Peter Lynch

[ishak]

Quote from "Investment Gurus" by Peter Tanous.

The lingering thought you come away with after speaking with Peter Lynch is how simple he makes it all sound. For generations, people have spent millions of dollars devising theories and schemes to invest successfully. Today, quants use Cray super computers and state-of- the-art mathematics with algorithms that will unlock the key to successful investing. Peter Lynch’s alternative advice: hang out at the mall. See what stores and products are doing well. Do your own research.

The very logic of his approach is difficult to refute. “There’s a hundred percent correlation between what happens to the company and what happens to the stock,” he told us. That phrase sticks. In other words, if you are successful at identifying good companies, you have also identified good stocks. The examples he cited to back up this theory are compelling.

Of course, for most of us, the way to invest is to pick a manager or a mutual fund and let them do the picking. After all, Peter also stressed the importance of doing your homework. Do you have the desire and the time to do the homework? He’s probably right when he suggests that most Americans do more research when buying a refrigerator than they do in buying a stock. There’s no question, logic is Peter’s long suit. Maybe he’s got the right idea. Maybe we have just overcomplicated the whole process of picking successful stock market investments. Maybe a return to common sense is the best approach. It sure worked for him.

[ishak]

Peter's Principle #1
When the operas outnumber the football games three to zero, you know there is something wrong with your life.
He is talking about how busy he was, regretting being unable to spend time with his family since he was too busy trying to keep current on a few thousand stocks.

Peter's Principle #2
Gentlemen who prefer bonds don't know what they are missing.
Lynch just pointed out that bonds are an inferior investment to shares.

Peter's Principle #3
Never invest in any idea you can't illustrate with a crayon.
A class of seventh graders at an American primary school did a social studies project on stocks, the kids had to do their own research and dig up stocks for a paper portfolio. They sent their picks to Lynch, who later invited them to a pizza dinner at the Fidelity executive dining room, illustrating their portfolio with little drawings representing each stock. Lynch just loved this because it illustrates the principle that you should only invest in what you understand, the kids portfolio consisted of toy manufacturers, makers of baseball swap cards, clothing manufacturers and outlets, Playboy Enterprises (a couple of boys chose that one), Coke, and other stocks of that ilk. With a portfolio notably lacking in glamorous technology ventures and entrepreneurial risk taking they went for solid stocks with excellent profits, their portfolio returned 69.6% against a background of a 26.08% gain in the S&P500 in 1990/91.

Peter's Principle #4
You can't see the future through a rearview mirror.
Lynch talks about "weekend worriers", those pundits that always have a thousand reasons why the economy is bad and it is not a good time to invest in stocks. He points out that even he is guilty of this, appearing on the prestigious Barren's panel on the state of the economy to prognosticate and outdo the other panelists on why the market is about to crash. He also notes that none of the people on the Barren's portfolio are anything less than the top experts on investment, managers of the biggest and best funds and all highly respected, obviously even with all the doom-saying they still find some time to invest. Lynch advocates looking at stocks for their own value, not to go in for top-down analysis in some futile attempt to predict the state of the economy and their effects on stock prices. The market crashes when stocks are way over valued, and doesn't usually crash again until stocks have become over valued again. His point comes down to the old saying, "buy in gloom, sell in boom". When the experts are bearish is the time to buy.

Peter's Principle #5
There's no point paying Yo-Yo Ma to play a radio.
Bonds vs Bond funds, Lynch ponders why people invest in bond funds, with all their administrational fees, when any fool can go to a broker or the American Federal Reserve bank to buy a 3-year treasury note, or T-bill from $5000, and other notes for $1000. The returns on the direct investments are better than the managed funds because a T-bill is always a T-bill, there is nothing to manage or research. Bond funds are very popular in America, but Lynch really can't figure out why!

Peter's Principle #6
As long as you're picking a fund, you might as well pick a good one.
There were more American mutual funds than there were listed companies! The majority of fund managers would rather be part of the Wall Street herd than do any serious research of their own. Despite the argument for a fund being that you are entrusting your money to a professional who will spend more time doing research than you ever could, the level of analysis in all but a minority of funds is very shallow, and tends to be the corporate equivalent of keeping up with the Joneses. Funds with big entry fees are not necessarily any better than funds without, the fund that comes out of nowhere and gets the top ranking one year is probably just highly leveraged in something that happened to do well that year, and will fail the next. In their quest to invest conservatively most managers buy stocks that have already been bought up to expensive levels, shunning investing in out-of-favor industries. Lynch gives a number of tips as to what to look for in a good fund, but his main point is that the majority of funds are duds. Often it takes as much research to find a good fund as it takes to find a good stock, perhaps more research since there are more funds than stocks.

