Whether it is a value strategy or a growth strategy, successful investing is dependent upon identifying opportunities and executing on them before the crowd rushes in.
In 1976, Warren Buffett purchased Geico Insurance Co. stock for $2 per share during a downturn, saw improvement in operations, and eventually took over full control of the company. Geico has been a profitable part of Berkshire Hathaway (NYSE:BRK.B) since that time.
Before the housing bubble burst, John Paulson sold short housing and made $15 billion for his investors. In 2006, anyone with a pulse could go to a mortgage broker and get a home loan. Sometimes, these loans were given without any documentation. The reason was simple: investors, home buyers, and everyone else was confident without a doubt that home prices would always rise. Subprime securities were packaged and rated investment grade by ratings agencies.
The key to making a critical and accurate once-in-a-lifetime investment choice is being able to separate the populace viewpoint from the future trend. You might be saying that this would sound much better coming from the mouth of a tested market guru.
In one of his books, Peter Lynch, the legendary mutual fund manager, gave us some timeless principles to investing. Here are a few of his principles.
"When the operas outnumber the football games three to zero, you know there is something wrong with your life."
Lynch was saying that successful investing starts at home with the family. Investing is not pretentious. It is necessary. Investing is about identifying everyday trends, such as where your teenage daughter shops and which restaurant chain is the most popular.
"Gentlemen who prefer bonds don't know what they are missing."
Lynch also said that stocks were the best hedge against inflation. When this interest rate bubble is finally burst by the Federal Reserve, expect this wisdom to be touted incessantly by everyone. Bonds are at their peak right now, but that could change in six to twelve months. When rates finally rise, it could be a sharp ascent, especially if it is accompanied by inflation.
"Never invest in any idea you can't illustrate with a crayon."
You might guess that the investors who bought Enron stock before the collapse may be kicking themselves when reading this principle. If accounting shenanigans weren't so complicated, someone would have caught on much faster. However, the company was investing in "variable interest entities" that existed off the balance sheet. It was partly disclosed in regulatory filings, but that wasn't enough to accurately draw a picture with a crayon. Imagine drawing a picture of the business model for your local electric utility company. What might that picture look like? You might see a power plant, some electrical lines, a home, and a person who comes to read the meter. It's much easier to understand business than energy trading.
"You can't see the future through a rearview mirror."
After the dot-com bubble burst, you may have sold Amazon.com (NASDAQ:AMZN) shares at the bottom of the market in 2003. The shares you sold under $25 are now selling for over $200. A smarter move would have been to accumulate a larger position over time by buying shares. However, at the time, you may have listened to the pundits and sold the stock. Some of the paid analysts were saying the stock was worthless.
"If you like the store, chances are you'll love the stock."
Back in the early 2000s, you may have walked into a Panera Bread Co. (NASDAQ:PNRA) restaurant, thinking you were getting fast food. Certainly, the food at Panera comes out fast, but also with higher quality than you may be expecting. Panera has carved out a market niche by appealing to all age groups and providing atmosphere along with high quality fast food. If you invested in Panera stock in 2004 and held until now, you would have quadrupled your money.
"Corporations, like people, change their names for one of two reasons: either they've gotten married, or they've been involved in some fiasco that they hope the public will forget."
This one will continue to be true for years to come. If you need a recent example, look at GMAC, which is now called Ally. After General Motors (NYSE:GM) allowed GMAC to load up on subprime securities, the company became insolvent. As part of the auto bailout and the financial bailout, GMAC was nationalized and the name was changed to Ally so that they could grow deposits and continue to help propel lending.
"Whatever the Queen is selling, buy it."
When Lynch said "the Queen," he really meant "the government." Lynch was saying that IPOs of major public institutions as private companies are almost always attractively priced and you should always buy. The reason for this attractive pricing is that the government wants to retain the ability to sell off future assets. If an IPO doesn't do well, it sets a negative precedent for future asset sales.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.