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Invest in What You Know and Like and Understand

“Twenty years in this business convinces me that any normal person using the customary three percent of the brain can pick stocks as well as, if not better, than the average Wall Street expert.”

- Peter Lynch

One of the wisest money managers of all time is Peter Lynch, the one-time portfolio manager of the spectacularly successful Fidelity Magellan Fund. He managed that fund for thirteen years and a thousand dollars invested in it when he started in 1977 ended up being worth $28,000 when he retired.

Genius? Just lucky? Or what? Well, luckily for us, Peter wrote a couple of books on stock picking telling us how he did it – One Up On Wall Street and Beating the Street. He maintains that the average intelligent investor can do better than most professional money managers using his methods. And interestingly enough, it’s not rocket science. It’s really just plain common sense. And the place to start, he says, is your own back yard.

What he means is that if you look around you, notice what you use and like and what other people seem to use and like, you may have found a good company to invest in. It’s important, he says, to understand what the company does. And he rather likes companies that do basic things, not fancy-schmanzy high falutin’ stuff that sounds impressive but what the heck is it? He also likes companies that serve a niche market and are growing.

Of course, the numbers are important. You want a company whose revenues and profits are growing. You want a company that has low to no debt. You want a company that has been doing well on the stock market even though it has not been noticed by the big guys.

Of course he goes into a lot more detail than I can cover here, but he gives an example of what he means in Beating the Street. A seventh grade social studies class at St. Agnes School in Arlington, Massachusetts used his methods and their own research to develop a fourteen stock portfolio in 1990. Two years later that portfolio was up 70%, outperforming the S&P 500 index which returned just 26%. These young students invested in what they knew and liked and used including Walt Disney, Nike, The Gap, Pentech (makers of colored markers), Pepsi, and Topps (makers of baseball cards).

 This led Lynch to create a new investment principle:

Maybe one of the best examples of this principle in action is the case of Anne Scheiber. She represents, not only the superb returns that can be enjoyed from a skillful buy and hold strategy, but also the pluck to jump back in the game after losing everything.

In 1933 and 1934, at the height of the depression, 38 year old Anne invested most of her life savings in the stock market. She let her broker brother make the picks and they were good ones. Unfortunately, his company went bankrupt and she lost everything. But Anne did not give up.

On her modest salary as an auditor for the Internal Revenue Service (just over $3000 a year), she managed to save another $5000 over the next ten years. In 1944 she invested in the stock market again. When she died in January 1995 at the age of 101, that modest investment had grown to $20 million. That's not a misprint. $20 million!!! That represents an annual compounded rate of return of  17.5%, ranking her among the top investors of all time.

Her secret? Miss Scheiber invested in stocks of companies that she knew and understood, companies whose products she used. She loved the movies. So she invested in Loew's, Columbia, Paramount and Capital Cities Broadcasting. She drank Coke and Pepsi and bought shares in both. She invested in the companies that made medications she took - Schering Plough and Bristol Myers Squibb. And so on. And she hung on to them through thick and thin for over forty years. Through the bear market of 1973-1974. Through the crash of 1987.

Miss Scheiber left virtually the entire fortune to New York's Yeshiva University. By the time the estate was settled in December of 1995, it had grown to $22 million.

Miss Scheiber’s story illustrates several important points. One is that you’re never too old to start. She lost everything when she was 38 and scraped together another $5000 which she invested at age 48. True, she did live to 101, which illustrates a second point – the time value of money. Even a modest investment can become millions over time. And the third point is the Lynch Principle, invest in what you know and understand and use.


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