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There's probably never been a time of such staggering technological change as the period from the end of World War II through the early 2000s. Nowhere is that more apparent than the computer industry.

There were no personal computers in 1950. By 1983 there were 13 million. By 2005, 800 million. In 1950, the editors of Time magazine wrote: "Modern man has become accustomed to machines with superhuman muscles, but machines with superhuman brains are still a little frightening." They had no idea.

But the single best stock to own from the 1950s to the early 2000s had nothing to do with computers, or technology in even the loosest sense. It was Altria (NYSE: MO  ) , the maker of Marlboro cigarettes, which returned nearly 20% a year for 50 years. During a period when new industries transformed the lives of nearly everyone in the developed world, the most money was made in a company that stuffed tobacco into paper tubes the way it had for more than a century.

This wasn't a fluke, as more recent years offer a similar example. Measured by the number of PCs added annually, computer growth really took off in the mid-1990s as the Internet became mainstream. There are about 800 million more PCs worldwide today than there were in 1995. One of the biggest winners from this explosion should have been Microsoft (Nasdaq: MSFT  ) , whose operating system the majority of those computers run on. Indeed, Microsoft's profits have grown 16-fold since 1995.

Yet once again, the best stock returns may surprise you. With dividends, Microsoft has returned 511% since mid-year 1995. But Clorox (NYSE: CLX  ) returned 560% during that time -- so bleach actually bested the last leg of the computer revolution. Colgate-Palmolive (NYSE: CL  ) returned 651% over the same period, so toothpaste did, too. As did garlic powder: McCormick returned 642%. Ditto for hamburgers, with McDonald's (NYSE: MCD  ) adding a 540% gain. Hormel Foods produced a 544% gain over the same period, so Spam was actually more profitable than computers during the big boom. Our old friend Altria scored a 1,300% gain, nearly trebling Microsoft's return.

Admittedly, I've cherry-picked the dates to make my point. Back up a year or two, and Microsoft wins. But the fact that any period -- a 17-year period no less -- can be found during which a company with a virtual monopoly on a booming industry underperforms the dullest of products is extraordinary. It also underlines two important investing lessons.

The first is that valuation always matters. There are no exceptions to this rule. Microsoft shares have trailed its earnings growth since the 1990s because starting valuations were high -- nothing more complicated than that. As early as 1995, before the dot-com bubble took off, Microsoft traded at more than 40 times its annual profits. Those hefty expectations meant only a fraction of future earnings growth could materialize into shareholder returns. By contrast, Clorox traded for a quite reasonable 15 times earnings at the time, so effectively all its earnings growth accrued to shareholders' pockets. Even with slower growth, the latter consistently leads to better investment results over time. One reason Altria's long-term compound returns are exceptional is that the company has been beset with litigation worries for decades, keeping valuations low. That kept its dividend yield high, which made reinvesting those dividends a wealth machine. That valuations determine future returns is probably the most important investing lesson history provides us with. It's also the most ignored.

The second is that simple products that rarely change often make better investments than those undergoing breakthroughs. Many have wondered recently why Apple trades at a fairly low valuation given its success. It may be because investors finally realize that companies like Apple must reinvent themselves every few years, imagining, designing and engineering entirely new products. What are the odds one of those reinventions won't live up to past successes? Quite high. Yet the odds that consumers will still be using the same toothpaste 20 years from now are good, as are the odds that Colgate will still own a sizable share of the market. The biggest risk to any company over the long term isn't that it won't be able to grow earnings fast enough; it's that it will go extinct. If you think in years instead of months, sustainability can be far more valuable than picking the next breakthrough.

"They say the world has become too complex for simple answers," Ronald Reagan once said. "They are wrong." He may as well been talking about investments. Little else should be more attractive to investors than cheap, simple, companies.

Check back every Tuesday and Friday for Morgan Housel's columns on finance and economics.

Fool contributor Morgan Housel owns shares in Microsoft and Altria. Follow him on Twitter @TMFHousel. The Motley Fool owns shares of Microsoft and Clorox. The Fool owns shares of Apple. Motley Fool newsletter services have recommended buying shares of Microsoft and Apple. Motley Fool newsletter services have recommended creating a bull call spread position in Microsoft. Motley Fool newsletter services have recommended creating a bull call spread position in Apple. 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.