Peter's Principle #7
The extravagance of any corporate office is directly proportional to management's reluctance to reward shareholders.
Excellent companies are thrifty. They seek to maximize returns by running their operation efficiently and seeking to be the best at what they do. Companies that buy themselves glamorous skyscraper office towers with indoor waterfalls and gold plated toilet seats, award executives with fat salaries not linked to performance, corporate jets, massive advertising campaigns aimed purely at sprucing up the corporate image, changing a sensible old name to something flashy and techy and other such excesses are not companies you want to invest in. To Lynch, such behavior indicates the management may well be far too concerned with self-aggrandizement rather than trying to maximize returns for shareholders. Some of the very best investments Lynch has made are cyclical companies in difficult industries that turn out to be the last man standing when all their rivals have gone broke, leaving the market all to them, and the credit goes to thrifty policies which ensure that these companies become the lowest cost competitors in the market.

Peter's Principle #8
When yields on long-term government bonds exceed the dividend yield of the S&P 500 by 6 percent or more, sell your stocks and buy bonds.
Lynch recommends this as a kind of value-contrarian-safety type of strategy, making the claim that when this situation occurs you should enjoy the "risk-free" investment of bonds, they are either yielding exceptionally well or the stock market is over-valued. Either way they make more sense than stocks at that time, this is the only exception to Lynch's assertion that stocks are always better than bonds.

Peter's Principle #9
Not all common stocks are equally common.
A direct attack on the efficient-market dartboard method of stock picking. Lynch talks about asset allocations in Magellan, pointing out that while this fund, with more than one billion dollars invested was into over 1400 stocks at the time he was referring to, many of these were small investments, nice companies but too small for an organization like Magellan to own much. Really good stocks are not that common, Lynch's favorite stocks made up substantially larger proportions of the portfolio than others, but the other stocks held were held because they were also great companies, just too small for $100 million purchase orders. Many of these smaller companies are totally ignored by most funds, which prefer to buy well-known stocks rather than research something not well known. This leads to great opportunities for small investors, because it means that it is perfectly possible to find small stocks trading at very low valuations, often below book value. You won't find Newscorp trading at below book any time soon, but such purchases are quite easy in very small companies. Lynch doesn't so much think that funds ignore small stocks because of the inability to make large purchases, he puts this down to copycat fund managers not wanting to stick their necks out. Although a dreadful stock in many ways, no fund manager has ever been fired for buying IBM: it is said that IBM has "disappointed the market", not that the fund manager screwed up.

Peter's Principle #10
Never look back when you're driving on the autobahn.
He's referring to the time he was doing a research trip in Europe and while traveling at 120mph (just shy of 200kmh) he noticed in his rear view mirror that some guy in a Mercedes was tailgating him about 3" from his rear bumper. The point being...if you cant keep up with the speed...dont drive on the autobahn (Contributed by Kennynah).

[kennynah]

Peter's Principle #10
Never look back when you're driving on the autobahn.
He's referring to the time he was doing a research trip in Europe and while traveling at 120mph (just shy of 200kmh) he noticed in his rear view mirror that some guy in a Mercedes was tailgating him about 3" from his rear bumper. I'm sure this incident has deep significance for investors, but I guess I'm too much of a philistine to see it.

the point being...if you cant keep up with the speed...dont drive on the autobahn...

[ishak]

Peter's Principle #11
The best stock to buy may be the one you already own.
Many stocks which later became major holdings started out as minor purchases by Magellan. Often it is unnecessary to run around looking for the perfect stock, you may already have it in your portfolio, so buy more! It goes back to principle number 9, the number of really brilliant companies is finite, so when you do have one it might be better to buy more than to go out to find something else.

Peter's Principle #12
A sure cure for taking a stock for granted is a big drop in the price.
Like many people who trade shares with great initial success, Lynch had attained something of a God complex thinking he was immune to the lumps and bumps of the market. He is referring to the shocks of 1978 and 1987, where big falls provided the necessary kick in the pants to remind him of who the real boss is. This point should be made to everyone who just got a Sanford account in the middle of the last bull market, sometimes good luck can mask bad skill.

Peter's Principle #13
Never bet on comeback while they're playing "Taps".
For those that don't get it, "Taps" is the name of that bugle tune they play at military funerals. This point deals with the idea of buying something just because the share price has fallen. Carefully investigate each purchase as if it were a new stock, ignore the history if the situation has obviously changed. As Lynch says, there is no shame in losing money on a stock. Everybody does it. What is shameful is to hold on to a stock, or worse, to buy more of it, when the fundamentals are deteriorating.

