The Gutman Group

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If you are reading this then it is more than likely that you’ve already seen my portfolio over at The BAG Fund along with the rather (ridiculously) high returns and thought to yourself, “How does this guy do it?”

One would assume that if a person has managed to come up with such a stock-picking system that allows him to bank triple digit returns over a short period of time (around a year) that he would guard this secret at all costs, complete with automated machine gun turrets and land mines. It turns out that your assumption would be horribly incorrect.

Luckily for you, I believe in complete transparency and simply would not feel right bragging about amassing such amazing returns while having nothing to backup my claims – hence this article!

How Mr. Moneybags does it

My stock-picking strategy is two pronged, the first prong is what I refer to as “Qualitative Criteria” with the second being “Quantitative Criteria”.  Qualitative criteria refers to qualities in a stock, this is criteria that cannot be measured by numbers but by attributes such as a good product or top-notch management. Quantity on the other hand can be measured using numbers, charts and other tangible facts such as revenue figures and cash in the bank.

For instance, when you are choosing a girlfriend you would base your decision on qualitative criteria (such as her personality) and quantitative criteria (such as her bra size). You can’t have one without the other; a hot girl who is as interesting as a log will only get you so far and I doubt you will even go near one that looks akin to an Orca whale no matter how great her personality may be. You want the whole package. Stocks work the exact same way, just in a slightly larger scope.

Let’s go further into detail as to what I mean when I am referring to Qualitative and Quantitative criteria.

Qualitative Criteria

As I said earlier, qualitative criteria are based on qualities. Hard to believe, right? Well, it’s true.

What types of qualities can a stock have? Well, first of all we have to remember that a stock represents a company and a company represents the people that make it up so first and foremost a company can have excellent management or it can have management that is as useful as Nicolas Cage’s agent.

So, what comes from excellent management? Great management will produce great products which will go on to make great money (which is where the quantitative criteria come in). Great management will hire great employees which will help build a great company which produces products, services and an image that is loved by the general public who will be more than happy to keep buying the company’s products or services.

On the other hand, if a company has horrible management, it will produce horrible products which will lose the company money. They will hire equally bad employees and produce even worse products, services and will result in a lousy image which will be associated with rotten eggs and baby seal killers.

So in conclusion: management is important.

Here are the main factors that I look for in my companies (if you would take a look at the stocks in The BAG Fund you would see that each stock possesses almost all of these characteristics):

1. Consumer Monopoly: When you think of soda, you think of Coca-Cola. When you think of MP3 players, you think of iPods (and Apple).  When you think fast food, you think McDonalds. When you think of computers, you think of Windows (and Microsoft). You get the point. Consumer monopolies are where the money’s at.

2. Strong Brand: Chances are, if your product has a consumer monopoly, it’s because it has a strong brand.

3. Industry Leader: If you’re in second place, you might as well be in last place. I only choose companies that are destroying their competition or ones that are well on their way to getting there,

4. Innovative: In today’s world, you are going to wither away and die if you’re not constantly reinventing yourself, your products and your business. People get tired of things quickly and have an endless appetite of expectations – and if you don’t fulfill these expectations then someone else will.

5. Great Products: A company needs to make products or services that will be just as necessary in ten years as they are today, otherwise it’s just not a good product – otherwise it’s going to have to make up for it with a damn good amount of innovation.

6. Fantastic Management: The people that run a company determine whether it is going to go on to become a great success or a horrible failure, it’s up to you to decide which one you’d like to go with.

Quantitative Criteria

When I go into quantitative criteria is usually when most peoples’ eyes begin to glaze over and they prepare to hang themselves out of sheer boredom or plain fear from all the numbers and cold hard facts. See, qualitative criteria can be interpreted in many different ways, quantitative criteria on the other hand can’t be interpreted in nearly as many ways.

It’s from the results of the qualitative criteria that produce the quantitative criteria, since you can’t really have any money if you have no one making it.  Just like how unless you have a strong will and determination, you will never lose those ten pounds or will otherwise have multiple heart attacks and will die an obesity-related death.

So, what type of measurable qualities do I look for in a company? (You can find all of the information I am going to refer to here either in the Income Statement or the Balance Sheet)

1. Small Market Capitalization: I explain market capitalization quite excellently in this here article about reading an income statement, which is definitely something you are going to want to be able to do anyway. The reason I like small companies is because I like potential growth, instead of investing in the Apples and the Microsoft’s of the world, I would rather invest in the companies that are destined to grow into them – along with their stock that goes from $2 to over $200 (see: Apple).

2. High Growth: If a company is doing everything right and has a killer product, there’s absolutely no reason for it not to have killer growth as more and more people find out about it. High growth also equals high returns (typically). By the way, when I refer to growth I am referring to revenues and earnings growing, not debt, assets or even stock price.

3. Little-to-no Debt: Debt slows everything down and makes everything all fuzzy – avoid it at all costs. I prefer my companies to have Debt-to-Equity ratios of a maximum of 0.15 (15% of equity – which is assets minus liabilities, the stuff that the company actually owns) although I am willing to make exceptions if the company’s growth makes up for it. Although, watch out for the companies that finance their growth through taking on debt – once debt dries up so will the company along with its stock price and all your money.

4. Huge cash reserves: Personally, I feel all warm and fuzzy and safe when a company has enough cash to pay off its liabilities twice over, this way if something goes horribly wrong or when an opportunity comes along that is hard to resist, your company is prepared.

5. Industry-leading operating and profit margins: You want a company that is significantly more efficient with managing its money than its competitors, why? Because then it’s making more money than everyone else! It’s quite simple really. Remember, operating and profit margins vary from industry to industry, so by setting one particular number and using it as a base when comparing a tire maker versus a pet medicine distributor isn’t going to be too smart.

6. High insider ownership: Insider ownership is when insiders of the company own shares of the actual company – so, one would assume that if you own stock in the company then you will do everything you can in order to make the price per share of the stock rise.

Putting it all together

If you find a company that has all twelve of these criteria then it is very likely that you are going to be a very rich person sometime in the inevitable future – perhaps maybe even as rich as me. Actually, that’s impossible, no one can be as rich as me.

Oh and as for my holding period, the longer the better. If you find a good stock, there’s no reason not to own it forever unless it stops being a good stock or if something better comes along.

So, what are you waiting for? Go get rich!

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