LESSON 3: DEVELOPING A FINANCIAL INVESTMENT PORTFOLIO
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Transcript

Transcript of the interview with an expert, Richard Gandon of Standard & Poor's- a McGraw-Hill Company.

Rucker:

Welcome to Lesson 3 for ECONnections, Developing a Financial Investment Portfolio. Our guest today is Mr. Richard Gandon. Mr. Gandon is Manager of Sales and Operations for the Standard & Poor's Company, which is a McGraw-Hill Company. He is located in New York City. Welcome, Mr. Gandon.

Gandon:

Thank you, Mr. Rucker.

Rucker:

This is such an interesting area, we could probably go on for an indefinite period of time. There are some investment strategies in the stock market that I think we need to explore a little bit. For instance, how would they differ for someone 18 years old relative to someone who is investing at 60 years old?

Gandon:

There are three prime characteristics you would want to look at-first you would want to look at time horizon. The time horizon for an 18-year-old obviously is a lot longer than for someone who is 60 years old. You would also want to look at the risk tolerance level. Someone who is 18 years old just starting out has a lot more time, and therefore is able to take on a lot more risk in their portfolio than someone who is 60 years old, who is probably planning to retire within the next 5-10 years. The final thing you would want to look at is investment experience. Hopefully, the 60-year-old has been investing all their life, or at least since they were in their teenage years. Maybe they got their first job right out of college in the 20s. These are the three main criteria you would want to look at first of all.

Rucker:

Well, now you have done that, you get into the perplexing kinds of situations we face in the stock market. We are all talking today about technology stocks. The curious thing in the market that seems to hit the news almost daily is that technology stocks seem to be losing money, but are, for some reason or another, more attractive to investors than stocks of well established companies that are currently operating at a profit. Is there any way of explaining that?

Gandon:

I think the internet is such a powerful new form of communication that everybody is talking about it-people are signing up to go on line for the first time every day. It is definitely a growth area. It is nothing brand new, that although the internet was created in the 1960's, use of it by the public has really taken off in the mid 90's. There are a lot of companies out there that are scrambling for a market share and conversely, Wall Street is looking to these companies to pave the way into the new millenium, etc. I believe growth and earnings are ultimately going to drive the stock market. I think a lot of the consumer-to-consumer companies will end up being taken over, or just may not make it. Some of the larger ones, the Amazons and the AOL's, I think will definitely be around for quite some time. I am more interested in the infrastructure stocks. These are companies that are providing the highway, the actual hardware and equipment and they do have sustainable earnings as opposed to the consumer sites that are losing money. Wall Street is a very fickle place. I think eventually Wall Street will wake up and say, "You know what? We have been through this before. Where is the money? Where are the earnings?" I think we will see in the future, I don't know when, but I think we will definitely see a decline in the valuations of some of these companies.

Rucker:

I think that's an excellent explanation and it lays the groundwork very nicely for my next question, which is kind of hypothetical. If I am 16 years old and have a modest amount, say $25 a month, to invest in the stock market, what advice would you give me?

Gandon:

The first thing I would do is congratulate you for starting out. I think that 16 to 18 is a very good age to start. Basically, look at a mutual fund. $25 per month is not going to buy you a lot of stocks. I would look at a mutual fund. There are a number of funds out there where you can start with just $50 initially and then do $25 a month. There are funds out there for $100 initially and there are other funds that have a $500 minimum. It is not that difficult to start out. Another thing you may want to look at is dividend reinvestment plans. There are over 1100 companies in this country that will allow you to invest directly with them. Sometimes, you do need to own a share and there are companies that will enroll you in that as well. You can send them $10, $15, $20, or $25 a month and they will buy you fractional shares with that money.

Rucker:

That's great starting advice and I like your thought of congratulating the 16-year-old for beginning. That's always the toughest one-that first dollar in, that first step towards a goal of investing over a lifetime. I suspect the answer to your next question won't be all that different, but what investment advice would you give my parents who are 45 and want to invest $2000 a year in the stock market?

