Most of my listeners have been buying and selling stocks for many years now. And while each of you may have your preferred techniques to make buying and selling decisions, I like from time to time, to share some of my insights on the most important factors I consider when valuing a stock for purchase.

Cash is King

Now, at the end of the day, the value of a company really just boils down to the amount of money it generates every year. There’s nothing better for a business than cold hard cash – free and clear after all expenses, taxes and other obligations have been paid off. And for successful companies, generating cash is second nature – they almost run on auto-pilot with great products and services that customers are willing to pay for time and again – industry leading cash producers that also turn out to be goldmines for investors.

Look for companies that are best at generating cash.

There’s another reason why I like to focus on cash – simply because there’s nothing hidden with cash but there could be a lot hidden under the Net Profit or Earnings per Share number with creative accounting shenanigans and rogue CEOs. Arcane accounting rules don’t always give you as realistic a picture as cash does. Free cash flow, for example, tells you how much cash is left for dividends, stock buybacks and other things. Kings of cash also often pay out large dividends, so that’s an added kicker of owning cash rich stocks. And when I use free cash flow as metric, companies such as ExxonMobil, Microsoft, Pfizer, GE and Chevron jump out as kings of cash flow.

But kings can also be toppled. So in addition to watching cash flow, keep your pulse on the company’s fundamental line of business and how it’s keeping up with the times.

Enterprise Value and Free Cash Flow Ratio

Now here’s another metric that I think is pretty worthwhile in helping you with stock buying decisions, and that is the ratio of the Enterprise Value to Free Cash Flow.

Let me start by simply explaining these terms. The Enterprise Value is simply the entire value of a company adding up its stock value plus debt, less Cash.

Free Cash Flow is the Cash the company generates every year through its routine operations – cash from the products or services they sell, less the cash paid for expenses such as raw material, salaries, rent, utilities and taxes.

The Ratio

All you do is divide the Enterprise Value by the Free Cash Flow and look for companies where the ratio is low. Why? Because you want to buy a company whose shares are undervalued and which carries little or no debt. A company with an Enterprise Value in the numerator which throws out humongous amounts of cash (the denominator) means a high amount of cash is generated relative to the size of the whole corporation. Whew! Just think smaller is better. While this may seem daunting your first go around, it gets pretty simple once you get the hang of it.

There are many easy to read books on this subject, one of which I discussed a few weeks ago, written by Mary Buffett and David Clark “The Warren Buffett Stock Portfolio”

This is a very good place to start.

The most important message here is that investing is not about numbers jumping around on your screen. And don’t let anyone convince you otherwise. Smart investing means understanding the companies you own as living, breathing entities that can create wealth for you over the long haul or destroy your capital if you don’t know what you’re doing.

So, its 2012 try something new and push your investment research boundaries… and remember I would not have shared this with you if it wasn’t pretty easy to do in the first place.

Remember the thrill when you made your first trade and the excitement with which you followed it UP? Or, hopefully not, the disappointment as you followed it DOWN? And then, how, through the first few years of ups and downs – which, by the way, have happened to even the best of investors – you slowly learned to rein-in your emotions and dissociate them from the market. It’s what I call seasoning… think of it as experiencing all of the seasons of the stock market, directly in your own portfolio, over a span on time, and it wizens you to the market over time. Well, that’s what I broadly plan to touch on today – that success in investing is more than looking at prices jumping around on your computer monitor, more than a sexy story or puff piece, but a skill that is developed over time and by avoiding folly. 

I’ll touch on three topics.

 Even the experts miss corrections and crashes 

Consider the anticipation of a market crash, that great destroyer of portfolios. Well, I recently watched an interview of Yale economist Robert Shiller where he said that experts have always missed big events like market crashes. Think about it… in hindsight, the housing bubble and the crash in 2008 seem so obvious, yet most experts missed it despite loudly flashing warning signs – easy-to-get loans, zero down financing, blatant overbuilding and unbelievable gains in home prices. 

Shiller, for one, did predict both, the dot-com and the housing crashes, where he was influenced by behavioral economics, a topic I have covered many times on past shows. Shiller believes that nowadays, there is too much focus on analysis and statistics but the problem is that world changes can’t always be easily quantified or accurately built into a model. 

But let’s face it – no one wants to listen to the guys who talk about the risks of getting overly drunk when the party is raging and no one likes the guy who tells us to stay away from the punch bowl – so for every naysayer, the financial media typically trot out ten who encourage us to party on. And, surprisingly for me, this was not too long after the dot-com crash in 2001 – so I have always wondered why even the experts don’t get it – these guys who’ve been steeped in the market for decades and have seen bubbles come and burst not once but several times. So I’d urge you to heed the signs of an overheated market and prepare yourself to anticipate down cycles and, more specifically, those crashes that we seem to get with increasing frequency and magnitude nowadays. 

To give this a geological analogy, the frequency and magnitude of portfolio-destroying stock market quakes appears to be growing, perhaps because of derivatives, high use of leverage, computer-based trading or whatever – so you’ve got to prepare yourself even more to survive them. 

Don’t throw good money after bad 

Now, another trap that investors fall into is throwing good money after bad. Here’s how it happens: say you bought a stock at $30 and it’s now down to $10. You’re probably chagrined by your loss and eager to at least break even… so the thought that naturally comes to most folks is a degree of over-confidence in their own abilities where they believe that they’d done their research really well and that the stock’s likely a bargain at $10. But remember, your natural logic only holds true if the underlying business continues to be healthy and a drop in shares is merely the empathetic result of a broader market collapse, where even solid stocks get hammered. And, in fact, I personally know of many who continued to buy Lehman Brothers shares as it was collapsing… and, of course, lost lots of money in the process when Lehman quickly went bankrupt and its shares became worthless – simply because the underlying fundamentals of Lehman had collapsed. So when the market presents an obvious buying opportunity on even shares that you think you know like the back of your hand, be truly smart and have the discipline to re-do your research in an unbiased manner – dig even deeper when shares fall and only buy if those shares are a bargain.  And make sure you understand the financial of the company you are going to own. In the case of Lehman, it was practically impossible to see what they were doing under the hood. 

