We're all searching for winning stocks. The hard part is finding them.
Some investors buy hot stocks that are on a roll. Others buy stocks that are out of favor, expecting that they'll bounce back. Still others rely on tips from friends, pundits, you name it. But how many investors truly have an investing method -- you could also call it a philosophy -- that they have confidence in? One that promises to deliver above-average returns over the long haul?
All of the great investors have approached the market with a particular point of view that was the bedrock for how they selected stocks. And while we can learn much from them, there are also plenty of nuggets of insight from the greatest thinkers throughout history to guide us. Today, let's imagine how Plato, whom many consider the greatest philosopher of all time, might approach the stock market.
Want a dialogue?
Plato was a pupil of Socrates in the fifth and fourth centuries B.C. His early writings expounded on his mentor's thoughts on morality -- as Socrates himself never wrote down a thing. Plato's writings took the form of dialogues between Socrates and one other individual who asked loaded questions and thereby allowed Socrates to explain his points. Many language scholars consider Plato's dialogues to be the finest prose ever written.
Plato's range was enormous. His best-known works are The Republic, which deals with the nature of justice, and Symposium, an investigation into the nature of love. But his repertoire touched on many other topics, too, including government, mathematics, art, and the natural world. Plato even founded the first prototype college, which he called his Academy. His work was so influential in the development of Western civilization that it is often said all of philosophy is merely footnotes to Plato.
The ideal Forms
His best-known doctrine is his theory of ideal Forms (the word Forms usually being capitalized to make clear it is being used in Plato's particular sense). Plato noted that everything in the physical world is in the process of decaying and turning into something else. But he also observed that the universe appears to be ruled by order, harmony, and perfect proportions. From these observations he deduced that the cosmos contained ideal Forms such as beauty, mathematics, and reason.
From this doctrine, Plato divided the world into two realms: the visible world that we can see and touch, and another realm that our senses cannot detect but where there is perfect order. He went on to conclude that human beings have a higher plane of existence, timeless and indestructible, which we may refer to as our souls. While Plato arrived at these conclusions through philosophical argument, his "ideal Forms" doctrine later became an important theoretical foundation for Christian theology.
So, what would Plato buy?
You may ask what any of this does has to do with modern-day investing. Let me suggest that Plato's doctrines point to companies fortunate enough to have pioneered what I would call an ideal business model for their industry. This is not the same thing as an ideal industry itself, which doesn't exist. Every industry has opportunities and problems. But within many industries is a company that has found the ideal way to conduct business and in the process has built a competitive moat wide enough to swallow several suspension bridges.
Microsoft (NASDAQ:MSFT) has such a wide competitive moat that its biggest problem is swatting down lawsuits that charge the company with monopolistic practices. Operating margins are north of 35%. Free cash flow exceeds 25%. The company is sitting on more than $30 billion of cash and investments, and it paid a $36 billion special dividend a few years ago.
Starbucks (NASDAQ:SBUX) sells an incredibly simple product that people have consumed for centuries, but no other company has anywhere near the size and scale to compete on its level. Worldwide expansion is only halfway completed. It's one of the most respected brands in the world and can easily be extended into other areas besides coffee -- music, for example.
And Netflix (NASDAQ:NFLX) has developed an ideal distribution model for films -- one that has knocked Blockbuster (NYSE:BBI) back to the Stone Age. The company has more than $1 billion in revenues but requires only $30 million in annual capital expenditures. Similarly, Southwest (NYSE:LUV) is the only airline I know that has discovered how to be consistently profitable in a low-margin, cutthroat industry.
What's your investment philosophy?
My point is not that you should buy these companies today. Several of them have had setbacks recently. Starbucks' stock has been creamed the past few months on multiple contraction, although I would argue this has nothing to do with the viability of the business model. Instead, I'm suggesting that owning companies with superior business models and wide competitive moats is a sound investment philosophy for the long term ... one that Plato would approve of.
Discovering these types of companies before the rest of the market has caught on is very difficult. The trick is usually to buy them when they're out of favor with the rest of the market, when they're truly a great value. Coca-Cola (NYSE:KO) had been around for about 80 years before Warren Buffett showed the world that it was an undervalued gold mine.
Most people today don't have the time to do the diligent research required to figure out when a great company is also a great value, as opposed to an investment trap. If your days are as hectic as mine, consider jump-starting your research with the Motley Fool Inside Value service. Let a team of experts cull through the best companies in each industry and recommend which are the most promising value opportunities. Then you can decide for yourself whether Plato knew what he was talking about. You can even get a free trial.
Microsoft and Coca-Cola are Inside Value recommendations. Starbucks and Netflix are both Motley Fool Stock Advisor selections.
For more insight into a Platonic approach to investing, check out:
Fool contributor Timothy M. Otte surveys the retail scene from Dallas, where he welcomes comments on his articles. He owns shares of Starbucks but none of the other companies mentioned in this article. The Fool's disclosure policy thinks; therefore, it is.
