One Up On Wall Street By Peter Lynch - Key Takeaways For Investing Success

One Up On Wall Street By Peter Lynch – Key Takeaways For Investing Success

One Up On Wall Street stands the tests of time as legendary fund manager Peter Lynch shares the investing strategies behind his successful Fidelity career. The investing lessons herein will make you a better investor!

Peter Lynch originally wrote the book in 1989 and included an updated introduction for the 2000 edition. He left the Fidelity Magellan Fund in May 1990, retiring at age 46. His fund generated an annualized return of 29.2% for 13 years from 1977-1990, which was more than twice what the S&P 500 earned during that timeframe.

I share my key takeaways from the book and highly recommend you also read the book for its very detailed insights! In the intro, Lynch said he considers the breakup of AT&T in 1984 to have been the most significant stock market development of that era (while the October 19, 1987 wobble would not be in his top 3).

Then today (2000) it’s the internet, and he said it’s passed him by. He’s been technophobic like Warren Buffett, saying you don’t have to be trendy to succeed as an investor.

Lynch said that most great investors don’t own what they don’t understand, and neither does he. He understands Dunkin Donuts and Chrysler. Sometimes you can discover the best stocks through eating or shopping, long before professional stock hounds come across them.

Peter seems to regret not buying Amazon in the late 1990s, but I suppose people could’ve bought that throughout most of the last 20 years and still have profited, most likely.

He had written that 500 stocks have miraculous levitations, does it make sense that they already reflect years of rapid earnings growth that may or may not occur? When he said “with today’s internet stocks, fundamentals are old hat,” he could’ve been talking about 2021. I sense somewhat of a echo today.

I appreciate how Lynch said that in spite of the instant gratification that surrounds him, he continues to invest the old-fashioned way.

Lynch owns stocks where the results depend on ancient fundamentals: a successful company enters new markets, its earnings rise, the share price follows along. Or when a flawed company turns itself around.

The typical big winner in the Lynch portfolio generally takes 3-10 years or more to play out.

Lynch suggested it’s a dangerous delusion: what Mr. Market pays for a stock today or next week doesn’t tell you which company has the best chance to succeed 2-3 years down the info superhighway.

We should look at the market capitalization, and ask what does a have to do to increase its market cap from $10B to $100B? He applied a generic 40 Price to Earnings (PE) for a fast growing operation. To reach $100B market cap, the company must earn $2.5B a year, and join the likes of Microsoft, which was a 100 bagger he overlooked.

Wonderful companies become risky investments when people overpay for them. Example: In 1972, McDonald’s stock was bid up to 50 times earnings. With no way to live up to these expectations, the price fell from $75 to $25, and it was a great buying opportunity at a more realistic 13 PE.

Lynch repeats the theme of how the amateur investor has advantages over the typical professional fund jockey because the information gap has closed.

He said you don’t need to make money on every stock you pick. 6/10 winners can produce a satisfying result. All you need for a lifetime of successful investing is a few big winners.

Much like in 1999, when the dividend yield of the S&P 500 was 1%, it’s not much higher these days at about 1.3%. Lynch said dividends are becoming an endangered species because of double taxation (to the corporation and the shareholder), and stock buybacks have been increasing in use.

He’s all for healthy companies skimping on dividends and buying back shares, which reducing the supply of shares while increasing the earnings per share. This practice eventually rewards shareholders, although they don’t reap the reward until they sell their shares.

Lynch indicated that during the bear market of 1973-74, the nifty fifty stocks fell 50-80%. If you held these stocks from their highs in 1972, your choice was vindicated by the mid-1990s when they surpassed the S&P 500.

Per the book, he recaps some historical trends in that corrections of -10% happen every couple of years, bear markets of -20% occur every 6 years, and severe bear markets of -30%+ have happened five times since the 1929-1932 doozie.

Lynch warned it’s important not to buy stocks or mutual funds with money you need to spend in next 12 months on college, wedding, etc.

He wrote that long bull markets occasionally hits potholes as back then they had just recovered from the 1987 crash (-35% in 2 days) and he was in Ireland when Black Monday happened. When the bears arrived in 1990, he felt that was scarier than 1987 because in 1987 economy perking along, banks were solvent, and fundamentals were positive. But by 1990 the country falling into recession, biggest banks were on the ropes, and they were preparing for war.

“That’s not to say there’s no such thing as an overvalued market, but there’s no point in worrying about it. It’s often said a bull market must scale a wall of worry.”

I like how he wrote his rule number one of “stop listening to professionals!” because the smart money isn’t always so smart, and the dumb money isn’t always so dumb. [Smart = Wall Street, Dumb = Retail or amateur investors]

Lynch said that the mutual fund is a wonderful invention for people who have neither the time nor the inclination to test their wits against the stock market.

He said there are 3 good reasons to ignore what he is buying because 1) he may be wrong 2) even if he’s right, you never know when he’s changed his mind about a stock and sold 3) you’ve got better sources, and they’re all around you.