Additionally, investors commonly do two things when shares drop significantly from where they bought them. They either abandon that stock all together (which is such a waste) or they double-down and buy more without doing their research. And my advice to you is… do your research and then make an informed decision. 

Be cautious of narcissistic CEOs 

Another thing you learn with time is how to sieve good management from bad. It’s always a good idea to thoroughly examine the man at the helm – the company’s CEO. There happens to be research by two professors from Penn State which shows that narcissistic CEOs are value destroyers. 

The research looked at subtle tell-tale signs like the size of the CEO’s picture in the annual report, (I’m not kidding about this) the number of times a CEO was mentioned in a press release, how often the CEO uses the first-person singular “I” in public comments, the gap between the CEO’s pay and the second highest paid employee, the lack of a succession plan, 

They found that narcissistic CEOs spent more money than average on questionable pet projects and made acquisitions at significant premiums, and that such companies displayed a high degree of volatility in quarterly financial results with gravity defying performance inevitably followed by gravity embracing collapses. 

For example, if you look at Microsoft’s acquisitions under its current CEO, Steve Ballmer, you may gain a few insights into why its stock has essentially gone nowhere…

-          its 2007 acquisition of aQuantive for $6.6 billion where, sometime later,  a big chunk of the acquired company was later sold for just $530 million

-          the 2008 acquisition of Greenfield Online, only to later sell the main asset for under $100 million

-          its $1.2 billion acquisition of  FAST Search & Transfer at a 42% premium only to have FAST’s offices raided for fraud investigations 10 months later, or

-          its 2011 acquisition of Skype for $8.5 billion.. we’ll see how that goes but the track record isn’t so great. 

On the flip side, if you look at Steve Jobs and Apple, Jobs was rarely on conference calls, did not insist on being in press releases, had a successor in place and, very importantly, surrounded himself with smart people.

 My hope is the thoughts I just shared with you will encourage you to now look at CEO quality as you evaluate stocks to buy.

So be cautious with your investments – be very cautious, and heed the three points I just spoke about to better weather potential quakes in your portfolio.

So you see it’s a lot more than trying to chase numbers jumping around your screen. You have to know the fundamentals. There is no substitute for knowing what you own.

Someone recently forwarded an article to me. The article’s titled “Finding an Honest Financial Advisor” and it’s written by Prof. Kent Smetters of theWhartonSchoolat theUniversityofPennsylvania, a top-notch business school with Ivy-league bearings. So, I thought I’d share Prof. Smetters wisdom with you as we all start off this new year of investing.

He says there are three key “insider” questions that individuals should ask financial advisors as part of the screening and selection process: the interview process, if you will. These questions are:

1. Do you accept commissions of any form? Prof. Smetters says (and I agree), the best answer is usually “no.” Simply because you don’t want to walk into a showroom and walk out with a product that gives the sales guy the biggest commission even if what he sells you isn’t right for you, or isn’t the best quality, or doesn’t offer the best value for money. Because I want you to know, if you didn’t already, that financial advisors are often paid commissions to promote financial products: typically investments, insurance, annuities and loans. And companies that offer the crappiest plans for consumers typically reward financial advisors the most for offloading this junk on to you. Also, when someone says they are “independent,” don’t confuse their independence with lack of bias to promote commission-rich products.

Now, as Prof. Smetters says (and I again concur), there indeed are some very good advisors who work on commission and do their best to give you unbiased advice, but they are more the exception than the rule. And ultimately, any commission paid to a financial advisor comes out of profits you provide to the company: as sales loads, management charges, surrender penalties or back-end charges: so you are the one holding the bag on this too.

And to give commissions a $ perspective, Prof. Smetters cites an example where a typical investor loses over $95,000 to commissions over a 35-year IRA investing cycle: so we are talking real money here. So even though a small percent amount in commissions may not sound so bad, it certainly adds up and is that much less that is available for your retirement.

2. Are you “fee based” or “fee only?” As Prof. Smetters says, the best answer is “fee only.” Because fee-only advisors only collect fees to dish out advice and receive no commissions, whereas fee-based advisors collect fees to advise you as well as commissions on products you sign up for. Thankfully for most investors, our federal government is on it and is pushing for rules that increase transparency for individual investors.

Now, in my opinion, you should always ask your advisor for something called an ADV Part 2: which is a form where advisors have to, by law, check a box if they operate on commission: so this way you are doubly sure that your advisor is being straight with you. Where an advisor refuses to share his ADV-2 with you, just strike him off your shortlist.

And remember: this is YOUR money.  You are completely justified to ask your financial advisor for a complete breakdown of the components of your plan that clearly show fees, commissions, investment amounts, etc. And the good news is, by your doing so, your financial advisor may be willing to lower costs if you think they are excessive.  So here’s your opportunity to bargain a little.

3. At all points in time, will you serve me as a fiduciary? Fiduciary basically is a legal responsibility that your advisor has to always act in your best interests. Fee-only advisors are required to be fiduciaries at all times, whereas fee-based advisors are not required to act in your best interests but are held to the lower standard of recommending investments that are suitable to your needs: and the latter, of course, opens up a lot of room for maneuvering in ways that seldom benefit you.

