The legendary Peter Lynch made famous the "buy what you know" investing philosophy. His purchases of companies such as Sallie Mae
Grasping this concept can be extremely profitable. Here's why.
Under the radar
Investing in obscure stocks may seem counterintuitive at first, but that's entirely understandable. After all, it's obvious the real the money is being made in big names such as Cisco Systems
Wouldn't it be better to find the companies whose great run is still to come?
That's where the obscure and boring part comes in. We're much more likely to unearth a future Lynch 10-bagger among the names that are not yet household but will be in a few years. It's not a bad thing if your friends remark, "You bought what?" when hearing of your latest investment.
Lynch, for example, raised a few eyebrows with his purchase of Pep Boys. Many had never heard of the auto parts store and found the name rather silly. That was fine by Lynch, because it allowed him to get into the stock at bargain prices. Chico's
More examples can be found in some of Tom Gardner's Motley Fool Stock Advisor recommendations, past or present. Have you ever heard of Affiliated Managers Group
Boring. Obscure. But Tom recommended them to members about four years ago, and they've since increased 219% and 223%, respectively. (Tom has since recommended selling Affiliated Managers.)
You can see how unknown companies are more likely to carry bargain price tags than their headline-grabbing brethren. Because fewer people have heard of them, there's less demand for their stocks. Lower demand, lower prices.
But the best part is that as long as a company executes well and continues to rake in the cash, it will attract greater notice. It can't be helped. More investors begin to buy in, driving up demand right along with the stock price.
Tom and his brother David have employed several Peter Lynch principles during their outstanding performance in Stock Advisor -- 72% total average returns versus 28% for equal amounts invested in the S&P 500. A new issue was released last Friday. In it, you can see the Gardner lads' newest picks, as well as a review of past recommendations. And you'll get this all free of charge with a 30-day trial. There's no obligation to subscribe.
This article was originally published Feb. 17, 2006. It has been updated.
Rex Moore is co-founder of The Sea Monkey Rescue Group and an all-around good guy. He owns no companies mentioned in this article. UnitedHealth is an Inside Value and a Stock Advisor choice. UPS is an Income Investor recommendation. The Motley Fool has adisclosure policyon that Internet thingie.