One of the most cherished investing rules of thumb here at The Motley Fool is to think long-term about companies and the stock market. This is a great piece of advice, judging from the historical evidence backing up the long-term buy and hold investing philosophy and the idea of holding down the trading costs and taxes that eat into any investor's ultimate return.
However, there is a major problem with long-term thinking: It's hard. Human beings are not conditioned to think long-term about things. If we were, we wouldn't be so addicted to casino gambling or fast food restaurants. Likewise, we are awful at predicting the future, often relying on what was in yesterday's newspaper to influence what we expect to read about tomorrow. This is not a great way to look at the world or approach investing, where relying on past results is a wobbly crutch at best.
Given that thinking long-term is desirable but is hard and unnatural, is there any way to make things easier for the individual investor? One way to work around the problem is to start off thinking about the stocks you own as businesses generally, and not companies specifically. In other words, answer the big questions first. If your goal is to invest long-term in good companies, then start off by identifying broad, attractive business areas or long-term trends that will work in an individual company's favor.
Thinking broadly about things can also be a challenge, since many of us are conditioned so well to find exact answers all of the time. It's like the story of the mathematics professor who gives his class three seconds to figure out the answer to 1,201 multiplied by 29.9. Amid the mad dash for their calculators, it doesn't occur to any of the students to blurt out "about 36,000," which is 1,200 multiplied by 30. Everyone is looking for the exact answer. With short-term thinking, the stress is on being exactly right. But with long-term thinking, the idea is to be roughly right, and that's an easier thing to do.
Converting these ideas into the world of investing, let's take the well-known example of Home Depot (NYSE: HD). It may seem hard to believe now, but Home Depot was once a small company. When it went public in 1981, Home Depot had eight stores and $51 million in annual sales. In fact, annual sales didn't pass the $500 million mark until four years later.
Still, an investor didn't need to predict exactly what the firm's annual sales levels would be year after year to make a case for investing in Home Depot early on. Rather, the company's growth potential could be summarized by recognizing a few, broad trends.
For starters, declining interest rates in the 1980s were bringing mortgage rates down as well. That prompted homeownership rates to rise, to the point that today a record 68% of all U.S. households own their own home. At the same time, there was also a general do-it-yourself movement that benefited everything from personal exercise equipment suppliers to discount stockbrokers. There is much more to the Home Depot story, but these two trends -- higher homeownership rates and the do-it-yourself movement -- have been enormously important to the company's sustained growth.
Likewise, long-term investors today can look around and identify some of the major socio-economic and technological trends that are likely to lead to attractive business opportunities over the next five to ten years.
It's hard to imagine the world's desire to communicate more freely and easily ever going away. That bodes well for the communications industry in general, which has arguably been the premier growth industry of the last 20 years. With the rise of self-managed retirement accounts and the gloomy outlook for the country's Social Security system, providing financial services should also remain an attractive area for companies. And with the earlier froth removed, we are starting to now see that one of the real commercial promises of the Internet is its usefulness in helping to reduce business costs. That trend, along with the broader trend of business outsourcing, should provide profit opportunities for firms well into the future.
These are just a few examples of the broad trends that will impact businesses and fuel growth in the coming years. Undoubtedly, there are many, many more. When you think about businesses from broader perspectives, it becomes easier to think of investing from a long-term viewpoint and recognize the regular short-term angst that tends to accompany "earnings season" as the waste of intellectual energy that it is.
Once you've identified a few general, long-term trends for yourself, the next task is to find out which individual companies are best positioned to take advantage of those trends. We'll turn our attention to that challenge next week.
Brian Graney does his trend-spotting from his home in Alexandria, Virginia. At the time of publishing, he did not hold shares of any of the companies mentioned. The Motley Fool is investors writing for investors.