So, I’d even urge you to have your financial advisor document each investment in writing and check one of two boxes:  fiduciary or suitability. If you’re being sold a suitable product, always ask if there’s one that better suits your needs. Moreover, you can always seek a second opinion on specific investments. And fortunately, with the Internet, it’s easy to search for unbiased opinions and common gotchas diligently documented by investors who have been burned and are outraged and share all their learning’s so you don’t have to suffer their fate.

So in conclusion, as I always say, it’s your money: you have the right to ask all the questions you want before committing to an investment. No one can force you to buy an investment, and if something sounds too good to be true but you only get the offer if you act now, your best bet is to walk away. Never rush into investments you’re not comfortable with, and never shy away from asking your advisor tough questions each and every time.  Because he will then save his corny investments for those who don’t quite question him. And by asking him repeatedly, you’ll only make sure he serves your interests well. Remember, he’s your financial advisor, not your best friend; so push him hard, get the best deal and always save your money and invest it in a manner that’s best for you.

In 1993, Sir John Templeton wrote an article that first appeared in the magazine “World Monitor: The Christian Science Monitor Monthly”, entitled “16 Rules for Investment Success”. Here is Sir John’s list, with some commentary about each point and how it relates to what we are experiencing in the financial world today:

1. Invest for maximum total real return

When Sir John says “real” return, two things come to mind: taxes and inflation. On the first front, we have traders, who jump in and out of securities without any regard for the eventual taxes to be paid; a simple Excel spreadsheet calculation shows that a trader who earns 20% nominal returns per annum (and pays 35% on their profits) ends a 10 year period with the same after tax profit as someone who generated returns of less than 15% per annum, but sent Uncle Sam just one check (at 15% for long term capital gains) in year 10. The same can be said for inflation; buying 30 year treasuries at 3% yields, is a serious concern that should cause you to think twice before falling for these “safe” investments (a safe way to lose purchasing power).

2. Invest – don’t trade or speculate

This point hits at the taxes/commissions issue, but also comes back to a basic tenant of investing: you are buying percentage ownership in that business. Procter & Gamble has been a great business for well over a century, and there is nothing but opportunity ahead as the company stretches to all corners of the globe; grow with the business as an owner, don’t jump in and out because of short term issues like commodity pressures or an earnings miss.

3. Buy low

This goes back to what was said in rule #3. Many investors loved Microsoft (MSFT) and Wal-Mart (WMT) at the turn of the century (at 40-50x earnings), but won’t go near them today with P/E’s in the low single digits and low teens, respectively. As Mr. Templeton notes, follow Ben Graham advice: “Buy when most people, including experts, are pessimistic, and sell when they are actively optimistic”.

4. When buying stocks, search for bargains among quality stocks

When Sir John talks about quality, it most closely resembles to Buffett-followers those companies with sustainable competitive advantages.
5. Diversify. In stocks and bonds, as in much else, there is safety in numbers

For many individual investors, there is no need to hit a home run; for a success investment career, singles and doubles year after year will do just fine; as such, diversify accordingly to avoid unforeseen catastrophes.

6. Do your homework or hire wise experts to help you

The best method I have seen for keeping true to yourself in investing is Peter Lynch’s two minute drill, where you must be able to explain to anyone, in two minutes, why the investment makes sense (and to subsequently explain any holes that may pop up in the story). During the dot com bubble, there are stories of stocks that unexpectedly shot through the roof, with many perplexed as to why; in some cases, these were stocks with ticker symbols similar to those of internet companies, which investors accidently bought in an attempt to snag the high-flying dot com stocks. If you don’t know the correct ticker for the stock you’re buying, this may be a sign that should apply rule #8 to your investment process.

7. Aggressively monitor your investments

Note that Mr. Templeton says your investments, not their stock prices. The point is that you shouldn’t just buy a stock and forget about it; keep up on the story, and make sure that management is making intelligent decisions and acting in the best interests of the owners; on the other hand, don’t stare at a computer screen all day and sell for some ludicrous reason (like the stock’s chart) that has nothing to do with the actual business.

8. Don’t panic

This goes along with point #9; if you have standing sell orders on stocks that you own, you should seriously consider why you own them in the first place. If Procter & Gamble fell 5% tomorrow from pure market volatility and you took that as a sign to sell, you should get out today and reconsider whether or not you should be managing your own money.

The same is true on the upside when it comes to panicking; recently, I found a stock that I would love to own, but the price is a bit above where I think I have an adequate margin of safety. Don’t panic; if they stock doesn’t eventually come down to your target price, move on and look for the next opportunity.

9. Learn from your mistakes

My advice on this is simple: keep a journal. When you buy a stock, write down exactly why you’re buying it, and what could happen in the future that would cause you to exit the position; attempting to retrospectively critique your rationale without written evidence of your thinking at the time is likely an exercise in self-deception.

10. Outperforming the market is a difficult task

For the individual investor, outperforming the market means doing better than the best of the best.  Are you one of these?

11. An investor who has all the answers doesn’t even understand all the questions

This goes back to my article entitled “The Arrogant Investor”; investing is an inherently arrogant act, with the buyer saying “I know more” than the seller on the other side of the trade. As I noted in that piece, mitigate this need for arrogance with hard facts and due diligence; in Bruce Berkowitz’s terminology, “try to kill the business”. If you can walk away from this exercise with the thesis still intact, you are on your way to investment success.

12. There’s no free lunch

This goes back to our last point: if you think you’ve found a free lunch, there’s a good chance that you don’t understand all the questions.

13. Do not be fearful or negative too often

At the end of the day, the future is inherently uncertain; between sovereign debt concerns, record high profit margins, and the potential for a double dip, it’s easy to crouch into a ball and wait for better days. Unfortunately, following the media will leave you doing exactly the opposite of what you need: to be greedy when others are fearful and fearful when others are greedy. Try to stay away from the extremes (down in the dumps and up in the clouds), and simply remember the key tenants of investing: buying fractional ownership in businesses at a discount.