Lynch tells stories of the power of common knowledge, like when The Limited was a 100 bagger. He shares a satirical story of Harry Houndstooth, aka the “Designated Investor,” and his wife, Henrietta, who is the “Person Who Doesn’t Understand the Serious Business of Money” but Harry makes foolish investments in stocks he doesn’t understand but if he had paid attention to his wife’s activities, he could have made a fortune buying The Limited.

From your own life of buying cars or cameras, you develop a sense of what’s good and bad, saying the wall street restaurant analyst isn’t going to notice Dunkin until the stock has quintupled from $2 to $10.

His success in running the Magellan fund primarily comes from discovering and researching on his own little known out of favor stocks.

He has 3 main sections of book: 1) preparing to invest how to assess yourself as a stockpicker, size up the competition, evaluate whether stocks riskier than bonds, examine own financial needs, how to develop a successful stockpicking routine. 2) picking winners deals with how to find the most promising opportunities, what to look for in a company and what to avoid, how to sue brokers, annual reports, and other resources to best advantage, and what to make of numbers Price To Earnings or PE ratio, book value, cash flow often mentioned in technical evaluation of stocks. 3) long term view deals with how to design a portfolio, how to keep tabs on companies in which you’ve taken an interest, when to buy and sell, the follies of options/futures, and general observations about the health of wall street, American enterprise, stock market that he’s noticed in his 20-odd years of investing.

I love how he wrote “if you are undecided and lack conviction, then you are a potential market victim who abandons all hope and reason at the worst moment and sells at a loss.”

It’s a running joke that Lynch never saw a stock he didn’t like because his fund held 1400 stocks and/ $9 billion AUM. But individual investors don’t have to follow the same prescriptive rules that the professional money managers have in place, so they’re free to invest more flexibly.

Lynch had to comply with how the SEC stipulated that a mutual fund like Magellan can’t own more than 10% of shares in any given company, nor can he invest more than 5% of the fund’s assets in any given stock.

Apparently with many funds managed by the professionals, each stock list has to be approved by all 30 managers or sometimes they cannot invest in stocks with less than a $100M market cap.

I like how he said with just like no great book was ever written by committee, no great portfolio was selected by one either.

There’s a lot of groupthink in the homogeneous lot on Wall Street, he wrote, where when they’re wrong there’s a lot of indiscriminate selling of current losers and this is called “burying the evidence.”

There’s no one to criticize your results, except maybe your spouse. He said there’s nobody to chide you for buying back a stock at $19 that you earlier sold at $11, which may be perfectly sensible but Wall Street could never buy back stocks they sold at 11. Or else their quotrons would be confiscated.

I enjoyed “the stock market demands conviction as surely as it victimizes the unconvinced.”

One of the signs of the times was how he said “it’s one thing to prefer stocks to stodgy savings account that yields 5% forever,” I wish this could still be a thing. Back then, he said since 1927, common stocks had recorded gains of 9.8% a year on average, compared to 5% corporate bonds, 4.4% government bonds, 3.4% treasury bills, and the long term inflation rate was 3%.

“You’ll never get a tenbagger in a bond, unless you’re a debt sleuth.” Maybe something eerily prescient when he said “try holding onto a 30 year bond with 6% coupon during period of raging inflation and see what happens to the value of the bond.”

Lynch uses some stud poker analogies, and to Lynch, “an investment is simply a gamble in which you’ve managed to tilt the odds in your favor” since the stock market is not pure science, and is not like chess where the superior position always wins.

He suggests that before you buy a share, there are “personal issues” that ought to be addressed: 1) do I own a house, 2) do I need the money, and 3) do I have the personal qualities that will bring me success in stocks?

It’s funny how he said “it’s no accident that people who are geniuses in their houses are idiots in their stocks” because people spend months buying a home but minutes buying stocks. And houses are rigged entirely in the owner’s favor with the remarkable power of leverage.

He said “only invest what you can afford to lose without that loss having any effect on your daily life in the foreseeable future.”

Ask yourself if you have these qualities: patience, self-reliance, common sense, tolerance for pain, open-mindedness, detachment, persistence, humility, flexibility, willingness to do independent research, equal willingness to admit mistakes, and the ability to ignore general panic when SHTF. It’s crucial to be able to resist your human nature and gut feelings.

I like some of the stats on how 65% advisors fearing worst was yet to come at the start of the 1974 rebound, and in 1982 before bull market, 55% advisors bears. Then by 10/19/1987, 80% advisors were bulls again.

This is key for market sentiment: “by the time the signal is received, the message may already have changed.”

I like how he quotes some Buffett-isms. “As far as I’m concerned, the stock market doesn’t exist. It is there only as a reference to see if anybody is offering to do anything foolish.”

In the early 1960s, if you had bought Berkshire at $7/share, it would be $4,900 in 1989. If you invested $2000 back then it would be a 700 bagger, worth $1.4 million in 1989. Forget that, by 2021, Berkshire A shares had reached over $430,000 per share!

Lynch also said about Buffett: when he thought stocks grossly overpriced, Buffett sold everything and returned all the money to the partners. “The voluntary returning of money that others would gladly pay you to continue to manage, is unique in the history of finance.”

