In following our first post, SecretCaps’ second post regarding what MicroCap investors can learn from the Oracle of Omaha.

Predicting Stock Price Movements:

“We make no attempt to predict how security markets will behave; successfully forecasting short term stock price movements is something we think neither we nor anyone else can do”

-Warren Buffett 1978 Berkshire Hathaway Shareholder Letter

Warren Buffett nailed it. Yet, many of Wall Street’s analysts continue to set pin specific levels on where the market will land tomorrow, in two months and in two years. Forecasting stock prices is a losing game and forecasting prices for MicroCap companies is even more ill-advised. Adding to the normal pitfalls of forecasting, MicroCaps face more uncertainty and price fluctuations which further erode the hope of attempting to forecast their projected share prices.

Forecasting the future share price for a MicroCap is wasteful. Time and energy should be spent understanding a company and getting the story straight. If the company’s prospects and management’s credibility and drive pans out, the rest will take care of itself. Valuations should be used as a guide while understanding the story and making sure its viable should always be the MicroCap investor’s focus.

A direct example of this is apparent in my own research. Within my extensive report on SMTP Inc, I provide a valuation model based upon very conservative estimates for the company’s annual revenue run rate and projected valuation based upon the company’s recent results and execution. The point of these valuation models are simply to provide a guide for what could happen if the thesis pans out.

Obviously we are very certain that the company will continue to grow, but our thesis is based upon why the company’s solutions will pan out over the long term not on valuation models. In this specific example, market share growth and SharpSpring’s uptake are vastly more important than determining the correct P/E ratio to use.

The market sees no issue with overvaluation of an unknown, high-growth security to the benefit of the MicroCap investor - only when the story itself is right. Focus on getting the story straight and the valuation will take care of itself.

Long Term Forecasts:

“We are not concerned with whether the market quickly revalues upward securities that we believe are selling at bargain prices. In fact, we prefer just the opposite since, in most years, we expect to have funds available to be a net buyer of securities. And consistent attractive purchasing is likely to prove to be of more eventual benefit to us than any selling opportunities provided by a short-term run up in stock prices to levels at which we are unwilling to continue buying.”

-Warren Buffett 1978 Berkshire Hathaway Shareholder Letter

If I were to tell you that MicroCap investing requires a multi-year timeline, you would probably agree and then proceed to become anxious a few weeks later. The fact of the matter is that successful MicroCap investing requires long timelines to allow for management to execute, for a company to grow and for the market to value the company accordingly. MicroCap companies do not possess a constant flow of news on a daily basis. Events can take months to materialize and still be hidden in SEC filings. Although, as many MicroCap investors know, when a MicroCap executes and the market values them correctly, the upside potential can be staggering.

As stated by Mr. Buffett, a long time-line must be embraced. Many MicroCaps are illiquid, meaning only a certain level of shares change hands each day. This is not a deterrent as a long timeline means an investor can add shares over the course of several months or years to build a position. A position does not have to be obtained in a single day.

In line with Mr. Buffett’s view, there is no reason for the market to revalue a MicroCap’s price in the short term. This erodes the buying opportunity by the savvy investor. Further, developments and execution in a MicroCap do not occur over the short term, so a long-term focus should instead be taken. Its far better to take advantage of buying at low levels over the course of several months and then letting the market revalue the security correctly rather than selling for a short term, and short lived, gain.

For example, in April, 2015 we began accumulating shares of Direct Insite, at approximately fifty-cents per share. The share price stagnated at this level for months without moving. We took advantage of this since the story was on track and nothing adverse occurred. Soon after, our thesis was verified as the company signed on a global, tier-1 bank and validated our thesis regarding the company’s new SaaS working capital management solution. Shares soared to the $1 range and we are still holding. Clearly, we are hopeful the company’s solution will spread to more banks and customers over the coming months and years.

This example suggests that there is no rush, or need, for a MicroCap to be revalued in the near term. Use time as your friend and take advantage of adding to your security before the market realizes the potential. The misunderstanding of the value of a MicroCap by mainstream market investors grants us the opportunity to profit from these securities.

As long as the thesis is on track and management is executing, consider time to be your investment friend, not your investment enemy.

Portfolio Concentration:

“Our policy is to concentrate holdings. We try to avoid buying a little of this or that when we are only lukewarm about the business or its price. When we are convinced as to attractiveness, we believe in buying worthwhile amounts.”

-Warren Buffett 1978 Berkshire Hathaway Shareholder Letter

MicroCap investing requires extensive due diligence in individual companies. As such, portfolio concentration should be a product of your due diligence and the general outlook of a company. There is no reason to own hundreds of MicroCaps since: (1) only a handful are investment worthy; (2) it is impossible to do extensive research on hundreds of companies; and (3) a position in a MicroCap should be large enough to impact your bottom line if the investment pans out.

At the forefront, concentrating your investments sounds risky and popular media suggests it is so. Ask yourself if you would rather own five companies you have researched extensively, or, take a shotgun approach and own 100 companies which you know through Yahoo Finance headlines? Concentrate your investments so that they make a difference when the companies come to fruition.

I have fallen into the trap of buying too many securities after quickly reading a friends’ report or doing surface level due diligence and I am recovering from it. I have taken the stance of concentrating my investments to only my top ideas. For example, one can see the size of my positions in my last three research reports (SMTP, DIRI, RSSS) all topping 10%-15% of my portfolio.

On the flip side, I have missed out on certain trading type events in MicroCaps. Recently, I alerted my members to TPOI at $0.30 per share before it climbed to $1.00 per share and RIHT at $0.07 per share before it catapulted to $0.18 per share. Validly speaking, they were lost opportunities but both companies have significant red flags that I could not look past. TPOI’s transition to a cloud-based provider has offered no substantiated traction and RIHT needs to raise money to continue their operations. I believe an offering may be very dilutive. If these red flags start flying and the market reacts, it can fall faster than it rose. It is unwise to sleep with that lack of knowledge. These are just examples and I wish their investing bases well yet it demonstrates my point of concentrated and researched investing versus surface level trading.

It is easy to get swayed into investing in a new idea. Especially with the long timelines needed for MicroCap investing. Boredom is a powerful catalyst which can push your hand towards a new idea. Patience yields results that are far more rewarding.

Invest to make a difference - not just to add another holding to your portfolio.

Plant a few trees in your yard, they will grow larger and live longer than planting 100 flowers for the season.

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Disclosure: This post is not investment advice and is strictly informational. Do not buy or sell any security based upon this post.