For half a century (1954 to 2004), Sir John Templeton’s flagship fund (Templeton Growth Fund) achieved annual returns of 13.8%, compared to 11.1% for the S&P 500; to put that in perspective, $1,000 in the Templeton Growth Fund grew to $641,376, or roughly $450,000 more than the return from the S&P ($193,000). For investors looking to generate outsized returns like Sir John Templeton, following his 16 rules for investment success would be a good place to start.

Hello and here’s wishing all of you the best of health, wealth, peace of mind and success with your financial goals in 2012.

I thought I’d start the year off with some trends – especially in technology, that might help you better meet your personal financial goals, because there are a host of personal finance services and applications, or apps as they’re called, that are going to change the way we Americans invest, bank, track our finances, shop, get coupons and so on.

Some of these apps use the web, but increasingly, many are available on mobile devices because more than a third of all American adults now carry “smartphones” with amazing amounts of display using processors that are as powerful as the ones in your laptop.

In fact, if you’re like many of my clients who’ve been holding out against the invasion of technology you might want to reconsider your decision in 2012. This might just be the year to allow the benefits of these innovations to help you gain better control over your finances.

Maybe now’s just the time to stop using a pen to write checks, paper to track your expenses, and scissors to clip coupons… to let technology streamline this process for you a little, and in so doing, to add to your savings and bottom line. Because, let’s face it… your best coupon deals or hotel and airfare discounts no longer come as inserts or advertisements in your newspaper but go to those who use the Internet.

So here are a few ideas for you to reflect on and consider opening yourself up to… and while I encourage you to listen to these with an open mind, adopt only those that you are 100% comfortable with, knowing full well that you could always revert to paper and pen if this turns out to not be your cup of tea… so here are some new ways to think:

1.   Think “Mobile Money”  How does that sound? Well, here’s the lowdown. With technology where it’s at today, you can now wave your smartphone in front of an intelligent device to make all sorts of payments… and this trend appears to be really catching on because it helps retailers, mass transit operators and others sell more while cutting down costs. With mobile money, your smartphone is securely linked to your bank or credit card account and saves you the hassle of carrying a card, swiping it, getting a bill, signing it, and so on—and it saves the seller money too.  Moreover, I suspect merchants and service providers, such as Google Wallet, are going to make this more attractive by offering promotions and discounts to folks that adopt this mobile payment technology, much like they offered incentives in the early days of the Internet.

2.  Think: Person to Person Payments.  Remember how, when you’re at a restaurant with friends and it’s time to split the bill, you either ask for separate bills or fumble for cash to pay your share of the bill. Well, how about just clicking your smartphones against each other and you’re done? Companies like American Express, Mastercard, Visa and PayPal now offer a host of services that let you easily transfer money between friends using verified bank or credit card accounts. This makes sending money across the street, neighborhood or country faster, easier and less expensive… and remember, you are ALWAYS the bearer of any expense your bank or credit card company incurs in all the transactions you make… so if this technology reduces costs, chances are, some of these savings will flow through to you too.

3.   Think: Money Management.  There are new web sites that have also turned into apps on your smart phone, such as Manilla.com which I mentioned a few weeks ago in my interview with Terry Savage, and Pageonce which help you manage bills, payments, subscriptions, coupons and more… for free! So you never have to worry about a missed payment, late fees, trips to the post office, stamps, missed deals where you could’ve used a coupon to save big, and so on. What’s more, many of these services genuinely have an environmentally friendly agenda and want to help replace paper clutter with electronic account statements. Other, more specialized sites such as savvymoney.com help customers manage their debt – credit card payments, mortgages, car loans, and automatically give you tips on when to refinance or make extra payments to reduce your overall interest expenses, and so on. Others like betterment.com are designed to simplify investing and finally there is mint.com , whose CEO I interviewed about a year ago which was the first site like this out of the gate. And it’s a good site to bring all of your financial accounts together. So, with an open mind, check them out and sign up for the ones that make sense to you. And remember, you can always opt out if you don’t like ‘em.

I will list all of these sites at my website: onthemoneyradio.org  or if you email me at info@onthemoneyradio.org, we’ll send the list to you.

Now, before I go further, I want to stress that I am not recommending these specific sites or validating what they offer but merely citing examples of technology advances in personal finance that are worth exploring further.

4.   Think: Personalized Deals.  We all heard about the promise of personalization, and while this has happened to some extent with the Internet, it hadn’t quite panned out in the personal finance space… until now. In fact, to understand personalization, consider trying this experiment. Take your laptop over to a friend’s house and type in the same search phrase – say, “top 10 deals in Miami” in google.com or any other search engine – your friend on his computer and you on your laptop using your friend’s Internet connection while sitting right next to him… I am almost 100% certain that your search results will differ because search engines personalize search results to your browsing history. The good news is that with smartphones and location-based services, stores can now know when you walk into them, what your purchase history and profiles is, and entice you with special offers just for you – personalized discounts and on-the-spot deals to customers willing to opt into these programs. And frankly, for the most part, you have little personal information to lose that you haven’t already lost by simply using the Internet, Facebook, email, search engines or smartphones at home!

I know it sounds a little scary—like an Orwellian universe, but it’s not as bad as all that. YOU have the right to opt-in or opt-out of any of these services.

5.   And Finally, Think: Social commerce.  The Internet spawns strange terms like this one… but what the heck! Apps now let you borrow or even legally take money from individuals across the world – who might want to give you a loan where they believe in you more than a bank, help you out in a crisis, lend you money to do up a kitchen or bathroom, or simply invest in a brilliant idea – private individuals reaching out to each other and opening their wallets in what’s called social commerce without borders. Check out sites like weemba.com or kickstarter.com if you have an idea you think others may want to fund. It’s actually pretty cool to think that banks will no longer control what you can and cannot do, financially. I love the free markets.

