One Up On Wall Street: How To Use What You Already Know To Make Money In

by Peter Lynch

It’s also important to be able to make decisions without complete or perfect information. Things are almost never clear on Wall Street, or when they are, then it’s too late to profit from them.

it’s crucial to be able to resist your human nature and your “gut feelings.”

The unwary investor continually passes in and out of three emotional states: concern, complacency, and capitulation. He’s concerned after the market has dropped or the economy has seemed to falter, which keeps him from buying good companies at bargain prices. Then after he buys at higher prices, he gets complacent because his stocks are going up. This is precisely the time he ought to be concerned enough to check the fundamentals, but he isn’t. Then finally, when his stocks fall on hard times and the prices fall to below what he paid, he capitulates and sells in a snit.

Some have fancied themselves “long-term investors,” but only until the next big drop (or tiny gain), at which point they quickly become short-term investors and sell out for huge losses or the occasional minuscule profit.

The true contrarian waits for things to cool down and buys stocks that nobody cares about, and especially those that make Wall Street yawn.

The trick is not to learn to trust your gut feelings, but rather to discipline yourself to ignore them. Stand by your stocks as long as the fundamental story of the company hasn’t changed.

I’d love to be warned before we do go into a recession, so I could adjust my portfolio. But the odds of my figuring it out are nil.

Some people wait for these bells to go off, to signal the end of a recession or the beginning of an exciting new bull market. The trouble is the bells never go off. Remember, things are never clear until it’s too late.

No matter how we arrive at the latest financial conclusion, we always seem to be preparing ourselves for the last thing that’s happened, as opposed to what’s going to happen next. This “penultimate preparedness” is our way of making up for the fact that we didn’t see the last thing coming along in the first place.

The great joke is that the next time is never like the last time, and yet we can’t help readying ourselves for it anyway.

Someday there will be another recession, which will be very bad for the stock market, as opposed to the inflation that is also very bad for the stock market. Maybe there will already have been a recession between now and the time this is published.

When the neighbors tell me what to buy and then I wish I had taken their advice, it’s a sure sign that the market has reached a top and is due for a tumble.

I don’t believe in predicting markets. I believe in buying great companies—especially companies that are undervalued, and/or underappreciated.

believe Warren Buffett. “As far as I’m concerned,” Buffett has written, “the stock market doesn’t exist. It is there only as a reference to see if anybody is offering to do anything foolish.”

What makes him the greatest investor of all time is that during a certain period when he thought stocks were grossly overpriced, he sold everything and returned all the money to his partners at a sizable profit to them. The voluntary returning of money that others would gladly pay you to continue to manage is, in my experience, unique in the history of finance.

If you rely on the market to drag your stock along, then you might as well take the bus to Atlantic City and bet on red or black.

If you wake up in the morning and think to yourself, “I’m going to buy stocks because I think the market is going up this year,” then you ought to pull the phone out of the wall and stay as far away as possible from the nearest broker. You’re relying on the market to bail you out, and chances are, it won’t.

If you want to worry about something, worry about whether the sheet business is getting better at West Point-Pepperell, or whether Taco Bell is doing well with its new burrito supreme. Pick the ...

That’s not to say there isn’t such a thing as an overvalued market, but there’s no point worrying about it. The way you’ll know when the market is overvalued is when you can’t find a single company that’s reasonabl...

The reason Buffett returned his partners’ money was that he said he couldn’t find any stocks worth owning. He’d looked over hundreds of individual companies and foun...

The best place to begin looking for the tenbagger is close to home—if not in the backyard then down at the shopping mall, and especially wherever you happen to work.

So often we struggle to pick a winning stock, when all the while a winning stock has been struggling to pick us.

In general, if you polled all the doctors, I’d bet only a small percentage would turn out to be invested in medical stocks, and more would be invested in oil; and if you polled the shoe-store owners, more would be invested in aerospace than in shoes, while the aerospace engineers are more likely to dabble in shoe stocks. Why it is that stock certificates, like grasses, are always greener in somebody else’s pasture I’m not sure.

You don’t necessarily have to know anything about a company for its stock to go up. But the important point is that (1) the oil experts, on average, are in a better position than doctors to decide when to buy or to sell Schlumberger; and (2) the doctors, on average, know better than oil experts when to invest in a successful drug. The person with the edge is always in a position to outguess the person without an edge—who after all will be the last to learn of important changes in a given industry.

The oilman who invests in SmithKline because his broker suggests it won’t realize that patients have abandoned Tagamet and switched to a rival ulcer drug until the stock is down 40 percent and the bad news has been fully “discounted” in the price. “Discounting” is a Wall Street euphemism for pretending to have anticipated surprising developments.

Though people who buy stocks about which they are ignorant may get lucky and enjoy great rewards, it seems to me they are competing under unnecessary handicaps, just like the marathon runner who decides to stake his reputation on a bobsled race.

