As you may know, Peter Lynch was the manager of the Magellan Fund at Fidelity Investments between 1977 and 1990. The Magellan Fund’s annual average yield was 30% and his assets under management increased from $18 million to $14 billion during his tenure. Peter said that if you ignore the ups and downs of the market then within 5 to 15 years your portfolio will reward you handsomely. He wrote one of my favorite investing books of all time One Up on Wall Street. I just finished reading it once again and I wanted to share his top 13 stock picking tips from One Up on Wall Street.
1. Company name sounds dull or even better to be ridiculous.
His definition of perfect stock is to be attached to the perfect company that engaged in a perfectly simple business that has a perfectly boring name. He used various examples under this topic.
- Automatic Data Processing (ADP)- Does very boring payroll processing work for other companies. ADP was traded at around $1 in 1980 but became $80 in 2014.
- Bob Evans Farms (BOBE) – Family restaurant that was traded at around $3 in 1980 but became $55 in 2014.
- Pep Boys—Manny, Moe, and Jack (what can be duller than this? 🙂 )- Peter Lynch said “The most promising name I’ve e
ver heard. It’s better than dull, it’s ridiculous” Pep Boys- Manny, Moe, and Jack is a service and automotive aftermarket company and its stock was traded at less than $1 in 1980 and hit $35 in the mid 90’s.
2. Company does something dull.
Peter gets even more excited when a company with a boring name also does something boring. Peter gave Peter Crown, Cork, and Seal as an example that makes cans and bottle caps. What can be more boring than that? A company that does dull and boring things as good as a company that has a boring name. If a company has both characteristics, then the best can come out. When you find a company that has a boring name, does boring things and has good earnings then buy their stoc
ks when they are cheap and not trendy. When good news shoots up and the company becomes trendy and overpriced, you can sell the stocks to the trend-followers.
3. Company does something disagreeable.
Peter stated “Better than boring alone is a stock that’s boring and disgusting at the same time. Something that makes people shrug, retch, or turn away in disgust is ideal”
Peter’s one of examples is Safety-Kleen which goes around to all the gas stations and provides them with a machine that washes greasy auto parts. He claimed that not many analyst would want to write about the company and not many portfolio manager would want to have the company included on his/her buy list. Peter also mentioned Envirodyne which dominates plastic cutlery and plastic straws markets. Envirodyne purchased, Viskase, a leading producer of intestinal byproducts, particularly the casings surrounding hot dogs and sausages and also purchased Filmco, the leading producer of the PVC film that’s used to wrap leftover food items. Peter said in the book “Plastic forks, hot-dog casings, plastic wrap- pretty soon they’ll take over the family picnic” Peter bought Envirodyne for $3 a share in September, 1985 and sold it for $36⅞ in 1988.
4. Company is a spinoff.
Peter stated that large parent companies spin off divisions do well to minimize the chances of being publicly humiliated. Spinoffs typically have strong balance sheets and fundamentals to succeed as independent entities.
5. Institution does not own the company and analysts don’t follow the company.
Peter stated that “If you find a stock that has very little institutional ownership, you have found a potential winner” It gets even better if that is not covered by any analysts. He also loves stocks that used to be popular that were abandoned later on such as Chrysler and Exxon- so called turnaround stocks. Exxon’s $2 stock in 1980’s became $100 in 2014. Exxon became 50 bagger after 35 years since then.
6. Company’s business is related to toxic waste or mafia.
Peter believed waste management is a perfect industry (at the time). He said “If there’s anything that disturbs people more than animal casings, grease and dirty oil, it’s sewage and toxic waste dumps”. He were excited when Solid Waste company’s executives came to the town for a convention. They were wearing polo shirts that said “Solid Waste” Who would really put on shirts like that? Those are the kind of executives and stocks you dream about. Another example is Waste Management that is up about a hundredfold.
7. Company is depressing “If there is anything Wall Street would rather ignore besides toxic waste, it’s mortality”.
Peter gives (SCI) as an example. SCI does burial. Its stock was traded around $0.70 in 1980 and became $40 in 1998. SCI became more than 50 times bagger. SCI bought active funeral parlors that bury a dozen or more people a week and pioneered a lawaway plan that enables paying off funeral services in advance when you can still afford it so your family don’t have to pay for it later. The stock was neglected by Wall Street for years in spite of a great fundamentals with extremely low debt level. SCI executives had to beg people to listen to their story. What a great stock that could have been purchased. Once it was noticed by Wall Street, the stock price skyrocketed.