But don’t think large banks and corporations aren’t watching all of this very closely and actively stepping in where they sense success – so in 2012 you will likely see a lot more happening in the space of personal finance technology… and as we kick off the new year, I urge you to try and “get with it” if you like, and explore ways of saving time and money by using technology to your advantage.

I’m sure many of you have heard of the Consumer Price Index, or CPI as it’s commonly called. And you’d probably heard about it because CPI data is published every month by theU.S.government’s Bureau of Labor Statistics and is reported on heavily by financial and general interest news channels. Why? Simply because CPI measures monthly changes in the prices of goods and services most commonly consumed byU.S.households, and is a measure of supply versus demand, which in turn is a measure of the health of consumer spending, one of the key pillars that holds up theU.S.economy. Governments and businesses also use CPI data to adjust wages, social security, retirement benefits, food stamp programs, budgets for school lunches across the nation, adjust rents and for a host of other reasons.

The Bureau of Labor Statistics has classified expenses into 200 categories, arranged into eight major groups. Government statisticians compile CPI data from about 23,000 retail and service establishments and 50,000 landlords and tenants. The increase in CPI over twelve months is what’s commonly called annual inflation and our government watches this closely to set economic policies. And inflation, for those of you who remember my piece from a few months ago, directly impacts the value of our dollar relative to foreign currencies, primarily of our trading partners, and so impacts imports and exports – key drivers of our economic growth.

So now that you have some background on CPI, here are its eight major groups:

1. Food and Beverages: Food prices, broken down into food at home and away from home. This includes breakfast foods, full meals, beverages and snacks – fruits, vegetables, dairy, meat, fish, poultry, eggs, cereal, bakery products, beverages, oils, sugars, sweets – items most Americans typically pick up at grocery stores, and prices of food typically consumed outside such as burgers, pizza, sandwiches, shakes, steak and so on.

2. Housing: Price increases tied to housing – mortgages, rents, hotel room costs; owner’s and renter’s insurance; household energy and utility bills, water, sewer, trash collection; home furnishings; and general household expenses such as for cleaning supplies, repairs, maintenance, etc.

3. Apparel: Price changes on clothes, jackets, suits, sweaters, footwear, jewelry, accessories and so on, worn by typical American families.

4. Transportation: Costs associated with private and public transportation – new and used vehicles; insurance expenses; gasoline, diesel costs; parts, maintenance and repairs; on the public transportation front –price changes for flight, bus, train, subway tickets and so on.

5. Medical Care: Expense changes related to home medication, prescription drugs, medical supplies, physician services, hospital stays, routine dental and eye care, prescription eye glasses and so on – for all age groups – infants, children, adults and seniors.

6. Recreation: Prices on items like movie tickets, amusement parks, video games, DVDs, books, television, cable or satellite, toys, sports equipment, sporting events and so on.

7. Education and Communication: School and college tuition increases, prices for books and supplies, childcare and everything related to education; then for communication expenses tied to phones, Internet, computers, laptops, printers, postage supplies and the like.

8. Other Goods and Services: Prices on items like tobacco, smoking, haircuts, personal care, funeral expenses and so on.

When tracking CPI, the BLS also includes government fees such as water and sewerage charges, auto registration fees, vehicle tolls and sales and excise taxes – because these are real expenses borne by American households.

However, income and social security taxes and investment items (stocks, bonds, real estate and life insurance) are excluded because taxes can never be applied to purchasing consumer goods and services, and investments relate to savings, not to consumption.

Food and energy prices are typically very volatile because of supply disruptions – for food due to storms, severe weather, cold or heat waves and other such factors that disrupt costs; for energy due to global supply fluctuations related to fires, political instability, disruptive moves by cartels and so on. And remember too, that a major cost of food is the cost of hauling it to your table, which directly depends on gasoline and diesel prices… so food and energy are often clubbed together when talking about CPI data.

I’m speaking about the CPI this week because it is a key measure of your wallet’s ability to keep pace with rising prices, of the drop in the dollar’s purchasing power each year, and of a minimum hurdle that your investments should surpass, on average, year after year. So the next time someone talks about CPI, they likely will tell you where prices have risen the most, and give you some insights on where to cut back spending and stay within budget. Your earnings, investments and assets must ideally at least keep up with inflation so you can afford to maintain your standard of living. But ideally, you must grow your investments at an even greater pace. So that, in a nutshell, is a bit about CPI. And for the record, CPI or inflation stood at 3.4% for the 12 months ended November 2011.

Nowadays, a lot of individuals ask me for advice after being offered tax deferred annuities by their insurance agents or brokers. They come to me with a short list of positives espoused by the agent, never mentioning any negatives or slightly suggesting any hint of the complexities of these products. Since everything in the investment universe has both positives and negatives, understanding these pros and cons will lead to good decision making.

Let’s take a deeper look so you can make the right decision should your advisor offer them to you.

Tax Deferred Annuity

A tax deferred annuity is an investment product offered by insurance companies where more often than not, you invest a lump-sum to receive a handful of benefits.

Here are its key features:

• Tax deferral – you are only taxed when you withdraw funds, much like an IRA
• Your money can be invested at a guaranteed fixed rate of interest (Fixed Annuity) or in mutual funds with returns based on market performance (Variable Annuity).
• A Fixed Annuity offers CD-like fixed interest rates whose safety is backed by the insurance company.
• A Variable Annuity invests in mutual funds that may contain stocks or bonds, so returns are tied to fund performance and inherently fluctuate. Your money is not guaranteed by the insurance company.
• You pay penalties for the early withdrawal of earnings prior to age 59 ½ and all earnings withdrawn will be taxed at regular income rates (as opposed to much lower capital gains rates).

