Upstox Originals
What can we learn about value investing from Peter Lynch?
.png)
5 min read | Updated on September 12, 2024, 14:29 IST
SUMMARY
As fund manager, Peter Lynch managed to deliver a CAGR of ~29% over his 13 year tenure. Read on to find out some of his ever-green investment insights...
Stocks vs mutual funds vs ETFs - Choosing the best investment option
Peter Lynch, the renowned portfolio manager of the Fidelity Magellan Fund from 1977 to 1990, left an indelible mark on the investment world. Over his 13-year stint, he delivered returns at a CAGR of 29.2% - turning $14 million into $18 billion, outperforming the S&P 500 almost every year.
He is also credited as an inventor of the price-to-earnings-growth (PEG) ratio. This ratio helps investors determine whether a stock is inexpensive considering its growth potential.
Let us understand the ace investor’s mantra for investments, a few of his top stock picks and learn a few lessons from him.
Investment philosophy
Lynch's investment philosophy is a simple yet powerful mantra: "Invest in what you know."
Let’s take an example of how you can use this advice to your benefit. Suppose you are in the business of automobiles. You either manufacture them, supply them, or help in painting them. But this is one industry “you know and understand.” Hence, looking for investments in that business will not only be easier for you, but the probability of success will also be higher - since you “get the business.”
To extend this example, given below are returns of some of the larger domestic auto manufacturers over the past 10 years:
Returns from top domestic OEMs over the past 10 years
| Stock | 10-year CAGR returns |
|---|---|
| TVS | 33.6% |
| Maruti Suzuki | 20.3% |
| Bajaj Auto | 16.3% |
| M&M | 14.8% |
| Tata Motors | 9.1% |
| Hero MotoCorp | 7.5% |
| Nifty | 12.5% |
Source: NSE; * Please note the above list is not exhaustive, nor is it a recommendation. It is to illustrate the point made above. As on May 8, 2024
This is not to say all your bets will succeed. Indeed, even Mr. Lynch's bets did not. But the probability would be higher.
Also, always remember you don't need all your investments to turn into multi-baggers, just a few will do.
Continuing with Mr. Lynch… He divides stocks into six categories, which are:
| Category | Explanation |
|---|---|
| Slow Growers | Large and ageing companies; expected to grow only slightly faster than the economy, but often pay large regular dividends |
| Stalwarts | Established companies with a consistent track record of growth and stability |
| Fast Growers | Companies with rapid growth rates, often exceeding the industry average |
| Cyclicals | Companies whose performance is closely tied to the business cycle |
| Turnarounds | Companies whose performance is declining but have potential to recover |
| Asset Plays | These are companies whose assets are undervalued by the market |
Lynch favoured Fast Growers and Stalwarts. He looked for fast-growing companies in growing industries, particularly the ones undervalued or overlooked by other investors. He believed these stocks had the most potential for rapid price appreciation.
He was also fond of asset plays, particularly when he could find companies with assets that were not reflected in their stock prices, as these provided an extra margin of safety and opportunity for profit.
What are some of his famous stock picks?
| Stock | Classification | What made him invest? |
|---|---|---|
| Taco Bell | Asset play/ cyclical | Invested when it was a small and rapidly growing chain and gained big profits as it expanded across the USA. |
| Philip Morris | Stalwart | Despite the ethical concerns, he invested in Philip Morris because of its strong dividends and growth potential. |
| Ford Motor | Cyclical | Invested in Ford during a period when the auto industry was out of favour. He believed that cyclical companies like Ford could produce excellent returns if bought at the right time. |
| Mc Donald’s | Stalwart | He recognized that McDonald's had significant room for growth, much before most investors. |
| Hanes | Fast Grower | Recognizing the value in licensing the L'eggs pantyhose brand, which sold through non-traditional outlets like grocery stores, Lynch saw a scalable and profitable business model. |
| La Quinta Inns | Asset Play | Invested here not just because of their business but because they were also real estate plays. The company owned the land on which its motels were built, which Lynch believed was undervalued. |
Lynch followed the philosophy of first identifying the growth prospects of the company, followed by knowing and analysing the company’s financial statements.
What lessons can be learned from him?
Understanding market cycles: Bear markets don't last forever, and bull markets don't last forever. Recognising these cycles helps investors make informed decisions about when to buy, sell, or hold their investments.
Fundamental analysis: "You should not own what you do not understand." Investors should thoroughly understand the businesses behind the stocks they own. This includes evaluating the company's financial health, management team, competitive advantages, and growth prospects.
Long-term perspective: Lynch's investment philosophy revolves around long-term investing. He encourages investors to be patient and not to worry about short-term market fluctuations.
Importance of research: The crucial lesson for all investors is to stick to what you know, and if you want to venture into unfamiliar territories, make sure you do research first. Stocks are not lottery tickets. They are attached to companies. If a company does worse than before, its stock will fall.
Learning from mistakes: Investors should study their mistakes and use them as opportunities to improve their investment strategies.
About The Author
Next Story
