I don't know about you, but every time I hear one of the talking heads on CNBC say "the market's overvalued" or "the market's oversold," I shake my head in disbelief. How anyone can get an accurate read on the valuation and growth prospects of all 10,000-plus companies in the publicly traded universe, and then sum them all up as being "expensive" or "cheap" in a 30-second sound bite is simply beyond me.
Maybe it's because they're the Wall Street Wise Men and I'm just a simple Fool, but I find it terribly difficult to put a value on more than one company at a time. With an individual company, I can calculate its enterprise value and its growth rate. I can count the cash in its bank account and match that up against the debt on its balance sheet. I can listen to its CEO on the company's earnings conference call and decide that "this sounds like an honest guy" or "this guy's selling snake oil."
But the whole market? Why, the market doesn't even have a CEO.
But, honestly, it doesn't matter -- because I don't intend to invest in "the market," anyway. Why would anyone settle for the average 10.5% annual market returns, knowing that it's possible to make so much more?
Investing legend Peter Lynch, former manager of the Fidelity Magellan Fund, earned 29% annual returns for his clients during his tenure there from 1978 to 1990. More recently, Bill Miller, head of the Legg Mason Value Trust, has outrun the S&P 500's average returns by a full 7% over the past 10 years. And here at The Motley Fool, our own Philip Durell is putting up big numbers, too. He's beating the S&P 500 with a total return (capital gains plus dividends paid) of better than 9% (nearly triple the market's overall return) since his Inside Value newsletter began last year.
What's the secret to achieving annual investment gains that rival the achievements of some of the greatest investing minds on the planet? Well, in grade school we used to refer to it as "wandering eyes." In business, though, we call it "studying the masters." It means imitating the successful strategies devised by those who've come before us, and constantly tweaking and improving upon them to suit our own style.
Consider a few examples.
Buy what you know
If there's one quote or investment maxim that's most commonly associated with Peter Lynch, it's to invest in companies that you're already intimately familiar with, whose stores you shop in, whose products you use every day. After all, why spend days and weeks researching an unfamiliar company when you have practical knowledge of another? That's the kind of logic that Mr. Lynch followed when buying companies such as Chrysler (now part of DaimlerChrysler
Seek out hidden value
Some companies are so complex as to confound the ordinary investor. Even a seasoned Wall Street analyst, one would think, probably has a hard time keeping a handle on the many business lines that comprise a diversified entertainment company like Disney
However, true value doesn't remain hidden forever. While legendary economist Eugene Fama may have been overstating the case when he developed his "efficient market" theory, the fact of the matter is that, given enough time, Wall Street will ultimately figure out what any company is really worth. The trick in value investing is to beat Wall Street to the punch, to find the value before others do, to buy ahead of the pack, and, ultimately, to be the one holding the shares when the slowpokes from Wall Street come wanting to buy. This may explain Bill Miller's prescient decision to make Ameritrade
Profit from panic
Listen, I love quoting the investing masters as much as any financial writer does. But let me confide a pet peeve to you: I'm tired of abiding by the unwritten rule that the only things worth quoting are things said by men who are either old or, more often, dead. Us young'uns come up with the occasional zinger too, you know. For example, take these two great quotes by the Fool's own senior investing editor, Bill Mann:
"The best time in the world to buy a great company is when everyone else is afraid of it, or hates it."
"I'd suggest to you that the time to be investing is when everyone else is running away in terror."
Words to live by -- or at least invest by. And they match up with another of the investing philosophies we follow at Inside Value: There's profit to be made in others' panic. When the suits up on Wall Street are running scared, afraid their bosses might catch them owning a stock that's garnering negative headlines in consecutive issues of The Wall Street Journal, they're not thinking too much about the business' fundamentals -- they just want out. Now.
As individual investors, however, we're our own bosses. No one's going to fire you for buying an unpopular stock. Sure, the spouse, kids, coworkers, and neighbors may chuckle a bit at your Foolishness, but if the company is sound, who do you think will have the last laugh?
I suspect there was some bemusement among Wall Street's Wise Men when word got out that Bill Miller had given not one, not two, but three homebuilders top-25 berths in Opportunity Trust. Sure, Pulte
Funny they should ask. Philip Durell got the same questions when recommending mortgage market facilitator Fannie Mae
So: MCI and Fannie Mae. Now you know two of our favorite companies. What will it be next month -- perhaps another victim of the ever-expanding, yet still unburst, housing bubble? Could we be brazen enough to "double down" and buy Freddie Mac
So go ahead. Click here to join Inside Value for a free 30-day trial. If you like the service, we'd be proud to have you stay with us as a charter member. If not, cancel and we'll gladly refund you for the entire unused portion of your subscription. No questions asked. No strings attached. You have our word on it.
This article was first published on Feb. 8, 2005. It has been updated.