Since it’s impossible to predict markets and anticipate recessions, you have to be satisfied to search for profitable companies that will make it through. For example, Taco Bell soared thru 2 recessions.

As you’re building the investment case or developing the story, the first step is to put stocks into one of six categories he defines as:
Slow Growers: utilities, computers, chemicals, steel: steady dividends
Stalwarts: Coca Cola, Bristol Myers [Squibb], Procter & Gamble, Hershey’s, Ralston Purina, Colgate Palmolive
Fast Growers: Small aggressive new enterprises 20-25% growth/year
Cyclicals: cars, airlines, tire, steel, chemical, and defense companies
Turnarounds: battered, depressed, barely drag companies out of Chapter 11 bankruptcy, but can get spinoffs like Toys R Us
Asset Plays: company sitting on something valuable that Wall Street has overlooked like the rock pit with Pebble Beach

He said how restructuring is a company’s way of ridding itself of certain unprofitable subsidiaries it should never have acquired in the first place in the endeavor of diversification. Lynch calls the earlier buying of these ill-fated subsidiaries “diworseification,” which is a somewhat different definition of that word than what Charlie Munger refers to as buying too many stocks (more than 4-5) is diworseification. Ironic how Lynch had 1400 stocks!

Peter Lynch’s Favorable Attributes of Companies:
1) It sounds dull, or even better, sounds ridiculous like Pep Boys or Cajun Cleansers
2) It does something dull like Crown Cork Seal or Seven Oaks International
3) It does something disagreeable like Safety Kleen or Envirodyne
4) It’s a spinoff often resulting in lucrative investments: Baby Bells from the AT&T breakup
5) Institutions don’t own it and the analysts don’t follow it
6) Tumors abound: it’s involved with toxic waste like Waste Management
7) Something depressing about it like SCI funerals/burials
8) It’s a no-growth industry
9) It’s got a niche: rock pits, nickel, and newspaper advertising like The Washington Post and The Boston Globe [back in the day]
10) People have to keep buying it: commonly used medicines, soft drinks, razor blades
11) It’s a user of technology: Automatic Data Processing
12) The insiders are buying
13) The company is buying back shares

I like how Lynch explained “the common alternatives to buying back shares are (1) raising the dividend, (2) developing new products, (3) starting new operations, and (4) making acquisitions. Gillette tried to do all four, with emphasis on the final three. Gillette has a spectacularly profitable razor business, which it gradually reduced in relative size as it acquired less profitable operations.”

Lynch said the PE ratio can be thought of as the number of years it will take the company to earn back the amount of your initial investment.” A PE of 10 gets your money back in 10 years assuming earnings stay constant.

Peter Lynch’s Compare Growth Rate to Earnings Formula:
(Long-term Growth Rate + Dividend Yield) / PE Ratio. 1 is poor, 1.5 is OK, and you want 2 or better.

Not sure if the market has permanently deviated from these historical averages, but he wrote “an average p/e for a utility (7 to 9 these days) will be lower than the average p/e for a stalwart (10 to 14 these days), and that in turn will be lower than the average p/e of a fast grower (14–20).”

And on growth rates, “all else being equal, a 20-percent grower selling at 20 times earnings (a p/e of 20) is a much better buy than a 10-percent grower selling at 10 times earnings (a p/e of 10).”

Lynch shares how the overall market PE increase from 8 to 16 during the 1982 to 1987 bull market, and “this meant that investors in 1987 were willing to pay twice what they paid in 1982 for the same corporate earnings—which should have been a warning that most stocks were overvalued.”

Moreover, he had some fascinating insights: “interest rates have a large effect on the prevailing p/e ratios, since investors pay more for stocks when interest rates are low and bonds are less attractive” and “the incredible optimism that develops in bull markets can drive p/e ratios to ridiculous levels, as it did in the cases of EDS, Avon, and Polaroid.”

Indeed: “Any student of the p/e ratio could have seen that this was lunacy, and I wish one of them had told me. In 1973–74 the market had its most brutal correction since the 1930s.”

One of the most popular misconceptions, Lynch adds, is that “growth” would be synonymous with “expansion.”

He adds, “Corporate profitability tends to be misunderstood by many in our society” in which the average profit margin 5% not 20-40%.

Lynch also discusses the twelve silliest (and most dangerous) things people say about stock prices.

We must all instill this piece of Lynch wisdom: “If you can’t convince yourself ‘When I’m down 25 percent, I’m a buyer’ and banish forever the fatal thought ‘When I’m down 25 percent, I’m a seller,’ then you’ll never make a decent profit in stocks.”

A few more final takeaways include:
-Lynch said “Small investors are capable of handling all sorts of markets, as long as they own good merchandise.”
-Lynch is always fully invested.
-Lynch’s biggest winners continue to be stocks he’s held for 3 to 4 years.
-“You have to keep your priorities straight, if you plan to do well in stocks.”

If you’re interested in learning how to take control of your finances and start becoming an investor like Warren Buffett, check out my free PDF guide:

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