents were worth so much more than the stock."

Much patience and conviction is required. Some years ago, Mr. Chou bought Overstock.com, at $14, after estimating its value at $25. A drop to $7 ensued, where more was bought. A year or two later, the stock climbed to $30. Most of his holding was unloaded into the uptrend.

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David Burrows, who manages money for Barometer Capital Management Inc., has a top-down, thematic approach that seeks to ride asset classes being revalued upward. Mr. Burrows believes that "80 per cent of returns come from the impact of capital inflows," as revealed through market breadth indicators (the percentage of stocks rising within the asset class).

Up to 2012, the favoured asset class was commodity stocks. Now, Mr. Burrows sees the start of a secular bull market in consumer-led developed economies, particularly the U.S. "Low inflation and falling commodity prices are great for a consumer economy," he asserts. The companies he likes include Starbucks Corp. and several in the U.S. home-improvement sector, such as Home Depot Inc. and Sherwin-Williams Co. The health care and technology sectors should also participate.

Larry MacDonald is an economist, author and financial writer who blogs at larrymacdonald.serveblog.net/home.

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