Gandon:

The first question I would ask is what is their investment goal? Do they currently have 401Ks or pension plans at work? Is this to supplement their retirement? Is this for a specific goal? Is this to start saving for their child's college education? Are they looking to buy a second home as they near retirement? First of all, we want to identify what that goal is. Assuming it is for a specific goal, I would then look at their current assets. What do they have currently? We don't want to duplicate that. We go back to time horizon, risk tolerance and investment experience. When do they think they are going to need this money? What is their time horizon? What is their risk tolerance? Obviously, if it's a goal they expect to attain within the next five years, they don't want to put it in a risky investment. How much experience do they have? Obviously, you need to be able to sleep well at night, which incorporates risk tolerance as well. But, how much experience do you have? If you do not understand the investment, you should not make the investment.

Rucker:

This next question puts the last two in a capsule for us and maybe it's more in the form of a review, but you have been giving advice to a young person, to their parents, deciding how to save and how to invest for their future. Maybe in the form of review, or anything else you would like to add, what are the major factors they need to consider?

Gandon:

The first thing they need to consider is to pay themselves first. People get paid and the first thing they do is pay their rent, they pay their mortgage, they pay their bills, etc. You need to include yourself there. If the money is gone at the beginning of the month and you don't even see it, (there are a number of funds, and as I mentioned before, dividend reinvestment plans that will automatically deduct a set amount from your account each month) pay yourself first. It's very important. Otherwise, you might say at the end of the month, "I can't afford it this month, let me put it off until next month", and you are losing out on compounding. You definitely want to pay yourself first. You also want to have goals. Write down your goals-what do you want to do? When do you want to use the money? Again, we go back to the time horizon. Are we looking at 5 years, 20 years or 50 years? What is your risk tolerance? I would suggest when you are first starting out that you want to go a little bit on the conservative side. You certainly don't want your first foray into the market to be an unpleasant experience. Keep in mind that the markets are cyclical-they will go up, they will go down. You have to be on an even plane and realize that there are some times you will be making money and other times you will appear to be losing money on paper. Actually, you don't lose anything until you sell an investment. If you can keep these things in perspective, you are definitely on the right track.

Rucker:

Finally, in our interview today, Mr. Gandon, as students go on line and examine an analyst's report of a particular company, what are some of the key indicators they should be examining?

Gandon:

First of all, I would look at earnings. I would look at earnings growth. Is the growth sustainable, or is it a flash in the pan? Where are the earnings coming from? Are they quality earnings or are they earnings that resulted from a sale of a division? Maybe they settled a lawsuit or won a lawsuit and they made a few million dollars and that went to the bottom line. You really have to look at that. The next thing I would look at is the industry. Is the company in a new industry? Are they in a mature industry or maybe even a declining industry? With industry, you want to look at the future prospects. Is the company diversifying into new areas? You can take an old-line company like General Electric that was known as making appliances and light bulbs who is now into aircraft engines. They have a huge financial arm that does equipment leasing, mutual funds, insurance, etc. Here is an old-line company, you might call it a mature company, that is diversifying into new areas. It has very good future prospects. You also want to look at the competition. Are there low barriers to entry or are there high barriers to entry? If there are low barriers to entry and the company is profitable, everybody else is going to want to get in on it and that will erode profits. If there are higher barriers to entry, it would be a lot more difficult for competitors to come on in. In addition, are the company's products unique, do they have patents that protect them? You definitely want to look at the competitive aspects. You probably want to look at the management's track record. Does the management own a lot of the stock? What have they done in the past? What are their future prospects and what is their track record?

Rucker:

You have given us excellent thoughts and ideas. As our students go on line and start to look at analyst's reports, this gives them some excellent direction in which to head. Our guest today on ECONnections for Lesson 3: Developing a Financial Investment Portfolio is Richard Gandon. Mr. Gandon is Manager for Sales and Operations for the Standard & Poor's Company. He is located in New York City. Standard & Poor's is a McGraw-Hill Company. We thank him very much for being with us.