Six Lessons of the Stock Market

From time to time, you learn something that turns everything you believed upside down.

I had one of those moments in August 1987. As I rode the train home from my credit-training job with a Philadelphia bank, I was reading The Wall Street Journal and saw a profile of Thornton Oglove, publisher of the $12,000-a-year Quality of Earnings Report. In that article, Oglove noted that management can boost earnings by changing accounting assumptions instead of just selling more. This was news to me; I thought net income was an objective number, like Mike Schmidt's slugging percentage.

Intrigued, I later read Oglove's Quality of Earnings: The Investor's Guide to How Much Money a Company Is Really Making, which brims with tips for spotting problems at seemingly profitable companies such as Crazy Eddie, Levitz Furniture and Wang Laboratories while you still have time to sell. Each of these one-time highfliers ran into trouble, causing big losses for financially illiterate investors.

Four years ago, when I was looking for endorsements for my own book, It's Earnings That Count, I asked Oglove first. Fortunately, my model, which identifies companies with authentic earnings power, passed muster with him. I recently spoke with Oglove, who has some interesting comments on such topics as portfolio management, Google (GOOG - commentary - Cramer's Take) and the future of the U.S. dollar.

Six Stock Market Lessons

After a 23-year career on Wall Street, Oglove retired in 1990. Although he was an expert at reading financial statements, he achieved "only modest results" as an investor, so he set out to find reasons for his relative lack of success. After figuring them out, Oglove says his net worth began to climb and his annual returns are now much better than they were when he was examining SEC filings every day. To that end, he offers several ideas for investors who want to improve their own game:

1. Don't get bogged down in accounting minutiae.

Oglove often sold stocks for minor accounting reasons that he later regretted. Today, he doesn't sell unless he spots a major accounting or balance-sheet problem. For example, if a company borrows money and there is a repayment trigger tied to a minimum net income or stock price figure, then Oglove would sell.

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At the time of publication, Heiserman had no positions in any of the stocks mentioned, although holdings can change at any time.

Hewitt Heiserman conceived the Earnings Power Chart and the Earnings Power Staircase. A graduate of Kenyon College with distinction in history, Heiserman is a member of the Boston Security Analyst Society and the CFA Institute. He also authored It's Earnings That Count. For additional information, please visit www.earningspower.com. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Heiserman appreciates your feedback; click here to send him an email.

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