Build a Fortune With These Gordon Gekko Stocks

"The point is, ladies and gentleman, that greed, for lack of a better word, is good. Greed is right, greed works. Greed clarifies, cuts through, and captures the essence of the evolutionary spirit. Greed, in all of its forms; greed for life, for money, for love, knowledge has marked the upward surge of mankind." -- Gordon Gekko, Wall Street 

Recall Gordon Gekko? He's the anti-hero of Oliver Stone's 1987 movie Wall Street. Gekko's most infamous monologue is the passage above in which he proclaims that "greed is good," an utterance that was meant to symbolize the decadent '80s and its lax morality. Perhaps it's no surprise, then, that in the wake of the 2008 crisis a sequel is being made, with Michael Douglas reprising his role as Gekko, the man you love to hate.

While the last few years may have seriously challenged those who profess to believe in Gekko's mantra of greed, the fictional superinvestor has also provided another bit of advice that profit-seeking investors should seriously contemplate. Amazingly, his advice is as straightforward, practical, and upright as his character is ruthless.

Money never sleeps
For all his overbearing pomposity, Gekko nevertheless offers a key lesson for those looking to grow their portfolios over the long term. Moments before Gekko articulates his well-known words at a shareholders meeting for the fictional Teldar Paper company, he foregrounds it with the following lecture:

Now, in the days of the free market when our country was a top industrial power, there was accountability to the stockholder. The Carnegies, the Mellons, the men that built this great industrial empire, made sure of it because it was their money at stake. Today, management has no stake in the company! All together, these men sitting up here own less than three percent of the company ...

You own the company. That's right, you, the stockholder. And you are all being royally screwed over by these, these bureaucrats, with their luncheons, their hunting and fishing trips, their corporate jets, and golden parachutes.

Whereas the "greed is good" sound bite came to define Wall Street, this lesser-known piece of financial wisdom has been overlooked. It didn't have the chutzpah of transforming a vice into a virtue, but instead offered a true gem of boring old wisdom that nevertheless could make you rich. Namely, invest in companies where managers are truly incentivized to make the company succeed.

Managers should have true insider ownership -- not options, which are all upside and can easily be repriced -- but rather actual stock in the company. Having managers with an ownership stake (especially if they're founders of the company) is the surest way to align the interests of such insiders with outside shareholders like you and me. And it's the best way to ensure that they'll make you money for years to come.

But aligning our interests is very difficult in large companies. In some of the world's biggest companies, such as Procter & Gamble and Bank of America, insiders own less than one-tenth of one percent of the company! And the founders of many companies have long since passed. CEOs' direct stake in their own company is usually miniscule.

Source: Capital IQ, as of May 18, 2010.

Notice the odd man out. Apple has had its founder, Steve Jobs, back at the helm since 1997 and he owns some $1.3 billion in stock. Of course, Jobs didn't have to work too hard to pry millions of stock options from the board's all-too-generous hands -- the action was not very shareholder-friendly. And in the end the SEC investigated the company for backdating options, in which the options' strike price were set at a relative low point so that Jobs and other execs could haul in even more lucre.

But given Jobs' ongoing holdings in Apple (as well as his options), is it just coincidence that Apple has been one of the best stocks of the last decade? With his indisputable passion for Apple and a giant slug of its stock, Jobs was incentivized to conquer the world with Apple, taking investors along for the ride. But for other megacaps, managers simply don't have the same financial or emotional investment in turning their company into the next trillion-dollar baby.

In contrast, small companies often have the benefit of insiders with sizeable direct ownership, a trait that our Motley Fool Hidden Gems newsletter looks for. Sometimes such companies, like Apple, even have the double benefit of a founder-owner who is passionate about the company's ongoing success for personal as well as financial reasons. The following table shows some companies whose founders act as chairmen and own a good chunk of stock directly.

Source: Capital IQ, as of May 18, 2010, Yahoo! Finance.
* Stock began trading in 2007.

Quality Systems, for instance, still has founder Sheldon Razin as its chairman, and he owns nearly 18% of the company. The stock has been a rocket in the last five years. MercadoLibre, a Latin American online auctioneer, has performed remarkably in the last year with its stock up over 100%, but there's been no massive selling by co-founder and chairman Marcos Galperin. The chair of Perfect World also seems content to hold onto the vast majority of his shares in the rapidly growing online gaming company.

Certainly, that kind of alignment helped early investors in Microsoft, whose co-founder Bill Gates owned a huge chunk of the company for years. With a founder-owner who is passionate about the business and the growth power of small caps, shareholders have a great chance of beating the market for years and years.

Small caps for big gains
As Gordon Gekko would point out, those who invest in shareholder-friendly companies are likely to make nice profits. But insider ownership is only one of the characteristics that the Motley Fool Hidden Gems team examines when looking for the next all-star small cap. Co-advisors Seth Jayson and Andy Cross also look for:

• Stable and growing assets
• Accelerating operational momentum
• Positive free cash flow
• An attractive price

Seth and Andy use a real-money portfolio to invest in the very best small-caps they dig up. In fact, they tell you before they invest, so you can get in ahead, aligning our interests with yours. You can check out all of our Hidden Gems stock research, as well as our seven "Buy First" small caps for new money now, free for the next 30 days.

Click here for more information.

Already a Hidden Gems member? Log in here.

Jim Royal, Ph.D . owns shares in Procter & Gamble, Bank of America, and Microsoft. Microsoft is an Inside Value recommendation. MercadoLibre and Perfect World are Rule Breakers picks. Apple and Quality Systems are Stock Advisor selections. Procter & Gamble is an Income Investor pick. Motley Fool Options has recommended a diagonal call position on Microsoft. The Fool owns shares of Procter & Gamble. The Fool has a disclosure policy.