That was the easy stuff… let’s dig a little deeper

Years ago, when capital gains and income taxes were higher, annuities were an attractive investment. You could defer your investment earnings until retirement or such time you were in a lower tax bracket and benefit from withdrawing your money at lower tax rates. Now that tax rates are lower and rates on capital gains are only 15%, annuities have become far less attractive. Many correctly question the logic of paying back 38% of their earnings in taxes instead of only 15%.

Designed to Sell

Insurance companies are in the business of creating products that agents will be able to sell to meet public demand. This may be a fine attribute for a sneaker maker or car manufacturer, but it is a dangerous idea in the investment world. It has been shown time and time again that investing in the most popular idea is a sure way to lose money. Think Internet stocks of the 90′s and Real Estate in 2005. It’s the same old story – when markets go down and people are scared, insurance companies bring out a slew of annuities with certain “guarantees”. Guarantees which limit volatility right at the time you need “upward” volatility to recoup paper losses. When markets are hot, they bring out their most aggressive offerings to entice you to buy and reap the benefits of the current bubble.

We have now entered a time when, after 10 years of mediocre market returns and a lot of volatility, insurance companies have de-emphasized growth and focused on income.  After all, no one believes in growth anymore! This new focus takes our eyes off the tax problems I mentioned above and concentrates our attention on our new, latest “worry”:  The fear of outliving our assets and dying penniless. Here is the new pitch: “How would you like to receive regular, guaranteed income for the rest of your life without having to worry about scary markets or dire economic conditions”. Sound too good to be true? Maybe, but it’s the perfect sell to a worried world.

Guaranteed Income Schemes

Since many seniors fear their nest eggs will not see them through their many years of retirement, insurance companies have now added a new feature which seemingly enables your wealth to grow in spite of the stock market’s performance… the impossible made possible, brought to you by the geniuses at your favorite insurance company!!

These products have names like Guaranteed Minimum Income Benefit (GMIB), Guaranteed Minimum Withdrawal Benefit (GMWB).

For example, under Guaranteed Minimum Income Benefit, you invest in the company’s variable annuity for a specified time, typically 10 years. If the market does not perform well, the company guarantees your investment will grow “on paper” at a rate of 5% or 6%. This is called the “base benefit” amount. Can you get this money at any time? No, it is only on paper to calculate a future income benefit when you are ready.

The insurance agent basically says, “You pay us an extra insurance premium and we will guarantee a set income to you in 5 or 10 years, even if your account value falls to zero”. The mutual funds you invest in can’t go to zero and the insurance company knows this – but nevertheless it imparts a certain peace of mind to the investor.

 The Bottom Line

So, many pay this expensive extra premium and very few will actually receive this benefit near the end of their lives.  Most will have wasted their money.

So you can see the selling cycle continues and once again, we have reacted with our emotions and made the same fatal flaw that got us to this point again and again.

Want to get the respect you deserve and actually accumulate wealth? Here’s what you do. The next time things get dicey and your agent or broker tells you about a safe guaranteed investment, stop. Think. Do the opposite. Invest in stocks to take more risk.  After a while when stocks rise in price-as they always do-and your agent recommends an annuity with features which enhance the growth of your stocks, stop. Think. Do the opposite. Invest in safe fixed investments. 

In other words, do the exact opposite of what you feel and don’t let the agent convince you otherwise. This will greatly enhance your prospects for success. It’s not that hard, you just have to understand how things work and follow these simple rules. 

Another interesting year in the stock market draws to a close. It’s been a tough year for most investors. The Dow started the year at roughly 11,700, rose through January and February, then gave up most of its gains by mid-March, only to bounce right back in the second-half of March and all of April and early May to a high of 12,800, which it then surrendered back by early August, then dipped to a low of 10,650 by early October, and then fitfully dug itself out of the hole to end the year near the 12,000 level – a year marked by sharp volatility that ended with a whimpering gain of somewhere near 3%… barely keeping up with inflation… with much of the market’s gyrations tied to the turmoil in Europe. 

Yet, on an optimistic note, let me also remind you that the U.S. economy more or less held strong. Furthermore, investors worldwide flocked once again to the U.S. dollar and U.S. Treasuries as an economic safe haven in times of crisis, which led to a sharp rally of the dollar, in the second half of 2011, versus major European currencies such as the Euro and the Pound. But as I have said before, the Arab Spring and great turmoil in Europe held back U.S. economic buoyancy and caused our stock markets to suffer in an increasingly interconnected world of global trade and investment. 

So, I’d like to celebrate the fact that the U.S. economy “hung in there”, and that our stock market did not crater… given everything terrible that’s happened in 2011 in economic terms. Also, comparatively speaking, other markets fared much worse. China-down 19%, Japan down 15% and on average, the rest down around 20%. So I’ll take the 3 % market gain or a 3% loss in a year like this very willingly—-without complaining too much, because it underscores the U.S.’s fundamental economic resilience and gives me confidence that we will see higher returns in the years ahead as global economies work out their kinks and stabilize. And as the year closes, I’d rather focus on the positives than the negatives. 

