Baseball is a subject we've covered from various angles here at the Fool, especially in regards to Michael Lewis' Moneyball, which follows Oakland general manager Billy Beane on his quest to build a winning team through the power of numbers. With today being opening day for the 2012 baseball season, I wanted to take a look at some of the valuable lessons the game has for investors.
Every investor is, in a way, the general manager of their own portfolio. Although investing isn't a winner-take-all contest, there are many similarities between building a World Series championship team and putting together a great portfolio. Some are statistical and some are psychological, but understanding these simple lessons can help in your quest for investing greatness.
Lesson No. 1: Know your limitations.
Your weaknesses are at least as important as your strengths when it comes to investing. We can't all be Warren Buffett. We all have the built-in limits to our available resources, whether it's investable cash, time, or knowledge. Similarly, the smart general manager knows what they have to work with, from payroll ceilings to their manager's style.
Take the monster contract the Los Angeles Angels gave Albert Pujols this offseason. At $240 million for 10 years, the deal made Pujols only the second player ever to ink a $200-million contract. The Angels recently negotiated a major new broadcast contract with News Corp.'s (NYSE: NWS ) Fox Sports, worth more than enough to pay Pujols' contract. The St. Louis Cardinals, Pujols' former team, has no similar broadcast deal and operates in a smaller media market, restricting their potential revenue. For the World Series champion Cardinals, investing a quarter-billion dollars in one player for a decade would have been like most of us buying one of Berkshire Hathaway's (NYSE: BRK-A ) original $100,000-plus Class A shares.
Some teams throw big money at talented veterans and try to win that way. Others assemble young teams through the draft or savvy trades and win cheap. Whatever your circle of competence, it's worth sticking to until you feel comfortable branching out.
Lesson No. 2: Don't get too attached.
It may be impossible for any one player to replace Pujols' production, but the Cardinals can manage in other ways. They have before -- that's how they managed to win two titles in the past five postseasons. In fact, their World Series-winning team in 2006 bears almost no resemblance to the team they fielded in 2011. Management knew that they couldn't afford to pay any one player $24 million a year for a whole decade, nor would they have to in order to make it back to the World Series.
If you'd invested in Berkshire a year ago, you'd be trailing the market's gains. Yet many investors continue to buy Berkshire on the belief that Warren Buffett's wisdom will be a long-term perpetual-profit machine. Buying Apple (Nasdaq: AAPL ) instead of Berkshire a year ago would have nearly doubled your money -- but even Apple shareholders need to be able to sift through constant hype to figure out if it's time to look for the next big winner.
Your goal is to build the best portfolio to win championships for its No. 1 fan -- yourself. Don't hang on to stocks past their prime, or lavish more money on overpriced favorites, out of a sense of loyalty. Play to win!
Lesson No. 3: Analyze past performance (but don't rely on it).
A player who won the MVP a year ago might be a bum this year, but he's a lot more likely to have a good season than the journeyman picked up for a pittance in free agency. That's why the Angels paid up for Pujols, who's already had one of the greatest careers of all time. That's no guarantee that he'll remain dominant through the decade-long stretch of his new contract, and there are nagging injury concerns to be aware of. If he can remain healthy and productive, he'll be the cornerstone of a championship-caliber team.
Since there's no World Series of the stock market, building your portfolio around companies with proven performance is one of the best ways to get to the playoffs (that is, beat the market) year in and year out. Altria (NYSE: MO ) (when it was Philip Morris) would have been the best thing you could have bought 50 years ago. It's got a ridiculously simple business model, pays a hefty dividend, and the government limits its potential competitors. There's no reason not to take advantage of the wealth of financial and economic information at your fingertips to determine if it's worth a spot in your portfolio for the long term.
If your limitations won't allow investing in "sin stocks," there are many other companies whose repeatable business models offer the opportunity to reap long-term gains.
Lesson 4: Don't panic (and think long-term).
This should be obvious. Every game is a risk for the players on the field, just as every day can bring new challenges for the companies in your portfolio. The road to the World Series always winds up taking a few unexpected turns, just as your portfolio will have many changes made over the years. Building a World Series team takes time and planning. It's the result of years of hard work on both the part of management and the players.
Things will go wrong. There's no such thing as the perfect team, or the perfect portfolio. But a good general manager always has backup plans. If you've kept aware of your limitations, maintained a dispassionate distance, and understand each company's situation inside and out, then you should be able to handle sudden price changes calmly and rationally. Don't hesitate to sell if your investing thesis turns out to be wrong, but don't give away the farm just because you fell behind in the standings. Baseball's season is 162 games, but we measure success in years. Either way, there will be more opportunities, as long as you play it smart.
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