Tap into Some Ivory-Tower Brains
Through the Net, you can easily tap many of the best minds in finance and investment. No, we're not talking about Wall Street analysts. For access to investing gurus with far fewer conflicts of interest--and rock-solid credentials such as PhDs and even a few Nobel prizes--log on to the Web sites of academics. Sure, you will have to put up with some technical language and features that aren't especially user-friendly. But a little investment of your time could mean smart returns.
Through the Web, you can keep abreast of what well-regarded thinkers have to say about the outlook for equities. One such guru is the Wharton School's Jeremy Siegel, whose Stocks for the Long Run became the Bible of the bull market. Siegel's Web site, www.jeremysiegel.com, is free, but he charges for access to some of his research. At some sites, you can even gain access to an MBA-quality education for free or a fraction of the cost of a degree. Many professors--including such bigwigs as Nobel laureate William Sharpe--post lectures, course outlines, and other material on the Internet.
Of course, you're probably more concerned with what to do with your investment portfolio than with the fine points of financial theory. We discovered several sites that can help you get your finances in order with interactive tools derived from academic research, such as calculators that can tell you when a stock is over- or undervalued. With a few clicks, you also can shed light on issues vital to your financial health, such as whether you need to save more for retirement or what would be the best price at which to exercise your stock options.
Many investors realize that it's problematic to use price-earnings ratios to figure out whether a stock is a buy or a sell. One reason: When accounting maneuvers boost earnings, the denominator of the p-e is artificially inflated. So, the ratio falls, making a stock look cheaper than it really is.
To avoid this trap, you can rely on several more sophisticated valuation techniques. ValuePro.net, a Web site run by Gary Gray, a visiting professor at Pennsylvania State University, offers a user-friendly version of one well-known formula, the discounted cash-flow model. Simply punch in a ticker symbol and the model does the rest. Instead of relying on the p-e ratio's simple formula--the stock price divided by corporate earnings--the program culls reams of data, including growth rates and profit margins, to project how much money a company can earn in the future. It then reduces that by an interest--or "discount"--rate that is based in part on the company's cost of capital. Finally, the model spits out a projection of what the stock is really worth.
The site gives you the flexibility to change most of the inputs. Suppose you're more cautious on earnings than the Wall Street forecasts that the model uses. Just change that input, click on "recalculate," and the model will rerun the exercise.
You may want to move beyond this one-size-fits-all approach. The Web site of Aswath Damodaran, finance professor at New York University's Stern School of Business, gives you a choice of three basic valuation techniques, a discounted cash-flow model and two others, along with variations on each formula. Damodaran posts material that explains when each model should be used and how to estimate the inputs needed to figure a stock's value. For financial services companies, for example, he recommends using the dividend discount model. But for others, the free-cash-flow-to-equity model or the free-cash-to-the-firm model are more appropriate.
Maybe you don't care about picking stocks because you buy mutual funds. The academics' Web sites can still help you, since they make it easier than ever to look at key issues affecting your overall portfolio, such as whether you are saving enough for retirement.
Concerned about retirement? Check out the worksheet devised by Nobelist William Sharpe, who is a finance professor emeritus at Stanford University's Graduate School of Business. This is a simple but free version of the calculators available at the Web site of Financial Engines, an investment adviser that Sharpe co-founded in 1996. To locate it, go to the "worksheets" section of Sharpe's Web site and click on the retirement worksheet at the bottom.
To fill it out, you need to estimate your portfolio's future return. Since 1926, stocks have earned an inflation-adjusted average of about 7.43% a year, according to Ibbotson Associates. But to be prudent, you might want to reduce your expectations a bit--say to 6.5%. If your portfolio contains bonds, the overall figure should be lower still. You can use another of Sharpe's devices, the "weighted statistics worksheet," to fill in the slot reserved for the standard deviation, or riskiness, of your portfolio.
Sharpe's calculator delivers results using two methods. The "geometric mean" tells you what percent of your preretirement salary you will have at your disposal in each year of retirement, assuming your portfolio earns the compounded annual return you forecast.
The alternative method uses the more sophisticated Monte Carlo method. To be as accurate as possible, ask the model to run at least 10,000 simulations (it's very quick). You will get three answers. The first, on the left, shows what percent of your pre-retirement income you can expect to maintain in retirement if your investments perform poorly, achieving results in the bottom 10% of the potential range. The center box gives you the outcome in the middle of the range--in other words, there's a 50% chance you could wind up with more than this and a 50% chance you could have less. On the right, you will discover how much of your pre-retirement income you will maintain if your investments earn returns in the top 10% of the potential range.
If you have stock options, picking the optimal time to exercise them can be your ticket to a rich, or even early, retirement. That's where Steven Huddart, an associate accounting professor at Pennsylvania State University's Smeal College of Business, can help. At his site, Huddart built a calculator that asks for such inputs as the stock ticker symbol and the options' strike price and expiration date. The calculator will tell you how much of the option's value you could collect by exercising today. Huddart has found that employees typically cash out options if the value is 75% or more. Why accept 75%? You could hold out for 100%, but there's always a chance the stock will never rise enough to get you there.
If you have trouble with any of the terms at these academics' sites, you can refer to the glossary compiled by Campbell Harvey, a finance professor at Duke University's Fuqua School of Business. Harvey's site also is a good stop for bond investors. It features a calculator that shows what happens to bond prices when interest rates move. Suppose you bought a 10-year bond with a coupon of 5% for $1,000 today. If rates fall to 3%, that bond would be worth about $1,200. At 6%, expect to recoup only about $900. If rates start rising, this could be an especially useful tool.
All of the above is just a smattering of what's available. To explore what other finance professors, academic journals, and finance-related sources have to offer, go to the Web site of Ohio State University's Charles A. Dice Center for Research in Financial Economics (fisher.osu.edu/fin/journal/jofsites.htm). Heck, if you spend enough time at these sites, you might even earn a de facto MBA.
By Anne Tergesen