Peter's Principle #14
If you like the store, chances are you'll love the stock.
One of Lynch's favorite stock picking techniques is to take his wife and kids shopping at a large shopping centre. There you can see for yourself what chains are doing well, before the annual report. Many shops that are starting out as franchises have not yet been noticed by the stock market, even if they are listed. To do this kind of research he'd give his daughters some pocket money and see where they spend it, which usually led him to a discount clothing store like the Gap (an American jeans store turned popular general clothing store), which was always packed with kids making big purchases. What better operation could there be than an extremely profitable store just going franchise that is about to expand all over the country? Lynch loves these stocks, retail operations that go absolutely wild after a few years listing producing what Lynch aptly names "Ten-Baggers" - stocks with a 1000% price increase or better! His kids also help him by telling him what drinks are popular these days, leading him often to some small operation making a niche range of products that gains similarly. Of course once he gets back to the office he always checks up on the PE ratio and debt levels, which is what stopped him investing in "The Body Shop", on a 40+ PE which was too rich for his tastes even with such rapid expansion. Clearly investing in this sort of thing beats buying some riverboat casino or speculative technology issue recommended by a generic Uncle Harry.

Peter's Principle #15
When insiders are buying, it's a good sign - unless they happen to be New England bankers.
When management people make large purchases of their own stock with private funds, you know that the insiders feel the company is undervalued, or that something big is about to happen. The bankers comment refers to the silliness of the management of a number of Texas and New England banks who violated principle #13, buying substantial holdings almost right up to the day the banks closed their doors for good.

Peter's Principle #16
In business, competition is never as healthy as total domination.
The trouble with investing in really good industries is that it attracts the attention of many others who want a piece of the action, hordes of players show up to take a piece of the pie, and even with the big profits of the industry the competition ends up so fierce that even people in the best industry can end up losing money to the lower cost competitors. Instead Lynch really likes terrible industries, airlines, steel, tire retreads, can making, textile companies etc. He doesn't buy every stock of course, he looks for the one with the lowest operating costs. When times get hard most of their competitors will fold, leaving them with a huge market share in an industry no one wants any more, and since their costs are so low they often make a profit, even in the bad years. What then happens one day is the industry improves, leaving this very low cost producer with virtually no competition in a market that suddenly has the potential for explosive growth.

Peter's Principle #17
All else being equal, invest in the company with the fewest color photographs in the annual report.
Still on austere companies that come to dominate lousy industries, Lynch has nothing but praise for companies that don't waste money. This extends to the annual report as well. Contrast the highly promoted tax dodge schemes with their glossy brochures and extensive advertising with the companies Lynch really likes, dull organizations that grow their profits steadily, unnoticed by Wall Street brokers until the share price has already increased 10 times over. Some of Lynch's favorite companies don't even have any photos at all in their report, going for a simple black and white text document that just sticks to the facts about expenditure and strategy. Lynch feels as if these companies actually feel themselves employed by the shareholders, not for themselves. Such companies would rather buy back their own stock and inflate the EPS than spend money on frivolities.

Peter's Principle #18
When even the analysts are bored, it's time to start buying.
Lynch loves industries Wall Street is ignoring, for here is where the real bargains are. Giant conglomerates have a hundred analysts watching their every move, because they are so popular they are often bought up to silly price earnings ratios though, it is the whole phenomenon of the market buying what they are familiar with, rather than what is good. Savings
and Loan companies went out of fashion for a while in America, because a few crooked entrepreneurial types bought a few out and got into a whole lot of trouble making vast loans to their mates for speculative commercial real estate. The result was a series of spectacular failures that ruined the image of the whole industry. Most brokerages stopped looking at S&Ls altogether, and nearly every one of them was sold down. For Lynch this was great, he realized that the actions of these 1980s Christopher Skase types had not damaged the industry as a whole, certainly it meant absolutely nothing to the earnings of many of these companies. As a result Lynch was able to make quite a few wonderful acquisitions of solid companies with excellent histories that paid great dividends, and he waited a while for the hubbub to calm down and for the industry to get noticed by Wall Street again. Warren Buffett also likes this technique, he bought American Express after a scandalous one-off fraud perpetrated against the company, which led to a massive sell-off in AMEX. If an event doesn't hurt the long-term earnings of a company, and it won't go broke as a result of this hit, then obviously a big selloff is a good time to pick up a bargain.

