When thinking about the easiest way to make a million dollars, the lottery comes near the top of my list. But after extensive research into this intriguing investment strategy, I discovered a couple of problems. First, lottery tickets lose money on average. Second, they have really high variance -- I could buy a lottery ticket every day for the rest of my life and still not win the top prize. In fact, if I did it for my next 250 lifetimes, I most likely wouldn't win the top prize.
After 2,500 years, it would get pretty frustrating to lose every time. So a less-annoying strategy is to simply buy stocks on a regular basis and wait for them to become worth a bundle.
Two simple strategies
Between 1968 and 2002, the S&P 500 returned 6.5% annually. At this rate, if you were to invest $300 a month, you'd get to $1 million in about 46 years. So if you're 20 and you start buying the SPDRs exchange-traded fund, which mimics the S&P 500, you'll be there by retirement. This is much better than 250 lifetimes.
On the other hand, it's still a long time. I'd rather get there faster, so I'd prefer better-performing stocks. Luckily, it's still easy to find stocks that have higher returns -- value stocks returned 11% a year over the same time period. That would reduce the time to $1 million from 46 to 33 years. In fact, some of the best performing value funds have made serious money on big value picks like JP Morgan (NYSE:JPM) and UBS (NYSE:UBS), which have returned 17.8% and 10.4% annually over the past two years.
But, you know, I'm really impatient. I'd prefer to make my $1 million even more quickly.
A faster way
To do that, you must find even better-performing stocks. Consider:
|
Company |
Bought |
Sold |
Annual Return |
|---|---|---|---|
|
Moody's |
2001 |
Holding |
18% |
|
Wells Fargo |
1991 |
Holding |
18% |
|
IBM |
1995 |
2000 |
41% |
|
AutoNation |
2000 |
Holding |
16% |
|
Lloyd's TSB (NYSE:LYG) |
2004 |
Holding |
18% |
|
Colgate-Palmolive (NYSE:CL) |
2004 |
Holding |
16% |
Aside from great returns, what do these stocks have in common? Two things.
First, they are all stocks selected by expert value investors. Moody's and Wells Fargo are longtime holdings of Berkshire Hathaway, Warren Buffett's company. IBM and AutoNation are two of Eddie Lampert's picks -- a fellow lauded as the next Warren Buffett. Lloyd's and Colgate are two companies recommended by Philip Durell, the lead analyst of our Inside Value newsletter. The "Bought" and "Sold" years in the table indicate both when these investors found the shares attractive enough to buy and when they decided that the potential upside was no longer great enough to justify maintaining their position.
Second, these stocks aren't your typical companies. They're much better. They're well known and dominant in their respective niches. Colgate faces titans like Procter & Gamble (NYSE:PG) on a daily basis and still makes plenty of money. Simply speaking, these aren't cigar butts. They're excellent businesses that can provide superior returns for a long time.
And that's the key to getting even better returns out of value stocks -- focusing on quality. There are tons of companies out there but few can develop the brand quality that a company like Nike (NYSE:NKE) leverages to the max. Don't just buy any value stock, buy the best and strongest companies. In other words, don't settle for the Chrysler when you can get the Ferrari for the same price.
How long with these stocks?
With these stocks, how long would it take to reach $1 million? Well, Buffett and Lampert both have returns of more than 20% annually. If you can duplicate their 20%-plus returns, you'll be a millionaire after 22 years (and would have $10 million in 34 years). That's one reason I believe the best way to make a million in the stock market is by focusing your efforts on finding these stocks.
That's what Philip does at Inside Value, and it's one of the reasons why he's outperforming the S&P 500 by nearly two percentage points. You can read about his top five picks for pure upside potential using this free pass.
This article was first published Jan. 20, 2007. It has been updated.
Fool contributor Richard Gibbons was hoping to retire before he was decrepit. Unfortunately, he's halfway to retirement but most of the way to decrepitude. He does not have a position in any of the stocks discussed in this article. JP Morgan is an Income Investor recommendation. Colgate-Palmolive is an Inside Value pick. Berkshire Hathaway is an Inside Value and Stock Advisor selection. Moody's is a Stock Advisor pick. The Fool has a disclosure policy.
