5 Types of Shares That Can Beat the Market

LONDON -- Why do we private investors buy individual shares? The answer is simple: because we want to find opportunities that can outperform the market. After all, if we can't even do that, then we may as well invest in an index tracker.

Or, as my mum would say: "Why have a dog and bark yourself?"

But how easy is it to beat the market?

If truth be known, it is not that difficult. I recently turned back the clock to look at how the shares in the FTSE 100 (INDEX: ^FTSE  ) have fared over the last five years.

Between Jan. 1, 2007 and Jan. 1, 2012, the stock market has delivered a total return, including dividend income, of 8.4%.

This is, by no means, a great return from investing in shares. But what is striking is that no fewer than 59 companies have beaten the market return over that period. Furthermore, some companies have not just beaten the market -- they have trounced it. Here are some of those index-beaters.

Five-bagger
ARM Holdings
  (Nasdaq: ARMH  ) has been one of the best-performing shares over the last half-decade: The total return has been a whopping 400%. In other words, 1,000 pounds invested in the microchip designer at the start of 2007 would have been worth 5,000 pounds five years later.

ARM is classified as a growth share because the underlying company is expected to grow much faster than the economy as a whole -- and the valuations of growth shares generally price in a lot of optimism.

If you are a patient investor with nerves of steel, you could be amply rewarded with growth shares for your perseverance. However, identifying winning growth shares requires skill, as the share-price punishment can be considerable if things go wrong. Get things right, though, and the rewards can be quite mouth-watering, as ARM has demonstrated.

GARP
Closely akin to growth investing is growth at a reasonable price, or GARP.

Unlike pure growth investors, GARP investors look to invest in companies that sport respectable, rather than high, growth prospects, as well as track records of consistent earnings growth. That proven history often means GARP shares are valued at a premium to the wider market.

Aggreko, which provides temporary power supplies, is a company that fits the GARP-share bill, as this article outlines. The company has also rewarded its loyal band of GARP investors by delivering a total return of 390% over five years.

Shares for any market
Defensive shares tend to be seen as dull and boring. However, it would be wrong to interpret these companies as slow and unrewarding.

You see, as the term "defensive" suggests, demand for these companies' products and services tend to hold up in both good and tough economies.

Consider British American Tobacco  (AMEX: BTI  ) , which is one of many shares held by dividend ace Neil Woodford. (By the way, you can read what other shares Neil owns in this free report: "8 Shares Held By Britain's Super-Investor.")

Its products are likely to be in demand, regardless of whether the economy is expanding or contracting. Over the last five years, the shares in the cigarette maker have doubled to 31 pounds. When dividend income is included, the returns are boosted by about 50% to 165%.

Tapping into rising wealth
Investing in emerging markets is not an investing style as such. Instead, it is about buying shares that have exposure to some of the world's fastest-growing economies.

The theory is that as the economies of these countries expand rapidly, the resulting wealth should filter through to consumers and businesses. Fashion retailer Burberry is a good example of a business that has successfully tapped into the rising wealth of Chinese consumers. Between 2007 and 2012, Burberry's Asia-Pacific sales have nearly trebled. They used to account for around 19% of total group revenues, but this has grown to about one-third of sales. The shares have delivered a total return of 106% over that period.

Top sectors
Businesses involved in mining, exploring, and resources -- one of the exciting sectors reviewed in the free report "Top Sectors for 2012" -- represent eight of the top twenty performers in the FTSE 100 over the last five years.

Such outperformers include Randgold Resources, Tullow Oil (LSE: TLW.L  ) , and BG Group (OTC: BRGYY). Investing in miners and explorers is an example of why it is sometimes important to have an in-depth knowledge of the sector you would like to get involved in. The sector can be sexy and exciting, but it is also important to appreciate the pitfalls, such as geopolitical risks.

It is also important to have an appreciation of wider industry trends and perhaps forecast the price of minerals, oil, and gas. If you get it right, you could be sitting on gains of 459%, which is the return Randgold Resources delivered to shareholders over a five-year period.

Invest in what you know
The shares highlighted in this article are not vague and obscure businesses. Rather they are companies you hear about regularly. However, they are all unique in their own right, from high-growth technology outfits such as ARM to dull and rewarding cigarette makers like British American Tobacco.

Master investor Peter Lynch once said it was important to invest in what you know. I'd like to add to that by saying we need to understand the types of shares we are investing in. Shares have unique characteristics, and our expectations from buying shares in Aggreko should be different from owning a basket of oil explorers.

Looking for the next market-beater? Try our Motley Fool Share Advisor newsletter free for 30 days. Senior Market Analyst David Kuo and team will give you their two top share ideas on the fourth Monday of each month.

Further investment opportunities:

David owns shares in British American Tobacco. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


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