And as the year ends, this is also a good time for all of us – as investors and as investment advisors – to take care of some housekeeping so we are economically better prepared for 2012. So here are four financial planning steps that I’d like each of you to consider and act on before we head into 2012: 

1. Build a budget: I know a few of you are very good at financial planning and budgeting, and equally importantly, at adhering to your budget. But for those of you that have been putting this of, I strongly urge you to start budgeting now… It’s not rocket science but it takes a little discipline. Here’s how you can build a simple monthly budget –
1. Track your total household income from every source on a piece of paper or on a spreadsheet: deduct what you must set aside for taxes; then carefully apportion the balance into prioritized non-discretionary and discretionary spending buckets – for rent or mortgage, utilities, property taxes; for groceries, gas and clothing; for retirement contributions and investments; then for entertainment, eating out, vacations and other discretionary items. Just this simple exercise of developing a budget is a great first step towards controlling your wasteful spending and saving more.
2. Once you have this budget, track your expenses every week and make sure you do not exceed your budget. Sock away as much as you can and, ideally, put aside at least six months of cash, invested perhaps in CDs or a savings account that you can tap into as a rainy day fund should you lose a job or be faced with some other emergency. In addition to being good fiscal practice, budgeting will also bring you tremendous peace of mind.
3. Now’s also a great time to teach your kids about budgeting – getting them to track their expenses with their pocket money and showing them how to save for their favorite iPhone or Playstation or CDs and DVDs… essentially giving them a financial education that will stand them in good stead as they grow and go from saving for college to buying a house, and so on.

2. Regularly save for your retirement: As I keep saying, and as most of you know by now, compounding is a very powerful way of growing your savings. And the sooner you start, the more you will benefit from compounding. So start socking away as much as you can into your retirement savings accounts. And remember this… if you use compounding wisely, your portfolio will easily bear the brunt of a few years of low or even negative returns. So examine what you have been contributing to your retirement savings accounts and see if you can increase this amount. The government sets a maximum amount you can contribute to your retirement account to receive a deduction on your taxes. So try to take advantage of the full amount.
1. Additionally, speak to your company’s HR folks about matching employer contributions for your IRA – this is free money that you should take if you can. In fact, time and again, I hold my head in disbelief when I find out that someone’s been working for a company with a generous matching contribution benefit for ten or fifteen years, and just did not take advantage of that program… a very, very expensive mistake that literally sets them back hundreds of thousands of dollars. So I implore you… take advantage of employer contributions to your retirement savings. And where your company does not have a matching program, consider using a Roth IRA where you pay taxes today on what you invest in your Roth IRA but are exempt from taxes when you tap into this in retirement.

3. Plan for college expenses: I think we all know the tangible economic value of an education. Surveys routinely show that college graduates make far more in lifetime earnings, on average, than those without college degrees. We of course have guys like Bill Gates and Steve Jobs who dropped out of college and went on to become billionaires, but I think we all agree that they are outstanding exceptions. So… a college degree typically improves your economic future – and you must think of school and college expenses as an investment into your future or into the future of your kids or grand-kids. I think we also know that college tuitions unfortunately have been rising dramatically year on year, so putting a child through school and college now runs into hundreds of thousands of dollars – heck, room and board alone could easily cost you a thousand a month, which is about $50,000 over four years, not counting tuition and other expenses such as books, computers, school trips, etc. So please actively save for college starting now, if you haven’t already.
1. And fortunately, the government does allow a way to invest and heave the earning grow tax free through 529 plans specific to the state you live in –
2. Don’t forget, too, that your child should be responsible for some of their college costs. Teach them this early so they will know what to do and how to behave when they go away to college.

4. Finally, Invest Wisely: So after you’ve done your budgeting, retirement contributions and college savings, you’ve got to make sure this pot of money you’re setting aside grows nicely – compounds nicely – to pay for your retirement, college, medical expenses, etc. So invest this money wisely and conservatively – speak to your financial advisor about how you can diversify your savings using a combination of stocks, mutual funds, money market accounts, CDs, government and corporate bonds, foreign funds and other investments – so you have a comfortable future for yourself and your family. And try to tune into my show and others like it or checkout my commentary online, just once a week for useful tips on how to shepherd your investments to see them grow nicely – and I say this not because I want more people tuning into my show but because I really do want you to not make common investing mistakes, I really do want you to become a cautious and wise investor, and I really do want to see you succeed financially, in 2012 and beyond.

Increasingly, it looks like the U.S. economy is intrinsically strong but not the economies of our trading partners and international customers. In addition to economic weakness in the Euro zone, there’s the Arab Spring and its likely impact on oil prices, as I mentioned in my earlier commentary on the possibility of a sharp spike in oil prices. We now also have more evidence that the so called growth economies of China and Asia are feeling the strain of rampant inflation in basic commodities such as food and sky high real estate prices that are putting a damper on housing construction. As a result, the U.S. economy will likely grow more modestly and job creation and salaries and benefits in the U.S. will continue to be constrained. So, it appears more and more that we will see slow but sustainable growth in the years ahead… some say possibly for another decade.

How then should you position yourself to get ahead despite slow economic growth scenario? Here are a few steps to help you combat economic sluggishness and still come out ahead.

1. Pay down your debts. Basically, your money in the bank isn’t doing much to add to your wealth. With interest rates near zero, your savings are not even keeping up with inflation. So why have that money lose value? Instead, use your spare cash to pay down debt.  And let me emphasize, it’s your spare cash I am talking about, not all your savings – because you must stash away for a rainy day, should you get laid off or otherwise suffer a loss of income.

2. Think Like a CEO. You really are CEO of your own family. And like all good CEOs, you cannot afford to be blind-sided by unexpected events. In fact, more than a corporate CEO, the head of a household with children and dependents has a lot more to lose if things go awry unexpectedly. So always keep your ears open, understand early warnings such as pay freezes that may signal layoffs or trouble ahead, and plan your finances for all eventualities. And like all smart CEOs, anticipate and address problems before they take you by surprise and threaten your financial well being.

3. Recalibrate your lifestyle.  I’ve often mentioned this in my commentaries. When times are tough, do what’s wise – downsize your needs, make do with less, shun extravagances and save as much as you can. You can do this very simply by cutting down on lattes by brewing coffee at home (a $5.99 pound of home-brewed coffee can save you hundreds of dollars when done consistently), stretching out the life of your car, or say, buying a second-hand car with low miles instead of getting a new one, packing a healthy snack and carrying your own soda as opposed to eating out at work, fewer trips to the mall, and so on.

