Today, I want to introduce you to the concept of "Proactive Investing."
Don't bother to Google it – it's not a longstanding school of investing. It's an idea I made up. But I believe it's a useful mindset for all new technology investors...
You see, there is a clear difference between trading and investing. Trading means buying a trend, or better yet, getting ahead of a trend. But it's tied to money flow in a broader market, a sector, a fund, or a stock.
If shares of electric-car maker Tesla (TSLA) have been going up, momentum players buy in. They think an existing uptrend means shares will continue to go up.
But if the only basis for Tesla's continued climb is its history of climbing... Well, let's just say that even Sir Edmund Hillary and Tenzing Norgay – the first people to reach the top of Mount Everest – came back down. The world's highest mountain did not continue up forever.
There are different ways of doing and thinking about this kind of trading, of course. And it can be successful. But my point is that even high-flying momentum stocks can come back down to Earth.
So how do you invest for the future? Rather than worry about what other investors are up to, I try to consider what the equity is up to.
This is especially important in tech investing. Think of it this way...
Over the summer, my family found a five-acre plot of trees in Washington state. It's 100 feet above sea level, but only five minutes from the fast ferry to Seattle. It's flat land at the top of a hill, with no creek or swamp in sight. It's the perfect place to build a country home.
We are putting in a road. Then a writer's cabin. Then a well. Then a septic field. Then we will turn the cabin into a small home. It will take about four years and $400,000.
I can't tell you its exact resale value four years from now. I can't tell you the exact day we will finish. Nor can I measure cost overruns. But every step brings us closer to a tangible goal. One day, there's a foundation. The next day, there's a roof.
And our market research suggests that eventually, this will be a rare, elite residence that we can sell for a pretty penny to some tech executive who only needs to go into Seattle once a week.
We wouldn't even have to finish the building project to see a return on our investment. At any stopping point, there is added value. Land with a road, a cabin, a well house, and a septic field... Even with an unfinished house, these fixed assets will help someone else build to their plan.
To be a proactive investor, you have to see the end goal and all the steps it takes to get there. That's because the process itself has value – even if the wisdom of many investment advisers is that "the future is risky, so just live in the moment."
Some of this is cultural. U.S. accounting rules treat research and development ("R&D") costs as current losses. Sweden's rules say that R&D costs are future gains. They are treated like investments.
For the best tech companies, putting $100,000 a year into R&D for four years is a lot like my real estate investment... It's building something that unlocks value in the years to come.
A company could invest in unique technologies that its peers can't match. Or it could develop its own manufacturing capacity, so it can be independent while its rivals must pay higher and higher prices to compete with each other in the manufacturing chain.
Tech investors would do well to understand this Swedish way of thinking. The value of a company is not based on last quarter's sales – because those sales can't tell you much about the business in a year... or four.
Instead, look at what a company is building right now. From there, you can weigh future demand, do a competitive analysis, then predict the value of a forthcoming product and how that adds to cash flow.
We like to look at free cash flow ("FCF") because it's the number that doesn't lie...
Once everything else is paid, FCF is what a company has left over for dividends and buybacks. That's how it pays you, the firm's part-owner.
Note, all of this is unaffected by the trends in the market, a sector, a fund, or even a stock. Rather, it's what the asset can be worth to you – measured against both what it cost to acquire and the cost of holding onto it.
We can use this Proactive Investing logic with companies of any size... whether we're looking at small firms or larger, more established technology firms with a long history of profits, proven marketing skills, proven demand, and a proven ability to hold off competitors.
In short, if you want to invest in tech, look for companies that are building things of value in the present... to build a lasting competitive advantage. That's the best way to successfully invest for the future.
Editor's note: Dave's research has already produced returns of 777% and 1,139% this year alone. Now, he has found a small American biotech company set to lead the fight against COVID-19... not with a vaccine, but with an innovation that could have a far greater immediate impact. Its upcoming announcement could propel this stock to 565% gains over the next six months – but you must get in before the news breaks. Click here for the full details.
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