Peter's Principle #19
Unless you're a short seller or a poet looking for a wealthy spouse, it never pays to be pessimistic.
Cyclicals stocks can be a great way to make a buck if you buy them at the bottom, so it helps to look for opportunity in depressed stocks, rather than think of all the reasons why a cyclical is going to take losses. When cyclical stocks are so crushed by the economy that it seems things could not possibly get any worse, cyclicals usually hit their bottom. Lynch goes on to talk about PE ratios of cyclicals, advising that the time to buy these is when their PE is at a historic high, because Wall Street has caught on to cyclicals and often begins to discount them before the market as a whole tops. When a cyclical is sitting on a very low PE, along side record profits that have grown for many years, the market is anticipating a downturn. When a cyclical reaches a high PE on very low earnings, the price may be ready for an upturn because earnings will be at or near their nadir.

Peter's Principle #20
Corporations, like people, change their names for one of two reasons: either they've gotten married, or they've been involved in some fiasco that they hope the public will forget.
Although regulators can be a real burden on utilities, they are also their guardian angels, trying to prevent them from going entirely out of business, as long as people still need electricity the government regulators will not allow the company to fold. As a result utilities can take massive hits in the share price, but in all but a very rare few there is a support level from which they bounce back, often very spectacularly several years after the event. Lynch identified four distinct stages in a utility crash and recovery: disaster, crisis management, financial stabilization and recovery.

Peter's Principle #21
Whatever the Queen is selling, buy it.
When governments in democratic countries privatize public companies, they nearly always offer such attractive terms that shareholders are almost guaranteed to make great profits. All over the world, in Britain, Mexico, France, Greece, Chile, Hong Kong and even America, IPOs of major public corporations almost always pay off. Often these stocks are offered at well below book value, and with attractive installment payment plans.

[ishak]

26 Golden Rules of investing:

1. Investing is fun, exciting, and dangerous if you don't do any work.

2. Your investor's edge is not something you get from Wall Street experts. It's something you already have. You can outperform the experts if you use your edge by investing in companies or industries you already understand.

3. Over the past three decades, the stock market has come to be dominated by a herd of professional investors. Contrary to popular belief, this makes it easier for the amateur investor. You can beat the market by ignoring the herd.

4. Behind every stock is a company, find out what it's doing.

5. Often, there is no correlation between the success of a company's operations and the success of its stock over a few months or even a few years. In the long term, there is a 100 percent correlation between the success of the company and the success of its stock. This disparity is the key to making money; it pays to be patient, and to own successful companies.

6. You have to know what you own, and why you own it. "This baby is a cinch to go up!" doesn't count.

7. Long shots almost always miss the mark.

8. Owning stocks is like having children - don't get involved with more than you can handle. The part-time stockpicker probably has time to follow 8-12 companies, and to buy and sell shares as conditions warrant. There don't have to be more than 5 companies in the portfolio at any time.

9. If you can't find any companies that you think are attractive, put your money into the bank until you discover some.

10. Never invest in a company without understanding its finances. The biggest losses in stocks come from companies with poor balance sheets. Always look at the balance sheet to see if a company is solvent before you risk your money on it.

11. Avoid hot stocks in hot industries. Great companies in cold, nongrowth industries are consistent big winners.

12. With small companies, you’re better off to wait until they turn a profit before you invest.

13. If you're thinking about investing in a troubled industry, buy the companies with staying power. Also, wait for the industry to show signs of revival. Buggy whips and radio tubes were troubled industries that never came back.

14. If you invest $1,000 in a stock, all you can lose is $1,000, but you stand to gain $10,000 or even $50,000 over time if you're patient. The average person can concentrate on a few good companies, while the fund manager is forced to diversify. By owning too many stocks, you lose this advantage of concentration. It only takes a handful of big winners to make a lifetime of investing worthwhile.

15. In every industry and every region of the country, the observant amateur can find great growth companies long before the professionals have discovered them.

16. A stock-market decline is as routine as a January blizzard in Colorado. If you're prepared, it can't hurt you. A decline is a great opportunity to pick up the bargains left behind by investors who are fleeing the storm in panic.

17. Everyone has the brainpower to make money in stocks. Not everyone has the stomach. If you are susceptible to selling everything in a panic, you ought to avoid stocks and stock mutual funds altogether.

18. There is always something to worry about. Avoid weekend thinking and ignore the latest dire predictions of the newscasters. Sell a stock because the company's fundamentals deteriorate, not because the sky is falling.

19. Nobody can predict interest rates, the future direction of the economy, or the stock market. Dismiss all such forecasts and concentrate on what's actually happening to the companies in which you've invested.