Read/Post Comments (26) | Recommend This Article (174)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On June 29, 2012, at 10:45 AM, DS31 wrote:

    Brilliant perspective...thanks


  • Report this Comment On June 29, 2012, at 11:21 AM, TMFDarwood11 wrote:

    Great article.

  • Report this Comment On June 29, 2012, at 12:54 PM, hbofbyu wrote:

    When I bought Nokia it was a great company at a decent evaluation. I learned the hard way that sexy stocks are like sexy women... (complete your own metaphor here).

  • Report this Comment On June 29, 2012, at 1:45 PM, hbofbyu wrote:


  • Report this Comment On June 29, 2012, at 2:02 PM, mtf00l wrote:

    Tobacco, one of the most widely-used addictive substances in the world, is a plant native to the Americas and historically one of the half-dozen most important crops grown by American farmers. More specifically, tobacco refers to any of various plants of the genus Nicotiana, (especially N. tabacum) native to tropical America and widely cultivated for their leaves, which are dried and processed chiefly for smoking in pipes, cigarettes, and cigars; it is also cut to form chewing tobacco or ground to make snuff or dipping tobacco, as well as other less common preparations. From 1617 to 1793 tobacco was the most valuable staple export from the English American mainland colonies and the United States. Until the 1960s, the United States not only grew but also manufactured and exported more tobacco than any other country.


    Find this property in a publicly traded company that pays a dividend and let the good times roll. Don't forget low labor cost.

  • Report this Comment On June 30, 2012, at 10:39 AM, 4melody wrote:

    Good article! Thanks for your insight!

  • Report this Comment On June 30, 2012, at 12:13 PM, HectorLemans wrote:

    Since you mentioned Clorox and Colgate-Palmolive, I'm surprised you forgot a little company called Church & Dwight. They make a couple really simple products: Arm & Hammer baking soda and Trojan condoms. Oh...and since mid-1995 their stock has went up 15-fold.

  • Report this Comment On July 01, 2012, at 3:00 PM, TMFTypeoh wrote:


    Love the article (as usual), and i think your main point is valid.

    However, I do want to nitpick a little bit:

    "The first is that valuation always matters. There are no exceptions to this rule"

    If so, how can you possibly explain the success of Rule Breakers (and team David at Stock Advisor)? Go up and down their scorecard, and you would be hard pressed to find a stock that is cheap.

    In fact, if you look at TMF's biggest winners of all time (ISRG, AMZN, WFM, CMG, BWLD, SXCI, QSII, NFLX, BIDU...etc), you may notice that hardly any could ever be called cheap (even today, let alone at the initial rec price)

    Would it be fair to say that the wording should have been something along the lines of:

    "The first is that valuation ALMOST always matters. The ONLY exception to this rule is when you have found that one in a thousand business's that is so wonderful that it can compound returns and grow into its valuation"



  • Report this Comment On July 01, 2012, at 3:14 PM, TMFMorgan wrote:

    ^ David's record speaks for itself, and I won't argue with it. He's a great investor.

    However, I'd point to examples such as Netflix, which came upon a fairly minor hiccup -- a slowdown in earnings growth -- that sent shares falling 80% in a matter of months. Same for QSII, which has shed ~50% of its value since last fall. The magnitude of these declines can both, in my view, be tied to high valuations. Though it hardly precludes making a good investment (as David has shown), the higher the valuation, the less room for error there is, and the less earnings growth will accrue into shareholder returns. Valuation always matters -- I still don't see any exception to this rule.

  • Report this Comment On July 01, 2012, at 10:23 PM, matthewluke wrote:

    I often think that investors (including me) end up out-thinking themselves trying to find the next great rule-breaking, industry-disrupting, world-changing company. Sometimes it is the simple investment theses that can give you the best result:

    Hamburgers are delicious: McDonald's.

    People love sugary drinks: Coca-Cola.

    Clothes get dirty: Clorox.

    I sometimes need a reminder of that. Great article, Morgan.

  • Report this Comment On July 02, 2012, at 1:12 PM, hasty1982 wrote:

    Simple just isn't fashionable now. I own some stock in Guaranty Federal Bancshares (GFED), and it's just a small regional bank in Springfield MO that simply attracts deposits and makes loans. They recently repaid 5M of their 17M in TARP preferred stock with internally generated income, It has over 25% inside ownership, it trades at 7 times trailing earnings, and has a current market cap at almost HALF of book value. It's almost a textbook Buffett stock.

