Discounted Cash Flows By Brendan Mathews DCF The

Discounted Cash Flows By Brendan Mathews

DCF: The best and most fundamental of all investing tools. Does your favorite stockpurchasing yardstick … Objectify your decisions? Protect you from speculative crazes? Help you outsmart Wall Street from your dorm room? • DCF allows you combine and quantify all of your research and knowledge about a company. • DCF allows you to compare the market’s expectations to reality

PANIC! RALLY! PANIC! GREED! FEAR! RALLY! PANIC! RALLY! GREED! FEAR! PANIC! RALLY! PANIC!

Markets are Illogical The action of the market is determined by the millions of individuals constantly buying and selling. As a group, these individuals don’t act reasonably. In any given day, stock prices plummet or soar based on rumors, emotions and whims.

Dangerous Swings Popular stocks get bid into the stratosphere simply because they’re popular; down-trodden issues are stomped for being down-trodden. Herd mentality controls the market, and as part of the herd you’re likely to find yourself buying high and selling low. Unless you have the time, training and temperament to think independently, the market is a very dangerous place.

…. . the Solution? ? ? Intrinsic Value investing: – Benjamin Graham – Warren Buffet – Bill Miller.

Benjamin Graham • In the short run, the market is a voting machine. In a time period of less than 5 -10 years, the market assigns prices based on the emotional whims of fickle investors. • In the long run, the market is a weighing machine. In a time period of more than 5 -10, the market assigns prices objectively based on a company’s earnings.

WARREN BUFFET • Don’t search for the greater fool because eventually you’ll find yourself to be the greatest fool. • A company is worth its future streams of revenue adjusted to present value.

DCF and Present Value • Based on the common sense notion that a dollar in the future is worth less than a dollar today – money has an opportunity cost. • PV = FV / (1+i)n where: – – PV = present value FV = future value i = interest rate N = years

Coupon Bond • EXAMPLE: Five year bond, face value of $1000, yearly coupon payment of $75 • PV = 75/(1+. 10)1 + 75/(1+. 10)2 + 75/(1+. 10)3 + 75/(1+. 10)4 + 75/(1+. 10)5 + 1000/(1+. 10)5 • 68. 18 + 61. 98 + 56. 34 + 51. 22 + 46. 59 + 620. 92 = 905. 23

Three Easy Steps 1) Estimate future earnings 2) Pick a discount rate 3) Adjust future earnings to present value

“All intelligent investing is value investing. ” – Charlie Munger

QUESTIONS?