20. If you study 10 companies, you'll find 1 for which the story is better than expected. If you study 50, you'll find 5. There are always pleasant surprises to be found in the stock market - companies whose achievements are being overlooked on Wall Street.

21. If you don't study any companies, you'll have the same success buying stocks as you do in a poker game if you bet without looking at your cards.

22. Time is on your side when you own shares of superior companies. You can afford to be patient - even if you missed Wal-Mart in the first five years, it was a great stock to own in the next five years. Time is against you when you own options.

23. If you have the stomach for stocks, but neither the time nor the inclination to do the homework, invest in equity mutual funds. Here, it's a good idea to diversify. You should own a few different kinds of funds, with managers who pursue different styles of investing: growth, value, small companies, large companies, etc. Investing in six of the same kind of fund is not diversification.

24. The capital gains tax penalizes investors who do too much switching from one mutual fund to another. If you've invested in one fund or several funds that have done well, don't abandon them capriciously. Stick with them.

25. Among the major markets of the world, the U.S. market ranks eighth in total return over the past decade. You can take advantage of the faster-growing economies by investing some of your assets in an overseas fund with a good record.

26. In the long run, a portfolio of well-chosen stocks and/or equity mutual funds will always outperform a portfolio of bonds or a money-market account. In the long run, a portfolio of poorly chosen stocks won't outperform the money left under the mattress.

[ishak]

The Peter Lynch Approach in Brief
AAII Journal - January 1997

Philosophy and style

Investment in companies in which there is a well-grounded expectation concerning the firm’s growth prospects and in which the stock can be bought at a reasonable price. A thorough understanding of the company and its competitive environment is the only "edge" investors have over other investors in finding reasonably valued stocks.

Universe of stocks

All listed and over-the-counter stocks-no restrictions.

Criteria for initial consideration

Select from industries and companies with which you are familiar and have an understanding of the factors that will move the stock price. Make sure you can articulate a prospective stock’s "story line"-the company’s plans for increasing growth and any other series of events that will help the firm-and make sure you understand and balance them against any potential pitfalls. Categorizing the stocks among six major "story" lines is helpful when evaluating prospective stocks. Specific factors depend on the firm’s "story," but these factors should be examined:

• Year-by-year earnings: Look for stability and consistency, and an upward trend.
• P/E relative to historical average: The price-earnings ratio should be in the lower range of its historical average.
• P/E relative to industry average: The price-earnings ratio should be below the industry average.
• P/E relative to earnings growth rate: A price-earnings ratio of half the level of historical earnings growth is attractive; relative ratios above 2.0 are unattractive. For dividend-paying stocks, use the price-earnings ratio divided by the sum of the earnings growth rate and dividend yield-ratios below 0.5 are attractive, ratios above 1.0 are poor.
• Debt-equity ratio: The company’s balance sheet should be strong, with low levels of debt relative to equity financing, and be particularly wary of high levels of bank debt.
• Net cash per share: The net cash per share relative to share price should be high.
• Dividends and payout ratio: For investors seeking dividend-paying firms, look for a low payout ratio (earnings per share divided by dividends per share) and long records (20 to 30 years) of regularly raising dividends.
• Inventories: Particularly important for cyclicals, inventories that are piling up are a warning flag, particularly if growing faster than sales.

Other favorable characteristics

• The name is boring, the product or service is in a boring area, the company does something disagreeable or depressing, or there are rumors of something bad about the company.
• The company is a spin-off.
• The fast-growing company is in a no-growth industry.
• The company is a niche firm controlling a market segment.
• The company produces a product that people tend to keep buying during good times and bad.
• The company can take advantages of technological advances, but is not a direct producer of technology.
• The is a low percentage of shares held by institutions and there is low analyst coverage.
• Insiders are buying shares.
• The company is buying back shares.

Unfavorable characteristics

• Hot stocks in hot industries.
• Companies (particularly small firms) with big plans that have not yet been proven.
• Profitable companies engaged in diversifying acquisitions. Lynch terms these "diworseifications."
• Companies in which one customer accounts for 25% to 50% of their sales.

Stock monitoring and when to sell

• Do not diversify simply to diversify, particularly if it means less familiarity with the firms. Invest in whatever number of firms is large enough to still allow you to fully research and understand each firm. Invest in several categories of stock for diversification.
• Review holdings every few months, rechecking the company "story" to see if anything has changed. Sell if the "story" has played out as expected or something in the story fails to unfold as expected or fundamentals deteriorate.
• Price drops usually should be viewed as an opportunity to buy more of a good prospect at cheaper prices.
• Consider "rotation"-selling played-out stocks with stocks with a similar story, but better prospects. Maintain a long-term commitment to the stock market and focus on relative fundamental values.

