Investing Lessons from Peter Lynch
The Financial markets provides various financial instruments which could be leveraged by the Firms and investors to raise the capital at a much lower cost. Given the dynamic nature of the markets, it ...
The Financial markets provides various financial instruments which could be leveraged by the Firms and investors to raise the capital at a much lower cost. Given the dynamic nature of the markets, it is upon the investors to understand the market dynamics, get right set of tools for analyzing the behavior of the securities at various scenarios and make a wiser investment decision. As a beginner, the art of selecting a viable investment could be overwhelming. However, treading on the path charted out by the well-known investors could help the beginners in mitigating the substantial risks and maximize the probability of gaining sustainable returns from the various investment avenues. We are here to present some of investing strategies adopted by Peter Lynch, who is widely known for reaping gains through his investment principles.
As a fund manager at Fidelity investments, Peter Lynch helmed the legendary Magellan Fund which was known for its stellar performance of achieving an average of 29% of annual return. Under the reign of Peter Lynch, Magellan Fund turned out to be one of the best performing mutual funds. Apart from Magellan fund, Peter Lynch was able to identify few other stocks which earned significant profits. Let’s have a look at the key investment tenets proposed by Peter Lynch.
Principle 1: Look beyond the visible
“During the gold rush, most would-be miners lost money, but the people who sold them picks, shovels, tents, and blue-jeans made a nice profit. Today, you can look for non-internet companies that indirectly benefit from internet traffic or you can invest in manufacturers of switches and related gizmos that keep the traffic moving.”
- Peter Lynch
This principle emphasizes that an anecdotal evidence and clear-cut observations must supplement the investment analysis but shouldn’t be the sole basis upon which the investment decisions are made. A well-known example which stands as a proof to this tenet is the Dotcom bubble. During 1990s, the internet and technology industry witnessed a boom as a result of which the technology stocks were growing multifold and investors dismissed the idea of losing all the value in a shorter span of time. But in the early 2000s, several dot-com and Telecom stocks have lost almost 95% of their investment value and the value deterioration is mainly driven by the speculation of the investors who had pumped the capital in several internet-based startups based on the speculation that stocks of these companies would be feasible without a sound rationale.
Investors must look beyond the obvious indicators like price while considering various investment options. Since market works on the assumption that Market discounts everything, the investor must have a good eye for detail in terms of identifying key growth drivers, industry analysis, underlying opportunities and threats, macroeconomic fundamentals which can potentially influence the performance of stocks.
Principle 2: Invest in what you know
Never invest in any idea you can’t illustrate with a crayon.”
As a strong proponent of value investing, Peter Lynch relied on a simple investment principle of investing in the financial instruments which he is aware of. Having a sound expertise of how an investment works laid a strong foundation to his investment decisions. He leveraged the concept of Local Knowledge to identify the undervalued stocks which has the potential of making big bucks. In addition to this, he emphasized that the investor must understand the existing trends, Key players in the industry, the firm’s operating model, its corporate governance framework and its dividend payout structure in order to make right investment decisions.
Principle 3: Investing for Long term
"Far more money has been lost by investors preparing for corrections or trying to anticipate corrections than has been lost in the corrections themselves."
- Peter Lynch
Peter Lynch emphasizes on the concept of Long-term investing. The markets are dynamic in nature. When new announcement and surprises are available, the market undergoes correction the moment it processes newly available the information. In general, the investors are subjugated by the market corrections and resort to panic selling with a view to avoid losses. But the ultimate result turns out to be contrary to their assumption and they incur significant losses by adopting to sell their stocks. Peter Lynch stood against the concept of market timing.
He conducted a study to explain the relevance of market timing with respect to investment made on same period on two different days. The conclusion are as follows
Day of which the investment is made
1965 – 95
Absolute high day for 30 years
1965 – 95
Absolute low day for 30 years
He strongly believed that volatility in the short run has nothing to do with the value an investment generates. In addition, he didn’t expend his energy in trying to forecast the direction in which the overall economy was heading. He propounded that as long as the Firm’s financials are strong, the investment will create a value in long terms for the investors.
Peter Lynch coined a term known as TenBagger which had its origin from the Baseball game to measure the success rate of the runner’s hit. Ten bagger indicates the stock whose market price can reach up to 10 times its intrinsic value. The underlying rule to identify a ten bagger is to hold on to the investment even if it reaps gains above 100%.
Principle 4: Do your research
The investor must pro-actively examine the financials of the company, various risks involved and choose the strategy to offset the risks associated with the financial instrument.
The investors must research and take calculated risks of investing in the relevant financial instrument according to their level of risk tolerance. A risk-averse investor could opt for investing in fixed income instruments like Bonds and Debentures. When an investor is inclined to take risks, then he could look for the investments with higher returns since the risk and returns are directly related. The investors must incorporate framework to sense the risks associated with various investment avenues. For example, fixed income securities like Deposits and Bonds, are subjected to inflation risks which significantly reduces the purchasing power. Bond market is subjected to liquidity risk where the buyers and sellers are not readily available. This limitation can even lead to lower prices than anticipated. Default risks indicates the company’s inability to meet their debt obligations. Apart from this, the investments are also subjected to systematic risks and unsystematic risks. As far as unsystematic risks are concerned, they could be mitigated by Diversifying the portfolio. But the systematic risks are inevitable. Thus, various risks need to be taken into account while making the investment decision.
Peter Lynch familiarized the strategy known as GARP (Growth at Reasonable Price) which aimed at identifying undervalued stocks with higher growth potential. He also contributed to the field of investment research by authoring three books on investing. As per Peter Lynch, a sound investment decision should be aimed for long term, supplemented by effective research and should be free from emotions in order to earn significant returns.
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