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I am sure most of my listeners have heard of Peter Lynch, one of the great investment managers of all time, who managed the Fidelity Magellan Fund for 13 years and increased assets under management from $20 million to $13 billion by the time he retired. Under his management, the fund returned an average of 29% per year for 13 years… so if you were lucky enough to have invested $10,000 in Magellan Fund when Lynch took over management it would have grown to $280,000 13 years later. Peter Lynch is also famous for introducing the PEG ratio which he used to determine if a stock was cheap relative to its growth prospects. The PEG ratio is simply the company’s P/E ratio divided by its historical earnings growth rate. So if two companies have the same P/E ratio, pick the one with the higher growth rate… the one with a lower PEG ratio.
However, many of my younger listeners may not be aware of Peter Lynch and I’d urge you to pick up both of his best-selling investment books that are a must read for any serious investor.
Peter Lynch’s Four Investment Principles
So, for my listeners – young and old, first, here are Peter Lynch’s four investment principles:
Never invest in an idea that you can’t illustrate with a crayon
#1 Never invest in an idea that you can’t illustrate with a crayon.
#2 You can’t see the future through a rear-view mirror.
#3 When yields on long-term government bonds exceed the dividend yields of the S&P 500 by 6% or more, sell stocks and buy bonds. I think Lynch got this based on an average long-term 6% return on equities, and his point is if bonds give you more than that 6% yield, it’s time to shift your money there.
#4 The best stock to buy is the one you already own.
Peter Lynch’s Golden Rules for Investing
And now, here are his golden rules on investing listed in his book, .
#1 You have to know what you own, and why you own it.
#2 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.
#3 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.
#4 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.
#5 Over the past few 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. I like that one.. he makes it sound easy, doesn’t he?!
#6 Often, there is no correlation between success of a company’s operations and the success of its stock over a few months or even years. In the long term, there is 100% correlation between the success of the company and the success of the stock. This disparity is the key to making money; it pays to be patient and to own successful companies.
#7 Long shots almost always miss the mark.
#8 Owning stock 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. You don’t have to have more than five companies in your portfolio at any one time to make money.
#9 If you can’t find any companies that you think are attractive, put your money in the bank until you discover some.
#10 Avoid hot stocks in hot companies. Great companies in cold, non-growth industries are consistent big winners.
#11 With small companies, you’re better off waiting until they turn a profit before you invest.
#12 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. So you need to find a few good stocks to make a lifetime of investing worthwhile.
#13 In every industry and every region, the observant amateur can find great growth companies long before the professionals have discover them.
#14 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 bargains left behind by investors who are fleeing the storm in panic.
#15 There is always something to worry about. Avoid weekend thinking and ignore the latest dire predictions of newscasters. Sell a stock because the company’s fundamentals deteriorate, not because the sky is falling.
#16 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 you’ve invested in.
#17 If you study 10 companies, you’ll find one with a story that is better than you expected. If you study 50, you’ll find five. There are always pleasant surprises to be found in the stock market – companies whose achievements are being overlooked by Wall Street.
#18 If you don’t study any companies you have the same chance of success buying stocks as you do in a poker game if you bet without looking at your cards.
#19 Time is on your side when you own shares of superior companies. You can afford to be patient… even if you missed Walmart (WMT) 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.
So there you have it – simple investing guidelines – timeless classics – that you should perhaps refer to periodically and use to your advantage.