[ishak]

Interview with PBS, http://www.pbs.org/wgbh/pages/frontline ... lynch.html

Long Post Warning:

Hidden Content:

Q How did you first get interested in the stock market.
A Well, I grew up in the 1950s. I started caddying when I was 11. So the PETER Lynchwould have been 1955 and in that part -- the '50s were a great decade for the stock market. I caddied a very nice club out in west Newton, had a lot of people, corporate executives, and some of these were buying stocks and I remember them talking about stocks and they mentioned the names and I'd look in the paper and look at it a month later, a year later, and I noticed they were goin' up. And I said, "Gee, this makes a lot of sense." And so I watched it. I didn't have any money to invest, but I remember the stock market being very strong in the 1950s and some people, not everybody, but a lot of people on the golf course talking about it.


Q What was your first stock?
A Well, when I got a caddie scholarship to college. It was actually a partial scholarship, a Frances Wimen Scholarship, a financial aid scholarship, but it was thousand dollars to go to Boston College and they gave me a $300 scholarship and I got to earn over $700 a year caddying. So I was able to build up a little bit of money and I worked also during the winters. So while I was in college I did a little study on the freight industry, the air freight industry. And I looked at this company called Flying Tiger. And I actually put a thousand dollars in it and I remember I thought this air cargo was going to be a thing of the future. And I bought it and it got really lucky because it went up for another reason. The Vietnam War started and they basically hauled a lot of troops to Vietnam in airplanes and the stock went up, I think, nine- or ten-fold and I had my first ten bagger. I started selling it, I think, at 20 and 30 and 40, sold all the way up to 80 and helped pay for graduate school. So I almost had a Flying Tiger graduate school fellowship.


Q You originated the expression "four bagger", "five bagger" et cetera. What's that mean exactly?
A I've always been a great lover of baseball. I mean if you grew up in Boston, you know that the last time we won the World Series, Babe Ruth pitched for us. It was 1918. So it's been a long drought here. So I've always loved baseball and the ten bagger is two home-runs and a double. It's you run around a lot, so it's very exciting.
A You made ten times your money. Is a ten bagger.

Q That's pretty good.
A Excellent. You don't need a lot in your lifetime. You only need a few good stocks in your lifetime. I mean how many times do you need a stock to go up ten-fold to make a lot of money? Not a lot.


Q Was that your secret?
A Well, I think the secret is if you have a lot of stocks, some will do mediocre, some will do okay, and if one of two of 'em go up big time, you produce a fabulous result. And I think that's the promise to some people. Some stocks go up 20-30 percent and they get rid of it and they hold onto the dogs. And it's sort of like watering the weeds and cutting out the flowers. You want to let the winners run. When the fun ones get better, add to 'em, and that one winner, you basically see a few stocks in your lifetime, that's all you need. I mean stocks are out there. When I ran Magellan, I wrote a book. I think I listed over a hundred stocks that went up over ten-fold when I ran Magellan and I owned thousands of stocks. I owned none of these stocks. I missed every one of these stocks that went up over ten-fold. I didn't own a share of them. And I still managed to do well with Magellan. So there's lots of stocks out there and all you need is a few of 'em. So that's been my philosophy. You have to let the big ones make up for your mistakes.

In this business if you're good, you're right six times out of ten. You're never going to be right nine times out of ten. This is not like pure science where you go, "Aha" and you've got the answer. By the time you've got "Aha," Chrysler's already quadrupled or Boeing's quadrupled. You have to take a little bit of risk.


Q When you first went to Fidelity, what was the market like?
A Well, after the great rush of the '50s, the market did brilliantly and everybody says, "Wow, looking backwards, this would be a great time to get in." So a lot of people got in in the early '60s and in the mid-60s. The market peaked in '65-66 around a thousand, and that's when I came. I was a summer student at Fidelity in 1966. There were 75 applicants for three jobs at Fidelity, but I caddied for the president for eight years. So that was the only job interview I ever took. It was sort of a rigged deal, I think. I worked there the summer of '66 and I remember the market was close to a thousand in 1966, and in 1982, 16 years later, it was 777. So we had a long drought after that. So the people were concerned about the stock market early in the '50s. They kept watching and watching, not investing. It started to go up dramatically and they finally caved in and bought big time in the mid-60s and got the peak.


Q So people got in at the wrong time, in effect?
A A lot of people got in at the wrong time. A lot of people did very well and some people said, "This is it. I'll never get back in again." And they maybe meant it, but they probably got back in again anyway.