It might be a service industry, the property-casualty insurance business, or even the book business where you can spot a turnaround. Buyers and sellers of any product notice shortages and gluts, price changes and shifts in demand.

Such information isn’t very valuable in the auto industry, since car sales are reported every ten days. Wall Street is obsessed with cars. But in most other endeavors the grassroots observer can spot a turnaround six to twelve months ahead of the regular financial analysts.

It doesn’t have to be a turnaround in sales that gets your attention. It may be that companies you know about have incredible hidden assets that don’t show up on the balance sheet. If you work in real estate, maybe you know that a department store chain owns four city blocks in downtown Atlanta, carried on the books at pre–Civil War prices. This is a definite hidden asset, and similar opportunities might be found in gold, oil, timberland, and TV stations.

You’re looking for a situation where the value of the assets per share exceeds the price per share of the stock. In such delightful instances you can truly buy a great deal of something for nothing. I’ve done it myself numerous times.

I could go on for the rest of the book about the edge that being in a business gives the average stockpicker. On top of that, there’s the consumer’s edge that’s helpful in picking out the winners from the newer and smaller fast-growing companies, especially in the retail trades.

Whichever edge applies, the exciting part is that you can develop your own stock detection system outside the normal channels of Wall Street, where you’ll always get the news late.

However a stock has come to your attention, whether via the office, the shopping mall, something you ate, something you bought, or something you heard from your broker, your mother-in-law, or even from Ivan Boesky’s parole officer, the discovery is not a buy signal.

Just because Dunkin’ Donuts is always crowded or Reynolds Metals has more aluminum orders than it can handle doesn’t mean you ought to own the stock. Not yet. What you’ve got so far is simply a lead to a story that has to be developed.

you ought to treat the initial information (whatever brought this company to your attention) as if it were an anonymous and intriguing tip, mysteriously shoved into your mailbox. This will keep you from buying a stock just because you’ve seen something you like, or worse, because of the reputation of the tipper, as in: “Uncle Harry’s buying it, and he’s rich, so he must know what ...

It seems to me that this homework phase is just as important to your success in stocks as your previous vow to ignore the short-term gyrations of the market.

Investing without research is like playing stud poker and never looking at the cards.

Isn’t that Houndstooth over there in his recliner, reading the Consumer Reports article on the relative thickness and absorbency of the five popular brands of toilet paper? He’s trying to figure out whether or not to switch to Charmin. But will he give equal time to reading the annual report of Procter and Gamble, the company that makes the Charmin, before he invests $5,000 in the stock? Of course not. He’ll buy the stock first and later toss the Procter and Gamble annual report into the garbage can. The Charmin syndrome is a common affliction, but it’s easily cured. All you have to do is put as much effort into picking your stocks as you do into buying your groceries.

Even if you own stocks its useful to go through the exercise

If you’re considering a stock on the strength of some specific product that a company makes, the first thing to find out is: What effect will the success of the product have on the company’s bottom line?

The size of a company has a great deal to do with what you can expect to get out of the stock. How big is this company in which you’ve taken an interest? Specific products aside, big companies don’t have big stock moves. In certain markets they perform well, but you’ll get your biggest moves in smaller companies. You don’t buy stock in a giant such as Coca-Cola expecting to quadruple your money in two years. If you buy Coca-Cola at the right price, you might triple your money in six years, but you’re not going to hit the jackpot in two.

Once I’ve established the size of the company relative to others in a particular industry, next I place it into one of six general categories: slow growers, stalwarts, fast growers, cyclicals, asset plays, and turnarounds.

Three of my six categories have to do with growth stocks. I separate the growth stocks into slow growers (sluggards), medium growers (stalwarts), and then the fast growers—the superstocks that deserve the most attention.

THE SLOW GROWERS

Usually these large and aging companies are expected to grow slightly faster than the gross national product. Slow growers didn’t start out that way. They started out as fast growers and eventually pooped out, either because they had gone as far as they could, or else they got too tired to make the most of their chances. When an industry at large slows down...

Sooner or later every popular fast-growing industry becomes a slow-growing industry, and numerous analysts and prognosticators are fooled. There’s always a tendency to think that things will never change, but inevitably they do.

It’s easy enough to spot a slow-grower in the books of stock charts that your broker can provide, or that you can find at the local library. The chart of a slow grower such as Houston Industries resembles the topographical map of Delaware, which, as you probably know, has no hills.

Another sure sign of a slow grower is that it pays a generous and regular dividend.

You won’t find a lot of two to four percent growers in my portfolio, because if companies aren’t going anywhere fast, neither will the price of their stocks.

THE STALWARTS

Stalwarts are companies such as Coca-Cola, Bristol-Myers, Procter and Gamble, the Bell telephone sisters, Hershey’s, Ralston Purina, and Colgate-Palmolive. These multibillion-dollar hulks are not exactly agile climbers, but they’re faster than slow growers.