In my 27 years of investing, I've learned that the secret to beating a bear market like this is to keep a level head. I've also learned a couple other tricks over the years that I'd like to share with you today. No, I will not be asking you to sell your house, car, or dog (although maybe your mother-in-law). My goal is to help you use straight-forward logic and resist the temptation of letting your emotions drive your decision-making. If Star Trek's Spock were an investor, he'd be our model.
For starters, let me take you back to 1974. I was a 10-year-old kid working in my father's restaurant and would hear horror stories about how bad the market was. I remember this one individual who told my father that he used to be a stockbroker but got laid off because of the market crash. He was now driving a cab and was very depressed. That was the year my father began teaching me about the stock market, and one of the first lessons he taught me was this: "When you see everyone around you panicking, that is the time to think about investing."
He was not talking just about panics on Wall Street but on Main Street as well. My father knew what he was talking about. In 1954 he took his $10,000 life savings and bought a restaurant that was in foreclosure. He then, along with his brother, worked 12-hour shifts, seven days a week, with no days off for two years. Over the next few years, he showed what a little sweat equity combined with a bargain purchase price can do. After five years of hard work, he was offered $100,000 for the restaurant but did not sell because he knew that there was a lot of growth left in the business. Sure enough, years later, he sold it for more than 10 times that price.
One of the secrets to beating bear markets is to find managers who are like my father but who are instead running Rule Maker companies. One example that comes to mind is Jorma Ollila, CEO of Nokia (NYSE: NOK). Here is a guy who pioneered the mobile phone industry and is one of the key individuals in making Nokia the powerhouse it is today. The reason he was able to do so was because he concentrated on Main Street and paid little attention to Wall Street. He basically worked his tail off because he saw tremendous opportunity and wanted to capitalize on it before anyone else realized it.
Another manager who is a pioneer in his industry is John Chambers, CEO of Cisco Systems (Nasdaq: CSCO). Through a series of acquisitions, he has built a company that just outright dominates the networking industry.
Nokia and Cisco are part of a select group of global companies that have "EOS" -- economies of scale. My definition of EOS is the ability to buy raw materials in such volume that you can attain preferential treatment from suppliers. Your distribution system is so large that you get advantageous rates from shippers. You can get product out so quickly that retailers keep your products in full stock, and thus have you as the centerpiece of their businesses. With the advantages of EOS, you get so many discounts along the way you can crush your competition by undercutting them at the point of sale and still be very profitable.
At this point, you might be thinking, "Mycroft, this is all great and dandy, but as an investor, how does this help me, especially with the market tanking all around me?"
Well, you have now discovered the power of EOS and understand that one should not concentrate on Wall Street but should notice what is happening on Main Street, i.e., in the real business world. This is a trick that few follow. Most investors are only interested in what their broker or some Wall Street analyst has to say. They don't pay close enough attention to what the company is actually doing in the marketplace.
Investors "kicking the tires" by doing their own research see that the picture on Main Street is quite clear. Cisco has more revenue and profits than most of its direct competitors combined. Nokia is making billions of dollars in profits off its handset division while its leading competitors -- Motorola (NYSE: MOT) and Ericsson (Nasdaq: ERICY) -- are losing money in the cellular handset market. Upon these observations, you may say to yourself, "Hey, wait a minute -- something good is going on here for Cisco and Nokia." When the Rule Maker in the industry is earning a tidy profit (albeit with slower growth) while the competition is losing money, the Rule Maker might just continue to take more market share and grow even stronger. So, Rule Makers like Nokia and Cisco will eventually benefit from the current hard times.
But again you ask yourself, "If the market is trashing Nokia and Cisco right now, how can I make money by investing in them?"
First of all, if the scenario that I have laid out is right, then maybe Wall Street is making a mistake in how it is pricing these stocks, just like my father noticed when he bought the restaurant in foreclosure.
"If the market is making a mistake, when will I know the right time to buy?"
The answer is that no one will ever know precisely the right time to buy. Anyone ever tells you that they do know is lying.
This leads us to the final secret of beating a bear market: dollar cost averaging. This is the best way to invest, and I have practiced it successfully for years. It is the method of buying continuously every month or week (whichever you prefer) at whatever price the market gives you.
Consider your results had you invested $1,000 every six months in Cisco for the last seven years. Below is a table of the prices you would have paid, all split-adjusted:
Date #Shares Price 1/94 561.79 1.78 6/94 729.93 1.37 1/95 529.10 1.89 6/95 389.11 2.57 1/96 235.85 4.24 6/96 161.55 6.19 1/97 143.27 6.98 6/97 132.80 7.53 1/98 95.15 10.51 6/98 82.30 12.15 1/99 41.98 23.82 6/99 37.36 26.77 1/00 18.51 54.03 6/00 16.41 33.32
At the end of seven years, your $14,000 investment would have become $61,121 -- even after the recent huge drop. The average price of your 3175.11 shares would be $4.41 per share. That would give you a 336.7% total return in seven years, or about 23.4% annualized.
"But what if I bought at a high price?"
The chances are that if you can find Rule Makers with superior management and massive global market share in their industry, then these companies will eventually fix whatever is currently wrong with the industry and take tremendous market share from the competition in the process. Wall Street can be dumb for periods of time but will eventually wake up and smell the coffee. At some point these stocks will hit a bottom and then start their rise again.
By dollar cost averaging into companies with superior management and EOS, you will win in the end. Remember not to guess, but put your nose to the grindstone and research the heck out of the companies you own. Never trust anyone but yourself and take full responsibility for your actions when you win or lose. Time, as they say, heals all wounds, but never more so than in the stock market.
Watch Main Street and Wall Street will take care of itself!
Peter Psaras, a.k.a. Mycroft, has been a Fool for a long time but never knew it. He works as a community discussion board stroller and sometimes editorial pontificator. He is also the Fool's biggest Philip Fisher disciple. He owns Nokia -- as reflected in his profile -- and also collects their phones. The Motley Fool is investors writing for investors.