Q How much did you make on your first job at Fidelity?
A I was paid, $16,000 a year. I was an analyst. I was the textile analyst, the metals analysts, and I remember the second year I got a raise to $17,000. That was great, you know.


Q Did you get other job offers?
A I was in ROTC studies, I spent two years in the Army and I did two years of graduate school and in, a business at Wharton School of Finance, University of Pennsylvania. So I was about 25 when I joined Fidelity.


Q How old were you when you took over Magellan?
A That was 1977, so I guess I was 33.


Q What kind of fund was Magellan?
A It was a small aggressive capital appreciation fund. Magellan Fund basically started in the early '60s. In the name, it was an international fund, but right after it started in 1963, they put sort of a barrier and a heavy tax on foreign investing. So it did very little foreign investing. It had the ability to do it, but there was very little interest then. There was a big penalty. So even though it was Magellan Fund, it was primarily a domestic fund. And when I took over in May of 1977, the fund was $20 million.


Q And that was your first portfolio managing job?
A That's correct. I was director research in 1974. I still continued to be an analyst, and then May of 1977 I took over Magellan Fund.


Q But the market really didn't do much between '77 and '82, between the beginning of that bull market, and yet your fund performed quite spectacularly. What do you do?
A Well, I think flexibility is one of the key things. I mean I would buy companies that had unions. I would buy companies that were in the steel industry. I'd buy textile companies. I always thought there was good opportunities everywhere and, researched my stocks myself. I mean Taco Bell was one of my first stock I bought. I mean the people wouldn't look at a small restaurant company. So I think it was just looking at different companies and I always thought if you looked at ten companies, you'd find one that's interesting, if you'd look at 20, you'd find two, or if you look at hundred you'll find ten. The person that turns over the most rocks wins the game. And that's always been my philosophy.


Q How did Magellan begin to make a name for itself in '82?
A Well, the first three years I ran Magellan, I think one-third of the shares were redeemed. I mean there was very little interest. People didn't care. The market was doing okay and Magellan was doing well, but people were sort of recovering from their losses, so they from the '50s and '60s, and so literally one-third of the shares were redeemed the first three years I ran it. And in 1982, the market started to pick up. It bought 'em in August of '82, and from then on a lot of interest came back in the market in '83 and '84. Magellan had the best five-year record in 1982 and the best five-year record in 1983 and people tend to look, the press and the media and the newspapers, tend to look at who's had a good record and Magellan was there.


Q Tell about the first time you were on Ruckeyser.
A Well, 1982, I think it was the market had just gone over a thousand maybe a week or two before that. So this would have been, I think, October of '82 and Chrysler was my biggest position and the stock, I think, was 10 and I recommended Chrysler and I remember I had, ah -- I had people who said, "Gee, we thought you were interesting." These were relatives of mine. "But how could you ever recommend Chrysler? Don't you know they're going bankrupt?" I remember friends of mine and relatives saying, "That sound crazy to me." So it worked out fine.

And amazing. I think I was on "Wall Street with Louis Ruckheyser" in 1990 and Chrysler was 10 again. It had a stock split that had gone all the way down to 10 and I recommended it again in October of 1990 on "Wall Street with Louis Ruckeyser".


Q Chart the growth of the fund in the '80s, just for chronology.
A Well, the fund was not very big in 1982, even though I had ran it for five years. And in '80-- end of '82 when the market really started to come in and people started to look to the future, I think it was April of '83 it passed one billion. That was a big number. I remember that number has a lot of zeros and it's kind of a magic number. So I remember that point and people just continued to be interested in the market and these were lots of individuals coming. This was not people putting in four million at the time or three million. It was lots of two-, and three- and five-thousand-investments coming in. And it was steady. It wasn't a torrent. It just was there every day.


Q Was it becoming more famous? Wasn't it on "Jeopardy", for instance?
A Yeah. At some point in time I remember -- I didn't watch the show. I always liked "Jeopardy", but I remember my wife watched the show and somebody was saying "What's the fund that was named after an explorer." And all the people, they all hit the button at the same time on "Jeopardy" and they knew it was Magellan. So, I guess it became more famous then, but there wasn't that much coverage. I mean today I think The Wall Street Journal has three full-time reporters covering the mutual fund industry. They had none in the early '80s. So the coverage was really basically Wall Street, Louis Ruckheyser, Barron's, a little bit in The New York Times every quarter. There was not coverage of the mutual fund industry. It was really coverage of stocks. And, you know, occasionally, ah, Forbes or Fortune or a periodical would write an article, but there wasn't very much interest even in the '80s.


