Review: Payback Time

Every Sunday, The Simple Dollar reviews a personal finance book or other book of interest.

paybackA few years ago, I read and really enjoyed Phil Town’s first investment book, Rule #1 (you can read my review here). Town actually contacted me after reading my review and offered a few thoughts on my comments on the book and we exchanged a few emails over the years. Thus, when he finished his follow-up book, I was quite happy to give it a read.

Town’s basic ideas are pretty straightforward. He believes ardently in value investing, meaning that you look for good, healthy companies that are selling for much less than they should be when compared to similar companies. That requires a great deal of patience to do. In both this book and his last book, he goes over a straightforward formula for finding those companies and identifying whether they’re on sale or not.

So what makes this book different than the earlier book? Let’s dig in and take a look.

How the Wealthy Use Down to Go Up
Town opens the book by explaining the basic strategy Payback Time is focused on, which he calls “stockpiling.” To put it simply, a person buys stock in an individual company that they deeply believe in for whatever reason, then they just keep buying more and more of it. They then use the dividends from the stock to live off of or they reinvest them into more of the stock. So how does this strategy use “down” to go “up”? If you’re owning this for the long haul – basically forever – you actually hope for a down market so that the price of the stock you’re buying is lower. Price does not indicate value in any way – it’s no different than buying the same item at the store when it’s on sale instead of when it’s not on sale.

Mutual Fund Investing Makes No Sense
Here, Town basically writes off every kind of fund that’s not an index fund as junk and a waste of your money. In short, he defines such funds as being the bastion of the investor who really doesn’t have any idea what they’re doing with their money. Sometimes, that’s acceptable if people recognize that they truly don’t have the time to study such things with any detail. For those people, the only real bet is index funds, which are low cost and usually match the market. You can’t hit home runs with them, but you certainly won’t strike out by buying them.

Threee Ms Equal No-Risk Investments
There are a lot of traits that a “perfect” business would have, but there is no perfect business in this world – nobody’s perfect, after all. Instead, Town looks for wonderful businesses to invest in, and wonderful businesses are usually characterized by three criteria – they have great meaning to you (meaning you understand the company and fully approve of their business model), they have a big moat (meaning that it’s protected from competition in some key way, making it both durable and profitable), and they have great management (dedicated, passionate, and honest people running the shop). These are the kinds of businesses you should constantly be looking for and investing in.

Payback Time Means “No Fear”
Once you’ve identified businesses you want to invest in, you should wait until the time is right to buy – in other words, when they’re on sale. How do you know? It has little to do with what the overall market is doing. Instead, you want to watch the P/E ratio (price to earnings) of the stock. You can easily get this information online at pretty much any stock investment website. Just wait until that ratio is noticeably lower than usual without any real changes in how the company is performing (this often happens when it’s not being hyped up at all but is just trucking along, doing its business) and buy in. When the P/E ratio is high, don’t buy (and if you have a reason, it might be a time to sell). He goes quite in depth with this formula, but much of the information is very, very similar to his earlier book Rule #1, which I mentioned earlier and liked.

Eight Baby Steps to Wealth
What are the eight steps? Find it, value it, watch it, buy it, own it, stockpile it, sell it, repeat. In other words, look patiently for companies that meet your criteria (and never rush into buying). When you find the right one, buy it. Keep buying it whenever the P/E ratio (and other indicators) tell you to do so. Sit on the stock and collect dividends. When that ratio gets high, sell the stock. Then repeat. It’s pretty straightforward and actually makes a great deal of sense, particularly to a conservative investor like me.

Just the FACs, Ma’am
Here, Town talks about two methods for determining whether or not you should buy more of a stock once you already own some. He spends most of his time focusing on a method that centers on technical analysis (i.e., looking at charts), which is a method I find to be akin to voodoo. Instead, I prefer the other method, which basically means you pick one day a month to evaluate a stock. If it’s below the P/E ratio (or other similar indicator) you bought the stock at originally, you buy. Otherwise, you stick the money into a savings account and wait until a month when it’s low enough to buy.

A Tale of One Family
All of the information in the previous few chapters is combined together into a real-world look at how a family invests. Basically, it’s a series of real-number examples of the ideas from the book, showing how they all work together and click.

Free Money with a Berky
The final chapter (or at least the last one that’s not functionally an epilogue) contains a brilliant idea that Town calls a “Berky” (short for Berkshire Hathaway) that answers the question of how people come up with the money to actually do this kind of investing. It’s actually simple: automatic savings. You should set up a savings account for the sole purpose of investing according to the ideas in this book (or your own principles). Have your bank put some amount automatically into this account each week (or each month). Then, invest solely from that account. This way, even if the investment tanks, it doesn’t affect your day-to-day personal finances – it’s just an exercise in building wealth. This is absolutely the way people should start investing if they’re tempted.

Is Payback Time Worth Reading?
As with many follow-up books, Town takes the content of his very good earlier book, Rule #1, and places it in a broader context. If you want to know more about the investing part of the book, I’d suggest reading the earlier book as well.

One common complaint about Rule #1 that I would anticipate with this book is that people ask where the details are on past results, as Town doesn’t dwell on this for any significant length. My thought is this: past performance is no indication of future results. Much like any other investment strategy book, it’s simply a tool in your arsenal, one you can use in your own investigations to figure out what works. There are lots of investment schemes that have great results for a period in the past but are awful today (that’s why fund managers never have long strings of success). The system that Town espouses is incredibly simple, can be easily tracked over a long period using pretty much any investing website, and is backed by a good idea (value investing). Does it mean it’s the be-all-end-all of investment strategies? No. But it has enough going for it (simplicity, logic, and clarity) that it’s worth at least paying attention to.

All of that being said, I did feel in the end that I learned more (or at least was provoked into more thought) reading Rule #1, but that may have been that the meatiest parts of this book often just rehashed that information. Both books are worthwhile reads, however, and present interesting ideas, which is all I can really ask for in an investment book.