"The simpler it is, the better I like it."
Peter Lynch (born January 19th, 1944) is an American investor, mutual fund manager and philanthropist. Whilst serving as the manager of the Magellan Fund at Fidelity Investments between 1977-1990 Lynch averaged a 29.2% annualized return. His investment style is commonly known as GARP investing, this stands for 'Growth at a reasonable price'. Lynch differs from traditional value investors as he would not be adverse to paying a high multple for a company displaying exceptional growth. He would, however, be skeptical of companies with extremely high growth rates (>40%) and preferred those with a growth rate of around 20-30%. Lynch would not only study the financial statements of a company but also talk to management and visit their places of business to gain an insight into their business models and to determine the potential for future growth.
- Pay close attention to dull or unappealing stocks.;
- One of Lynch's all time favorite stocks was the burial service company 'Service Corporation International'. Companies involved in dealing with dead bodies are not the most appealing investment proposition but Lynch correctly identified the growth strategy of the company and the recession proof nature of the business. He invested and the stock gained approximately 1000% between 1980-1990.
- Lynch invested in a waste disposal company called 'Waste Management Inc' which ended up going up a hundredfold.
- In 1985 Lynch invested in a company called 'Envirodyne', the firm had just bought another company called 'Viskase' which manufactured intestinal byproducts for sausage and hotdog casings. Lynch bought the stock for $3 and sold it for around $37 in 1988, a ten-bagger in 3 years!
- Lynch liked companies with dull or ridiculous names. One such firm that came onto his radar was the absurdly named 'Pep Boys - Manny, Moe and Jack'. The company was a service and automotive after-market company and Lynch reasoned that no self respecting fund manager would be seen dead investing in such a ridiculously named enterprise. In 1980 the stock was trading at less than $1 but had climbed to $35 by the mid 90's.
- Pay attention to utilities companies in distress - Lynch suggested that utilities firms in distress are interesting investments. Since they provide vital resources to citizens the Government cannot ignore their plight and will likely bail them out one way or another. Lynch recommends investing in them once dividends have been reduced or suspended and selling once they are reinstated. Investors must be cautious when investing in distressed utilities and treat each firm on a case by case basis. If the problems which the company is facing are too large the Goverment may have to part-nationalize it leading to a loss on investment for shareholders.
- Pay attention to IPO's which involve the privatization of Government-controlled companies - Lynch recommends looking at IPO's of privatized state-controlled firms as politicians are inclined to sell at a bargain price, since they are in the business of collecting votes it is not in their interest to fleece the electorate. State owned companies also tend to be mismanaged and inefficient since there is no profit motive present. Once these companies go private and the profit motive emerges their performace tends to improve as market forces drive innovation and efficiency.
- Look at a company's competitors - Lynch would always question executives as to who was their greatest competitor as they would sometimes turn out to be the more attractive investment proposition.
- Avoid the hottest stock in a hot industry - Lynch advises to avoid these stocks at any price since they are certain to be overvalued due to hype and irrational buying.
- Avoid stocks with insufficient information available - Contrary to the advice of other super investors Lynch recommends avoiding companies where there is limited information available, these would include many over-the-counter and pink sheet stocks. Lynch argues that beating the market requires gaining an edge and it is much harder to do this when only limited information is available. He also cautions that management are inclined to make good news public but keep negative news private, the more transparent the information is the better.
- Diversify when investing in fast-growing companies. - Lynch states that, in his experience, only 1 out of 5 fast-growing companies becomes a successful investment, the others tend to be mediocre or poor. Whilst the outperformance of the successes drives superior overall returns the fact remains that investors must be suitably diversified.
- Don't pick stocks based upon macro-economic forecasts - "The way you lose money in the stock market is to start off with an economic picture. All these great heavy-thinking deals kill you." Lynch spent virtually no time thinking abut the economy, he argued that since there are so many variables at play it is impossible to make any meaningful predictions.
- Take advantage of cycles within various parts of the market. - Lynch recommends moving out of small-caps and into large-caps when the P/E ratio of the Russell 2000/3000 index is around 2x the S&P 500. When the Russell 2000/3000 is <1.2x the S&P 500 he recommends moving into small-caps.
- Become cautious when the general public starts buying stocks - Lynch warns investors to become cautious when the general public begins to share stock tips and start buying en masse. This is a good indicator that the market is near its top as euphoria and irrationality drags them into the market in search of a quick buck.
- Sell a stock if the investment catalyst disappears - Lynch advises investors to sell a stock if the catalyst, the event which is assumed to drive up the share price, has disappeared.
- Accumulate a position rather than going all in at the outset - Lynch advises investors to build a position over time rather than making a one-time large purchase. Intrinsic value is a range and not a precise figure, as such it is impossible to pinpoint the ideal entry point or pick a bottom. It is much better to build the position over time so one is able to average down the cost price if the stock declines. It also provides the investor with more time to assess the investment thesis if risks are present or to direct the capital to a better opportunity if it arises.
