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For investing advice, look to the masters

Investment and Asset Management

As experienced investors know, what succeeded last year (or last week) is no guarantee of what will succeed in the future. Some of history’s most-celebrated investors, Benjamin Graham, Peter Lynch and Warren Buffet, are known for staking out a strategy and sticking with it through thick and thin. This article describes their guiding principles.

To the surprise of many investors, 2021 was a banner year for the U.S. stock market — the S&P 500 posted a broad-based 26.9% return. But if the financial markets teach one lesson, it’s this: What succeeded last year (or last week) is no guarantee of what will succeed in the future.

This is why experts encourage investors to avoid market timing and commit to maintaining a diversified portfolio. In fact, many of history’s most successful investors — Benjamin Graham, Peter Lynch and Warren Buffet — are well known for staking out a strategy and sticking with it through thick and thin.

Graham’s guiding principle

Economist and investor Benjamin Graham’s guiding principle was known as the “margin of safety.” He favored stocks that traded at prices well below what metrics such as price-to-earnings and price-to-book suggested they were worth — what is now known as “value.” The bigger the gap between the share price and the stock’s “intrinsic” value, the better. That way, if market conditions went against a stock, its value might still have room to increase (or decrease less).

Graham held that the margin of safety allows investors to be wrong about a stock and yet potentially still make money. This isn’t to say that cheap stocks can’t get cheaper — it’s always possible to lose money in the stock market. But expensive stocks have much bigger downsides because their price generally reflects high investor expectations. Stocks with a large margin of safety won’t necessarily have favorable expectations priced in and therefore may be more resilient to negative surprises.

Simple stocks for Lynch

Celebrated money manager (notably of Fidelity’s Magellan Fund) Peter Lynch has focused on investments he understands. Lynch once put it this way, “If you’re prepared to invest in a company, then you ought to be able to explain why in simple language that a fifth grader could understand.”

Consider the market bubble of the late 1990s and early 2000s. The impulse to capture huge gains in new technology stocks led countless investors to brush aside the fact that they really didn’t know what some companies did or how their business models worked. Things didn’t end well for many when the market crashed in the early 2000s.

Buffet favors fundamentals

Billionaire investor Warren Buffett also famously avoids companies with esoteric business models. His unwavering focus on buying businesses whose fundamentals he thoroughly understands has resulted in undeniable success, even though his investments can lag aggressive portfolios in go-go markets.

Of course, complicated businesses can be great investments if you have specialized expertise. For example, if you’re a professional chemist, you may be better positioned than the average investor to understand the merits of a new pharmaceutical stock. However, you probably don’t want to invest only in one market niche. Your financial advisor can help broaden your knowledge base and assemble a diversified portfolio of investments that make sense for you.

Great from the not so great

Buffett’s a well-known proponent of another piece of classic investment wisdom: Find great companies and hold them. Of course, the trick is to be able to distinguish the great companies from the not so great.

Try to tune out the daily noise in the markets and instead look for companies with strong competitive positions and sustainable business plans. Generally, you want to hold these stocks, reinvesting any dividends and letting compounded growth work for you. That said, there are valid reasons for selling securities. Changing economic and market conditions, and factors such as a company’s management, product lineup or competitive profile, may all be good excuses to sell.

Don’t be intimidated

If you’re intimidated by investing, it’s good to know that some of the best investment strategies are actually pretty simple. But even experienced stock-pickers can benefit from professional advice. So talk to a financial expert about your goals and develop a diverse portfolio that can better withstand market ups and downs.

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