I have blogged about my nibbles and gobbles in the stock market before and although it might be quite intuitive to us, what exactly is a nibble in terms of numbers? I received an email from a reader asking if I could blog about this in greater detail. So, this is my attempt to give some notable form to the concept of nibbling in the stock market.
When I have identified a business I would like to invest in, I should also decide how much money I want to invest in it. Now, how do I do this? Hint: Remember the pyramid? Cannot remember? Go to related post number 1 at the end of this blog post.
So, based on my own unique pyramid, I would be able to estimate (yes, it is always an estimate for me) how much I want to invest in the business. If it was an investment for income and growth and if I had allocated, say, $200,000 for that kind of investments in my portfolio and if there should be $50,000 left in unused funds earmarked for the same, then, that should be the upper limit of my investment in the business.
Of course, we can have variations. So, if I had decided that no single investment in this layer of the pyramid (i.e. my portfolio) should exceed $25,000 in size, then, that $50,000 left in unused funds for this layer would have had to find at least two businesses to invest in, not one.
Now, let us say that I had decided that $50,000 was a good amount to invest in a business I had researched that had a PE ratio of 12x under more normalised circumstances and generated a dividend yield of 3% based on a pay out ratio of about 35%, I might start nibbling at a PE ratio of 12x. Pay a fair price for a wonderful business? I can accept that.
To me, a nibble should be a single digit percentage of the total amount earmarked for the investment. So, in this case, it would be under $5,000.
In a reply to a reader's comment in a recent blog post on SCI and SMM, I said I was done nibbling and that I would wait to see if prices should go lower, paying attention to key support levels. Now, when do we stop nibbling? My take? When we have already invested a third or so of the funds earmarked for the purpose.
Then, what about the rest of the money? The rest of the money is reserved for gobbling. What is a gobble? A gobble is bigger than a nibble. 50% bigger? 100% bigger? Well, I am not prescriptive.
One instance in which I would gobble is when I feel that the stock has become too undervalued. So, for example, if a stock which usually traded at a PE ratio of 11x to 13x should be offered by Mr. Market at a price that translated to a PE ratio of under 10x, to me, that would be undervalued.
Then, the closer the PE ratio declines to crisis valuation, the more undervalued the stock becomes, all else remaining equal.
Now, this is just me talking to myself. Definitely, there is nothing sacred about the numbers. They are just examples. The philosophy that is the foundation of this blog post is, however, quite timeless. I hope this blog post has thrown some light on the matter of nibbles and gobbles.
Specific numbers and percentages? You know your circumstances best. That is your job.
1. Investing for income and position sizing.
2. AK went shopping in the (stock) market. (Nibble.)
3. Saizen REIT: Why did I buy? Buy more? (Gobble.)