- Pay close attention to a company's debt and liquidity position - Lynch paid close attention to a company's short-term debt level (debts due < 1 year) and also to the type of debt. Bank debt is the least favourable since it can more easily be called in. He also made a point to check that a company had enough cash on hand to comfortably service its expenses including interest payments.
'Making Money in the Stock Market'. Peter Lynch on Investing in the U S Economy, 1994
Peter Lynch's 25 Golden Rules of Investing*
*There's actually 26 rules listed
*There's actually 26 rules listed
The following list is taking from Peter Lynch's book 'Beating The Street';
- Investing is fun, exciting, and dangerous if you don't do any work.
- Your investor's edge is not something you get from Wall Street experts. It's something you already have. You can outperform the experts if you use your edge by investing in companies or industries you already understand.
- Over the past three decades, the stock market has come to be dominated by a herd of professional investors. Contrary to popular belief, this makes it easier for the amateur investor. You can beat the market by ignoring the herd.
- Behind every stock is a company, find out what it's doing.
- Often, there is no correlation between the success of a company's operations and the success of its stock over a few months or even a few years. In the long term, there is a 100 percent correlation between the success of the company and the success of its stock. This disparity is the key to making money; it pays to be patient, and to own successful companies.
- You have to know what you own, and why you own it. "This baby is a cinch to go up!" doesn't count.
- Long shots almost always miss the mark.
- Owning stocks is like having children - don't get involved with more than you can handle. The part-time stock picker probably has time to follow 8-12 companies, and to buy and sell shares as conditions warrant. There don't have to be more than 5 companies in the portfolio at any time.
- If you can't find any companies that you think are attractive, put your money into the bank until you discover some.
- Never invest in a company without understanding its finances. The biggest losses in stocks come from companies with poor balance sheets. Always look at the balance sheet to see if a company is solvent before you risk your money on it.
- Avoid hot stocks in hot industries. Great companies in cold, no growth industries are consistent big winners.
- With small companies, you're better off to wait until they turn a profit before you invest.
- If you're thinking about investing in a troubled industry, buy the companies with staying power. Also, wait for the industry to show signs of revival. Buggy whips and radio tubes were troubled industries that never came back.
- If you invest $1,000 in a stock, all you can lose is $1,000, but you stand to gain $10,000 or even $50,000 over time if you're patient. The average person can concentrate on a few good companies, while the fund manager is forced to diversify. By owning too many stocks, you lose this advantage of concentration. It only takes a handful of big winners to make a lifetime of investing worthwhile.
- In every industry and every region of the country, the observant amateur can find great growth companies long before the professionals have discovered them.
- A stock-market decline is as routine as a January blizzard in Colorado. If you're prepared, it can't hurt you. A decline is a great opportunity to pick up the bargains left behind by investors who are fleeing the storm in panic.
- Everyone has the brainpower to make money in stocks. Not everyone has the stomach. If you are susceptible to selling everything in a panic, you ought to avoid stocks and stock mutual funds altogether.
- There is always something to worry about. Avoid weekend thinking and ignore the latest dire predictions of the newscasters. Sell a stock because the company's fundamentals deteriorate, not because the sky is falling.
- Nobody can predict interest rates, the future direction of the economy, or the stock market. Dismiss all such forecasts and concentrate on what's actually happening to the companies in which you've invested.
- If you study 10 companies, you'll find 1 for which the story is better than expected. If you study 50, you'll find 5. There are always pleasant surprises to be found in the stock market - companies whose achievements are being overlooked on Wall Street.
- If you don't study any companies, you'll have the same success buying stocks as you do in a poker game if you bet without looking at your cards.
- Time is on your side when you own shares of superior companies. You can afford to be patient - even if you missed Wal-Mart in the first five years, it was a great stock to own in the next five years. Time is against you when you own options.
- If you have the stomach for stocks, but neither the time nor the inclination to do the homework, invest in equity mutual funds. Here, it's a good idea to diversify. You should own a few different kinds of funds, with managers who pursue different styles of investing: growth, value, small companies, large companies, etc. Investing in six of the same kind of fund is not diversification.
- The capital gains tax penalizes investors who do too much switching from one mutual fund to another. If you've invested in one fund or several funds that have done well, don't abandon them capriciously. Stick with them.
- Among the major markets of the world, the U.S. market ranks eighth in total return over the past decade. You can take advantage of the faster-growing economies by investing some of your assets in an overseas fund with a good record.
- In the long run, a portfolio of well-chosen stocks and/or equity mutual funds will always outperform a portfolio of bonds or a money-market account. In the long run, a portfolio of poorly chosen stocks won't outperform the money left under the mattress.