8. Company is in no-growth industry.
Low growth industry like plastic knives and forks, funerals, waste management etc… is where the biggest winners are found. Peter believes that there is nothing fun and exciting about high growth industry. That’s because there are millions of geniuses trying to figure out how to make their products cheaper in countries with cheap labour costs. As soon as a technology company develops a brilliant product, there are twenty other technology companies work their asses off to make a better one within a year. That does not happen to plastic knives and forks manufacturer, waste management company and funeral homes. In a no-growth or slow growth industry, especially one that’s boring and make people upsets, then there will be a minimal competition. No one else would be interested. Think about it, would your wife be happy if you are thinking of starting a garbage collection company? Can you brag it to your family and friends even though your company makes tonnes of money? Most of people would think alike. It is a dirty job.
9. Company has a niche.
Peter gave an interesting example. He said, owning a rock pit is safer than owning a jewelry business. If you own jewelry business, you are competing with every jewelers in the world. Not only jewelers across town and state but international jeweler will try hard to compete with you. If you have a gravel pit in Brooklyn, you have a monopoly and on top of that you have unpopularity of the rocks. Another rock pit company two towns over would not compete with you as it would cost him higher to deliver the rocks into your territory. That’s what your niche is. My favorite investor of all time Warren Buffett is a mater of niche market. He did amazingly well on finding values in newspaper that dominated its niche market starting with the Washington Post. For example, Affiliated Publications, which owns the local Boston Globe that has 90% of market share in Boston area. How could the Boston Globe lose? Peter also loves Drug companies. Due to their patents, competitions with billions of cash and MIT and Harvard geniuses can’t invade the territory. They have to develop different drugs, prove that they are different then go through many years of killing rats and clinical trials with hungry students before government allows them to sell the drug. Tylenols and Advils are excellent niche products as it takes very long time and a fortune to develop public confidence in drugs.
10. Company that people have to keep buying from.
Peter prefers to buy stocks of companies that make drugs, soft drinks, razor blades, cigarettes, toilette papers (you get the idea) than companies that make
toys. The toys are trendy business and the trend changes as short as within a couple of months. I remember when Dragon Ball Z was on TV, every kid in town had to buy its dolls but slowed down significantly when another cartoon became popular. Popularity of Dragon Ball Z dolls slowed when cartoon ended on TV.
11. Company benefits as technology develops
Rather than buying stocks of technology companies that get into chicken races, buying companies that benefit greatly as technology develop. Peter mentioned Automatic Data Processing (ADP). As technology develops, ADP can do the job more cost efficiently. Instead of investing in automatic scanner developer why not investing in supermarket that uses automatic scanner that cuts costs.
12. Insiders are buying
Who knows about your company better? Analysts? Auditors? Your neighbour and friends? It is you, insider. When insiders are putting their own money into it, then they believe there is a higher chance that they think stocks are cheap and will go up in the future and you as an investor be confident that the company will not go bankrupt for a while. Peter stated “When management owns stock, then rewarding the shareholders becomes a first priority, whereas when management simply collects a paycheck, then increasing salaries becomes a first priority” Then here comes another question. If insiders are selling, then should you sell? Well if a stock had gone from $1 to $10 within a short time and the fundamentals are deteriorating, then you may have to sell the stock however under normal circumstance, insider selling does not mean the company is in trouble. There can be many reasons why management would sell. They may need money to pay for their kids’ tuition, vacation home or may just want to diversify their investment. But there is only one reason that insiders would buy. The stock is undervalued.
13. Company is buying back its shares.
As well as paying out dividend, buying back its own shares is the easiest way a company can give back to its shareholders. That means the company has faith in its future. When stocks are bought back, the remaining shareholders get paid higher even though company makes the same profits. You can check how many shares were purchased from cash flow statement. As an example of google finance, click financials then cash flow. If you can see if the company has retired its stock, then it is a good signal that stock is attractively valued and the company is buying back its own stocks. You may find a company that increases debt to buy back shares which would be a great sign as long as you watch for its debt level.
Every single tip out of these 13 tips are really priceless. It does not seem very hard as long as we could apply our common senses, determination and patience into our investing activities. I strongly recommend you to read the book if you are serious about investing.
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Nice peals of wisdom. I happen to agree with the boring un-sexy businesses that tend to perform great even though no one has heard of them yet use their products on a daily basis. This is why I like ITW, LEG, BMS and the like. Sometimes it’s the most mundane industries that last through all economic climates and is never a fad or trend, rather a life staple like trash pick up.
You are exactly right. There are hidden gems out there that not many people know about. As long as their fundamentals are great, the stock price will eventually catch up if they are currently undervalued. I like that you are looking into underdogs with great potentials. I am doing the same all the time, hopefully, I find one some day. It is always around. We just need to keep our eyes open. Thanks for stopping by DivHut!
Some great points there. I have been meaning to read his book, “One up on Wall Street,” but haven’t got to it.
Some of his points are similar to Warren Buffet’s. In the sense, both of them want to avoid the “darlings” of the Wall street, as that is where the speculation is going to be ripe, and when it gets neglected it’ll collapse fast.
Personally, I pay close attention to the management buying back shares, while they have increased their revenues. This to me is a sign of good management.
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