4. Set aside your ego, forget about status. This is tied to the point above. Most of us spend a fair amount of our hard-earned money trying to impress other people – be it designer clothes, a swanky car, or meeting them at a fancy restaurant. Now, I am all for living a good life if you can clearly afford it.  But why buy a million dollar house or a BMW when you really can only afford a $500,000 house or a Honda? What’s more, many of these status investments rapidly lose value over time and contribute nothing to your retirement portfolio or real quality of life.  So shun status and go for real savings.

5. Invest by buying low. A beaten down economy offers tremendous investment opportunity. Many times, sellers that have not been financially disciplined end up selling their assets dirt cheap, and quite often well below even their intrinsic value. If you’ve been good about saving cash, as I hope you have, then a downturn is a great time to buy anything – beaten down stocks, discounted equipment, foreclosed property, distressed businesses, and so on.

6. Invest in yourself. If you have the time and see dark clouds ahead in your field of work, then beefing up your skills is always a good idea – so do a few relevant courses – cross-training, as it’s called – so you have more to offer on your resume, should you have to re-enter the job market. For example, a lot of companies seek Internet and computer savvy individuals in these times, so make sure you learn key technical skills such as Internet marketing, programming, mobile application development, or professional programs such as QuickBooks that could help you in the workplace.

7. Learn to work on the go. Many companies look for ways to reduce costs in a slow economy, with many preferring work-from-home employees to reduce office expenses. So get a little computer savvy and see how you can leverage things like free wireless networks at coffee shops. In addition, get familiar with online job forums that offer part time and remote working options, so you are prepared should the need arise. In any case, if you have the time, you could easily supplement your income by taking on work-from-home opportunities sitting right at home, and plow these additional savings aside.

8. Volunteer. Here I mean volunteering for professional gigs. Like helping out at a day-care, or at a startup using your existing skills, or perhaps even at a local library or school – because sometimes, these internships build valuable contacts and help you learn new skills.

9. Position yourself for success. Consulting firm McKinsey and Company predicts that six fields – namely, healthcare, business services, leisure and hospitality, construction, manufacturing, and retail – will see the most job growth in the coming decade. So if you’re at the stage where you can switch fields, consider getting into one of these six fields so you have above average job prospects and pay.

Follow the guidelines above, and you will have a healthy bank account, which in turn will finance investments in beaten down assets such as stocks or property. And give you far more peace of mind, good health and happiness in the long run.

Let’s start today off with a little pop quiz. What if you were presented with two stocks: Company A which will likely grow earnings at 10% annually, and Company B which will grow at 3% annually – which would you choose?

Most investors might likely prefer A, the high growth company, over B, the low growth company. But here’s the catch… a stock often trades at a value that has less to do with its fundamentals and more to do with investor expectations.

Where Company A might be well positioned to grow, investors may feel way more bullish about Company A’s prospects that Company A might be able to deliver on. And that can cause more harm than good. So while Company A superbly executes and consistently delivers 10% growth, investors may have expected say 15% growth – and will punish Company A’s shares when results show a “mere” 10% increase.

On the other hand, investor expectations for Company B may be at 1% annual growth and its stock could well get a boost when it delivers 3% growth.

Crazy… but such expectations-based stock performance is rather common in the stock market. In fact, I remember my early days following stocks and being surprised when great stocks would get hammered even when they delivered fundamentally sound results… I’d be genuinely confounded but I soon caught on… and it’s this learning that I want to share with you… that it’s not enough to know how much a Company expects to grow its earnings, it’s equally important to also know what investor expectations are for that company.

And this knowledge, my friends, also creates buying and selling opportunities. So if your fundamental analysis shows a certain stock value based on say 10% growth for Company A – you’d know when to sell if the stock rises above its fundamentals based on over-optimistic expectations, and when to buy when a solid performer gets unfairly beaten down.

So, in a nutshell, and to quote Jeremy Siegel – a respected economist, “the long-term return on a stock depends not on the actual growth of its earnings, but on the difference between its actual earnings growth and the growth that investors expected.” So much for efficient market theories that say a stock price is based on its fundamentals!

In fact, in his recent book – The Future For Investors – Siegel shares his research which shows that the top-performing firms in the S&P500 Index… grew earnings at a greater pace than expected… and that virtually all of these star performers paid out consistent and rising dividends which underscored their sound financials in investors’ minds.

Siegel tells us that the top S&P500 performer was cigarette-maker Philip Morris, which delivered an average annual stock return of 19.5% since 1957 – incredible! – and paid out an average 4% dividend. Siegel attributes Philip Morris’s performance to low investor expectations because of ongoing investor lawsuits and smoking bans – and these low expectations provided the perfect environment for outperformance.

So, as you go looking for stock superstars for your portfolio, I’d advise you to look for companies with the following characteristics:

-          has a consistent history of beating Earnings Per Share estimates (most analysts put out EPS estimates ahead of earnings calls so it’s easy to see if a company beats estimates or not)

-          grows earnings at least 5% annually, so it’s at least ahead of inflation

-          pays dividends consistently and increases this payout at some rate consistent with its earnings growth

-          has low debt so it does not run the risk of cutting dividends to service debt, or the risk of bankruptcy in an extreme case

-          and choose a company that has built a moat around itself. This means make sure it is difficult for other companies to get into the business. You want a company that can fight off the competition and keeps its financial structure intact.

So the next time you’re screening for shares to buy for the long run, weigh investor expectations into your analysis… and if you need a refresher, you can always find this commentary on my blog or in the archives at www.onthemoneyradio.org

Good luck!