One Up on Wall Street – Peter Lynch

One Up on Wall Street – Peter Lynch

I read the millennium edition of this book. I have set out below a summary, key takeaways / learning outcomes, some ramblings and unanswered questions.

“Own only what you understand”.

In evaluating and picking stocks both “future and ancient fundamentals are relevant”. It is also not always a good idea to pick stocks that are in the fancy. In respect of ancient fundamentals, I was wondering – what about turnaround companies? Their ancient fundamentals / past balance sheets may look damaged but if the industry and the company itself is turning around – does one ignore the opportunity? One also needs to consider whether the existing market cap justifies past and future earnings.

A few clunkers are OK so long as the winners more than make up for it.

Big companies are not bearproof. Also, just because a company has become big does not by itself provide a justification for it not to become a multibagger and continue growth – case in point being TCS or HDFC Bank!

“Do not rely on brokerage recommendations, hot tips and what others are buying” but give credence when the “promoters or the insiders are buying”. Well of course buying solely based on tips or recommendations of brokerages or what some hot shot investor has bought is foolhardy.

“Spectacular returns can be generated even from big companies and buying should not be limited only to small and midcaps”. Of course, a big company bought at historically low levels can provide spectacular returns provided the price falls are transient or a result of some “curable” problems. The probability, however, of small and micro and mid caps providing mega returns is higher so is of theirs to permanently destroy capital. But big companies rarely provide the big moves. A small company even in a slow growing industry can be a decent compounder of wealth. In this regard, I recommend reading a Zebra in Lion Country by Ralph Wanger.

“Investing is an art and not a science”. I agree – more than the number crunching or the hard skills, it’s the softer skills that come into play. Being observant (looking around things in daily personal and professional life can generate investment ideas), logic, being lazy, minimizing your decisions, controlling or overcoming your biases, having efficient mental models, letting go off opportunities or momentum play and watching others make money and keeping it simple are quite relevant. Having a long-term orientation is in itself a big advantage and that is not necessarily a science or something quantifiable.

“Street Lag” – This is one of my favourite categories amongst stocks. I agree when Lynch recommends that it is better to buy stocks with less institutional ownership and minimal analyst coverage. Good “off the radar” companies which are yet to be discovered by Dalal Street could be the best buys. The level of diligence and conviction required is higher as there is no / minimal institutional ownership to “validate” your thesis or conviction.

“Right Stock Right Price Right Time” – Difficult to find but that’s when patience and discipline are tested. Buying right stocks at the wrong price at the wrong time can lead to a disaster. A good company may not be a good stock if the price is not right. The people who bought Wipro – a brilliant company – at the peak of the 2000 boom, took several years to generate decent returns on their investment.

Assuming that we pass the test of “Do I Own a House?” and “Do I Need the Money?” – I agree that the qualities mentioned by Lynch are quite important. I will list them: patience, self-reliance, common sense, a tolerance for pain, open-mindedness, detachment, persistence, humility, flexibility, a willingness to do independent research, an equal willingness to admit to mistakes, and the ability to ignore general panic. Any quality that might be missing can be cultivated with practice and perseverance – I think. These qualities in themselves are quite an edge to have.

“Avoiding the hottest stock in the hottest industry and the stocks that diworseify”

“It is OK to jump on to the bandwagon a little later when the company and the business have proven their worth”- my two cents on this is while a ten bagger will also be a two bagger after it has already become a 5 bagger, the price of “certainty” is also high. “Late jumping” could also introduce the bias of when I didn’t buy at 100, how do I buy at 400 or I bought at 100 how do I average up? But then again return of capital is more important than the return on capital.

“Earnings, Earnings and Earnings” – like for restaurants its location, location and location, stocks have a similar rule. But then again there could be minor blips in earnings or when a company is going through a capex cycle – so understanding the rationale behind an upturn or downturn in earnings also becomes important.

“Preparing the monologue re the story of the stock” – quite important – rather helpful to have a decision making journal and write it up as well. Updating the monologue and reconfirming and rechecking the investment thesis on a regular basis is equally important.

“Keep your eyes and ears open!” – it is basically do not just see but observe. You will see most people smoking ITC’s cigarettes or most complex infrastructure projects being done by L&T or most cars being sold by Maruti Suzuki – just observing these things provides a lot of stock ideas.

“Holding Companies” – they usually trade at a discount to the underlyings. When the discount is huge – returns could be massive once the discount narrows. Maharashtra Scooters is an example that comes to mind.

“Be suspicious of companies with growth rates of 50-100% per year” – so basically be ultra cautious about ultra fast growers. But what if the ultra fast grower is a creator or first mover into an ultra fast growing industry or market? I guess the idea is to proceed with caution rather than over confidence and extra optimism in such cases.

“Don’t have high return expectations and that will keep the emotions and frustrations during the downturns in check” - this leads to bad decisions. It is not always necessary to outperform the market or other investors. If you are earning more than other assets over time through equities with the level of risk you are prepared to take, that should be OK.

“fixed number for the stocks you own. Knowledgeable buying is the key” – Of course, too many stocks are an avoidable distraction.

Ignore noise, news – develop second level thinking and superior insights – this is a task in itself given the information deluge happening all the time. One needs to transcend all the mental and emotional impact of all that while making investment decisions.

“When you invest in stocks, you have to have a basic faith in human nature, in capitalism, in the country at large and future prosperity in general” – could not agree more.

“A stock does not know that you own it” – again getting emotionally attached to a stock or a company i.e. developing “attachment bias” clouds prudent judgment. It is important to divorce the emotions from investment decisions – difficult to implement in practice and, therefore, rewarding if implemented.