    There are still some insanely cheap stocks out there that virtually anyone can understand.

  • Report this Comment On July 02, 2012, at 2:26 PM, tnk4800 wrote:

    I'm not sure what to believe in any more after reading Tyler Durdens article:

    Is The Old "Old Normal" The New Normal When It Comes To Dividends?

    Submitted by Tyler Durden on 07/02/2012 12:39 -0400

    Bond New Normal Volatility

    The broad theme of buying stocks because they are cheap - as evidenced by the dividend yield's premium to US Treasury yields - seems to fall apart a little once one look at a long-run history of the behavior of these two apples-to-unicorns yield indications. Forget the risky vs risk-free comparisons, forget the huge mismatch in mark-to-market volatility, and forget the huge differences in max draw-downs that we have discussed in the past; prior to WWII, the average S&P 500 dividend yield was 136bps over the 10Y Treasury yield and while today's 'equity valuation' is its 'cheapest' since the 1950s relative to Bernanke's ZIRP-driven bond market; the 'old' normal suggests that this time is no different at all and merely a reversion to more conservative times - leaving stocks far from cheap.

  • Report this Comment On July 02, 2012, at 2:30 PM, TMFMorgan wrote:

    <<I'm not sure what to believe in any more after reading Tyler Durdens article>>

    A highly reusable sentence.

  • Report this Comment On July 02, 2012, at 2:35 PM, knighttof3 wrote:

    Excellent article.

    Sometimes I feel that caution should apply not just to tech stocks (like MSFT) but "financial tech" as well - insanely complicated financial engineering products like equity tranches of CDOs based on passthrough securities based on mortgage bonds based on housing loans whose values and payoffs are dictated by unpredictable interest rates. The sellers' motivation is easy to guess - confuse the buyers and make money. What is the buyers' motivation? It sounds cool to say you put money in a "tranche"? Or for hedge funds and pension funds, it's OPM so who cares?

  • Report this Comment On July 02, 2012, at 5:25 PM, TMFTomGardner wrote:

    I tend to agree with Typeoh. The man who convinced me of this was Ted O'Glove, author of Quality of Earnings.

    In an interview, he told me that if an investor is taught to be a regular and repeating buyer of stocks, with a tendency to hold these investments for years, then valuation becomes less important. The quality of the companies that the investor picks matters infinitely more.

    Just think about Starbucks. Did it matter more if you got it for a split-adjust $2 or $2 3/4. Before you answer, remember that in the latter case, you paid a 35% higher price. You can't make many purchases in life where paying 35% more works out well in the long run.

    It does work out very well in the long run for great companies.

    Most investors need to be taught not about valuation. No. They need to be taught historical context on market performance; they need to be taught how to manage their emotions; they need to be taught how to find great organizations; they need to be taught the critical importance of continual saving and active long-term investment.

    These things matter much more than valuation. They don't get taught much. And the tendency is to think that someone is a great investor if they have a 75-point methodology for valuation. Against that, you have Buffett saying that his greatest achievement as an investor was simply learning how to manage his temperament.

    I use valuation very actively as an investor. But I would rank it now higher than 5th on the most important things for becoming a successful lifetime investor. That said, it likely is Top 5! :)

    Great article, Morgan.

  • Report this Comment On July 02, 2012, at 5:27 PM, TMFTomGardner wrote:

    Also, one other thing, David G definitely does valuation work as an investor. I just think he has a different approach to valuing growth.

    I'll add that you can place a proper valuation range on a company that will grow $1 billion in earnings today by an average of 20% per year over the next 15 years. . with final year growth of 15%. It can be done. It just will trade at a valuation much higher than the market average multiple. Fool on!

    Tom Gardner

  • Report this Comment On July 02, 2012, at 5:42 PM, fightingamish2 wrote:

    Best article I've read on here since I started reading it regularly seven years ago. Boiled it down to the simple truth. If only my clients would grasp that truth. Good stuff in here, I'm using it!

  • Report this Comment On July 02, 2012, at 7:46 PM, TMFGilla wrote:

    Great article, Morgan - and I also agree with Typeoh and Tom G.

    No.. I'm not trying to have a foot in both camps... I think (in this case) the camps have a large amount of overlap.

    In my view, David G and team have been successful because they've been able to foresee both the disruption and the long term potential - and to get on board when there was a lot of growth left (and in many cases, where the company reinvented itself).

