For "small" investors like you and me, the secret to successful investing is this: Stand on the shoulders of giants. To beat the market averages year after year, closely study the pros who have done just that. Start with the standard investing classics:
- Ben Graham's The Intelligent Investor
- Peter Lynch's One Up on Wall Street
- Philip Fisher's Common Stocks and Uncommon Profits
Problem is, our competition out there in investing land has probably read all of these, too. They know the rules of "buy under book value," "buy what you know," and "never sell." To beat them, we must go further. To be not just individual investors but wealthy individual investors, we must also research the investing strategies of:
- John Neff, the manager who took over Windsor Fund at age 32 and revived this broken franchise, leading it to 32 years of trouncing the S&P with bold, contrarian picks like DaimlerChrysler.
- Shelby Davis, the New York insurance analyst who grew a $50,000 account into nearly $900 million over five decades of investing in good times and bad.
- Hetty Green, the 19th-century market maven who, over a lifetime of investing in stocks, built a fortune valued at $20 billion in today's dollars.
Neff, Davis, and Green, along with dozens of other very successful but poorly publicized personages, are the unsung heroes of the individual investor. They are the teachers we must study. They will be our inspiration and the source of our success.
Through continual study of these investing giants (both the famous and the not-so-much), Fool co-founder Tom Gardner and his Motley Fool Hidden Gems team have soundly beaten the market averages (since inception, the newsletter picks are beating the S&P 500 by an average of 26 percentage points). Today, I'd like to share with you four simple nuggets of wisdom that Tom and his team use every day.
1. Must have cash
A company in debt makes investors fret. When interest rates rise, so, too, does the cost of servicing debts -- and that saps strength from profits. If you own shares of Rite Aid (NYSE:RAD), which carries more than $2.7 billion in net debt and just $210 million in cash, be wary of the Fed. The same goes for owners of Albertsons (NYSE:ABS) -- $510 million in cash and $5.7 billion in long-term debt -- and Kroger (NYSE:KR) -- $474 million in cash and $6.6 billion in debt. Conversely, shareholders of Wall Street supermarket darling Whole Foods (NASDAQ:WFMI) -- whose treasury brims with more than $300 million in cash and holds just $13 million in debt -- can rest a bit easier.
2. Must have real profits
Heed the words of Third Avenue head Marty Whitman: "What the numbers mean is more important than what the numbers are." In this sense, "what the numbers are" is profits under generally accepted accounting principles -- and Enron taught us how truly malleable such numbers can be. The savvy value investor prefers companies that generate cold, hard cash profits -- free cash flow. While many investors were disappointed by Hidden Gems and Rule Breakers recommendation Blue Nile (NASDAQ:NILE) reporting just $13.2 million in net income for the year ended, the more than $30 million generated on the company's cash flow statement paints a happier picture.
3. Must have owner-operators
You tell me: Would shareholders of Tyco be better off today if Dennis Kozlowski and his gang had owned more than a fraction of 1% of the company they were robbing? When a company's managers own a stake in the business -- what we call "insider ownership" -- it creates a real disincentive to steal. Owner-operators of a business are natural allies of outside shareholders; when the business prospers, everybody wins. That's why, when researching potential Hidden Gems selections, we prefer small caps such as Fossil (NASDAQ:FOSL) and Old Dominion Freight Line (NASDAQ:ODFL). At Fossil, founder Tom Kartsotis continues to serve as chairman and owns more than 16% of shares. The Congdon family has been in charge of ODFL since its 1934 founding, collectively owning more than 20% of the shares. These stocks have returned 1,600% and 1,000% respectively over the past 10 years.
4. Must (not) have sex appeal
And while we're on the subject of things we don't understand -- satellite radio, anyone? Nano-stem-fuel cells? -- companies like WorldSpace, Altair Nanotechnologies, ViaCell, and Ballard have two things in common: They're all "hot" stocks, and they're all losing money hand over fist. At Hidden Gems, we leave the fast money to the day traders and stick to our knitting -- finding great, profitable, unknown companies that make for great, profitable, who-cares-if-you-know-about-it-it-made-me-rich investments. I suggest you do the same.
So there you have it: four tips the average individual can use to find promising investments. The team at Hidden Gems follows these precepts, plus many more that they've picked up from the world's greatest market minds. If you'd like to join Tom and his team, just click right here and sign up for 30 free days. You'll have access to the entire list of 50-plus cash-rich, profitable, insider-owned, and boring-as-all-get-out companies, all for one low price: nothing.
Of course, if you find you like what we have to offer, we'd love to have you stick with the service. But we have a firm policy around here: If you aren't thrilled with Hidden Gems, you may cancel at any time -- no strings attached. So have no fear; sign up right here.
An earlier version of this article was originally published on Aug. 25, 2005. It has been updated.
Fool contributor Rich Smith does not own shares of any company named above. If he did, we'd make him tell you about it . Whole Foods is a Motley Fool Stock Advisor recommendation. Tyco is a Motley Fool Inside Value pick.
