Searching for 40,000% Returns

I have a confession to make. I am not a wealthy man. Now, this information might be worrisome to some of you, considering I work for a company that provides advice on how to maximize personal wealth. I do, however, have a good explanation for my relatively modest financial situation.

I spent most of my 20s without an income, languishing away in grad school. During my 30s, I earned a pittance teaching history to college students. Only recently did I leave academia for the private sector, motivated by such grandiose dreams as being able to afford my own home and send my kids to college. All things considered, I have only one major regret over the past 20 years or so: I didn't invest early enough in the great companies of our generation. Where was the Motley Fool Rule Breakers service when I was 21?

What's past is prologue
During the past 20 years, the American economy has experienced phenomenal growth, fueled by a technological revolution that has transformed the way we work, shop, and communicate.

From 1984 to 2003, GDP grew by 77%, and manufacturing productivity expanded by more than 100%. To see how far we've come, just have a look at an old Star Trek episode. What was supposed to look futuristic back in the 1960s now looks utterly ridiculous. My underpowered laptop appears far more useful than anything Captain Kirk had at his disposal to navigate the USS Enterprise.

During the 1980s, developments in the computer industry provided a much-needed stimulus to a U.S. economy still smarting from the stagflation years of the previous decade. Innovative companies such as Apple (Nasdaq: AAPL  ) , Microsoft (Nasdaq: MSFT  ) , and Dell (Nasdaq: DELL  ) led the way in this sector. In the 1990s, visionary enterprises such as AOL (now Time Warner (NYSE: TWX  ) ) and Yahoo! ushered in the Internet era. Entrepreneurship was not, however, limited to computer firms and Internet companies. Dynamic service providers such as Southwest Airlines (NYSE: LUV  ) and Wal-Mart (NYSE: WMT  ) responded to new cultural and economic trends and began selling their products in clever and profitable ways.

All seven of the companies mentioned above broke the rules when they first appeared on the scene. Indeed, David Gardner, lead analyst for Rule Breakers, started following many of these companies early in their existence. Now, of course, long after the fact, conventional wisdom recognizes the genius of these companies.

So imagine what would have happened if I plunked down $1,000 on each of these outstanding firms early in their high-growth stages?

Company

Initial Investment

Starting Date

Value in 2006

Total Return

Southwest

$1,000

1984

$17,771

1,671%

Apple

$1,000

1984

$30,290

2,929%

Microsoft

$1,000

1986

$211,070

21,007%

Dell

$1,000

1988

$217,250

21,625%

AOL

$1,000

1992

$112,470

11,147%

Wal-Mart

$1,000

1984

$43,300

4,230%

Yahoo!

$1,000

1996

$32,040

3,104%



It's interesting that since this article first ran, Dell has been pummeled by the market. Even after declining from a 40,000% return, it's still up more than 21,000% for early investors! A paltry $1,000 investment in Dell back in 1988 would have yielded $217,250 today. With that kind of performance, I suspect I'd now be in a position to purchase my own home, which would be a big improvement on the substandard dwelling I'm currently renting. On a less spectacular scale, $1,000 invested 10 years ago in Yahoo! would have grown to almost $32,040 by December 2006. That figure approaches a year of tuition (excluding fees) at Harvard. And I would still have 11 more years to invest for the other three years of college, since my oldest is only in second grade.

Wait just a minute ...
Now, some of you might object. Surely, it's unlikely that an investor would have been able to get in on the ground floor of all of these great companies. Perhaps you're right. Let's see what would happen if we delayed our investments in three of the above companies by two years, which might have given us more time to monitor these high-growth businesses.

Company

Initial Investment

Starting Date

Value in 2006

Total Return

Microsoft

$1,000

1988

$101,890

10,089%

Dell

$1,000

1990

$162,930

16,193%

AOL

$1,000

1994

$32,370

3,137%



My returns in Microsoft, Dell, and AOL would have declined considerably by waiting -- not that I'd complain about a 3,137% return on my investment. So we see that the great companies are still available at reasonable valuations early in their growth stages.

Money for nothing
You might be thinking: I like those 21,000% returns; how do I get some of those? OK, now for some reality. The purpose of looking at the returns of the great companies listed above is not to show that growth investing is an all-win situation. Far from it. Those returns simply demonstrate how well great companies perform over a long period. If you can identify just one great company early, then hold on for the long term, you can do pretty well for yourself.

Growth investing is highly volatile and will fray the nerves of those individuals with a low risk tolerance. That said, all investors should devote a portion of their portfolios to growth stocks. For those traveling in the fast lane (has David Gardner really been ticketed for speeding 26 times?), an allocation of 30% of their portfolios might make sense. More conservative types should allocate at least 5% in order to provide a little juice for their investments. I'm somewhere in between, so I devote about 15% of my portfolio to growth. Thus far, I've bought shares in two biotech companies that were recommended by Rule Breakers. The first one is up more than 200% since I bought it, and the second is up more than 20%.

Willie Sutton and investing
Should I concentrate all of my growth allocation on computer and Internet stocks? There are doubtlessly still great opportunities in these areas. In fact, there's a Rule Breakers selection I like that uses the Internet in an entirely creative way to deliver one of the most timeless products out there. But we also need to find new areas to trawl for great companies.

You might recall the familiar story about Willie Sutton. When asked why he robbed banks, old Willie replied, "because that's where the money is." With Willie's advice in mind, focus on those sectors where the next great companies are likely to emerge.

Epiphany
The high-growth train of the 1980s and 1990s has already left the station, and some of us were left behind, muttering obscenities to ourselves on the platform. We have two choices facing us today in 2006. One option is to lament our bad fortune, admit that high-growth stocks demand too much hard work and more than a bit of luck, then resign ourselves to index funds, hoping to eke out 7% per year over the next 20 years. The other option demands boldness and vision. It asks you to forget the past and plan for the future by joining in the search for the great companies of the next 20 years.

The novelist George Eliot once said that "it is never too late to become what you might have been." That quote inspires me to seek those investments in the future that I didn't in the past. If you think our dedicated Rule Breakers team can help you in a similar quest, why not try a risk-free trial for 30 days?

This article was originally published on Feb. 2, 2005. It has been updated.

John Reeves does not own any companies mentioned in this article. Microsoft, Dell, and Wal-Mart are Inside Value recommendations. Yahoo!, Dell, and Time Warner are Stock Advisor recommendations. The Motley Fool has a disclosure policy.


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