    The same, for Tom G and Starbucks. The growth potential existed and the company was of a high enough quality to exploit (in a good way) that potential.

    Microsoft was unable to grow profits in keeping with its then-current valuation. Starbucks (and many Rule Breakers) have been able to.

    Valuation always matters - but that doesn't mean the current P/E has to be 'low' or below the market average. It means that the current price has to be reasonable compared to an investor's conviction as to the long-term growth of the company.

    As always, it is market mispricing that presents the opportunity for investors

  • Report this Comment On July 02, 2012, at 7:52 PM, TMFMorgan wrote:

    <<Valuation always matters - but that doesn't mean the current P/E has to be 'low' or below the market average. It means that the current price has to be reasonable compared to an investor's conviction as to the long-term growth of the company.>>

    Completely agree; well said. And again, the Rule Breakers record speaks for itself.

  • Report this Comment On July 02, 2012, at 8:00 PM, Terrang wrote:

    Interesting observation.

    I would add that Goldman Sachs seems to be a big supplier of "talent" for government - but why?

    In the last ten years, a very difficult time for investors, GS is up only 30 percent. But clunky railroads such as CSX and Norfolk Southern are both up 300 percent in that same time. Their management knows how to build shareholder value, serve customers and the broader population.

    Railroad managers should be going throught he revolving door and help straighten the nation out.

  • Report this Comment On July 02, 2012, at 9:26 PM, TMFTomGardner wrote:

    All excellent points. I think if you've found either a massive disruptor in a growth market OR an incredible long-term compounding machine business. . . short-term valuation matters less. It always matters. I just wouldn't make it my highest priority.

    As you shorten your time horizons, valuation goes up. Many value investors own turnarounds for 2-3 years. Valuation is critical in those situations. Lengthen the horizon to a Preston-Athey-like average holding period of 10 years, and I think short-term valuation matters less (for many reasons, but also because you can add to positions along the way).

    This is a great exchange. I think -- as is true with so many investment principles -- the truth is circumstantial. One market-beating discipline requires behaviors that another doesn't (and might outright oppose).

    Great article. Fool on. - Tom

  • Report this Comment On July 03, 2012, at 2:45 AM, portefeuille wrote:

    I think I am doing far better than David Gardner or any of his newsletters (hehe). And maybe better than any other "caps" game player (at least as the "annualised" performance of "outperform" calls is concerned. And I think a large part of that performance is due to "news driven investing" in biopharma stocks.

    from June 21, 2012 ->

    my "so far mostly virtual" fund in in the green since inception (March 8, 2010) by around 41% -> and

    The best place to invest "over the past 20 years or so" have not been U.S. equities by the way. It has been and likely will continue to be "emerging markets" equities ...

  • Report this Comment On July 03, 2012, at 2:23 PM, RockyTopBob wrote:

    While I agree David's RB analysis down plays valuation for very high growth companies, I also agree with Morgan. He mentioned NFLX. A better example is GMCR. I have looked at every possible way to justify its highest valuation and P/E but the risk associated with buying at those points far outweighs the possible upside.

    GMCR, like NFLX, could have continued to execute rather than shoot themselves in the foot but ignoring valuation for such companies doesn’t make sense. The risk is just too high. You could say that the only way to get 10 baggers is to ignore that risk but then it becomes gambling, not investing.

    I’m no David G. but I’ve been investing over 40 years and have accumulated a multi-million dollar port by not over paying for companies. A lesson taught by the masters. I will buy a LNKD but only as a small position until the company develops a track record and grows into its price like AAPL.



  • Report this Comment On July 06, 2012, at 4:09 PM, Crosshair wrote:

    I'm sorry TMFTomG, but the reason why investors ought to prioritize valuation is because it is infinitely more difficult to "foresee both the disruption and the long term potential". If disruptions were so easy to locate, I can assure you that participants in threatened industries would take all measures to avoid being driven out of business. Take RIM for instance, they had plenty of time to address the iThreat, but failed to move quickly enough.

    Investor would be better served to invest in strong sustainable business and resist the temptation to pay for too much growth...

  • Report this Comment On July 11, 2012, at 10:50 AM, reecem1 wrote:

    Good article, some stocks are a cornerstone to healthy ports, products that we always forget are entwined in our daily lives. P&G, etc.

  • Report this Comment On August 11, 2012, at 10:36 PM, awarenessrus wrote:

    What a great article. Thanks!!

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