Q What caused that to change?
A Well, I think the great decade of the '80s and people thinking that, you know, "There's a lot of publicity on the Social Security System not gonna make it," and a lot of pension plans. I mean people used to retire and they'd say, "Right now I'm going to get half my last year's salary for the rest of my life, or 60 percent. I don't have to worry about it." Now a lot of people are given their entire pension plan, the most important financial asset they ever got, and they said, "Okay, sweetheart, it's yours. Take care of it." Or there's no pension plan. So today people have to think about their future. They're worried about Social Security and they may have to do their own pension or they already have been given their pension and say, "You manage it." So I think there's -- you have to become finally literate today.


Q Was your success part of reason why the press, et cetera, began to look at mutual funds more carefully?
A Well, I think the fact the fund went up, I mean that was the key. If I'd had gone down, I'd have had to dye my hair and grow a beard and move to Fiji. It was just the fact it went up, people made a lot of money and there was a lot of word-of-mouth. I mean it was people saying that "Investing is good," and "We should put some of our money aside and put so much in quarterly." And I think the IRA was invented and there was a lot of things that were to encourage people to save.


Q If had put a thousand dollars in Magellan on the day you took it over, how much would I have reaped on the day you retired?
A Well, if somebody invested a thousand dollars in Magellan on May 31st, 1977, the day I left, the thousand would have been $28,000, --May 31st 13 years later, 1990.


Q Talk about the change in '86-87.
A Well, I remember in my career you'd say to somebody you worked in the investment business. They'd say, "That's interesting. Do you sail? What do you think of the Celtics?" I mean it would just go right to the next subject. If you told them you were a prison guard, they would have been interested. They would have had some interest in that subject, but if you said you were in the investment business, they said, "Oh, terrific. Do your children go to school?" It just went right to the next subject. You could have been a leper, you know, and been much more interesting. So that was sort of the attitude in the '60s and '70s.

As the market started to heat up, you'd say you were an investor, "Oh, that's interesting. Are there any stocks you're buying?" And then people would listen not avidly. They'd think about it. But then as the '80s piled on, they started writing things down. So I remember people would really take an interest if you were in the investment business, saying "What do you like?" And then it turned and I remember the final page of the chapter would be you'd be at a party and everybody would be talking about stocks. And then people would recommend stocks to me. And then I remember not only that, but the stocks would go up. I'd look in the paper and I'd notice they'd go up in the next three months. And then you've done the full cycle of the speculative cycle that people hate stocks, they despised, they don't want to hear anything about 'em, now they're buying everything and cab drivers are recommending stocks. So that was sort of the cycle I remember going through from the '60s and early '70s all the way to '87.


Q Where were you when the Crash of '87 came?
A Well, I was very well prepared for the Crash of 1987. -- my wife and I took our first vacation in eight years and we left on Thursday in October and I think that day the market went down 55 points and we went to Ireland, the first trip we'd ever been there. And then on Friday, because of the time difference, we'd almost completed the day and I called and the market was down 115. I said to Carolyn, "If the market goes down on Monday, we'd better go home." And "We're already here for the weekend. So we'll spend the weekend." So it went down 508 on Monday, so I went home. So in two business days I had lost a third of my fund. So I figured at that rate, the week would have been a rough week. So I went home. Like I could do something about it. I mean it's like, you know, if there was something I could do. I mean there I was -- but I think if people called up and they said, "What's Lynch doing," and they said, "Well, he's on the eighth hole and he's every par so far, but he's in a trap, this could be a triple bogey," I mean I think that's not what they wanted to hear. I think they wanted to hear I'd be there lookin' over -- I mean there's not a lot you can do when the market's in a cascade but I got home quick as I could.


Q Why did the Crash of '87 happen?
A Well, I think people had not analyzed '87 very well. I think you really have to put it in perspective. 1982, the market's 777. It's all the way to '86. You have the move to 1700. In four years -- the market moves from 777 to 1700 in four years. Then in none months it puts on a thousand points. So it puts on a thousand points in four years, then puts on another thousand points in the next nine months. So in August of 1987 it's 2700. It's gone up a thousand points in nine months. Then it falls a thousand points in two months, 500 points the last day. So if the market got sideways at 1700, no one would have worried, but it went up a thousand in nine-ten months and then a thousand in two months, and half of it in one day, you would have said.... "The world's over." It was the same price. So it was really a question of the market just kept going up and up and it just went to such an incredible high price by historic, price earnings multiple load, dividend yields, all the other statistics, but people forget that basically it was unchanged in 12 months. If you looked at September, 1986 to October '87, the market was unchanged. It had a thousand point up and a thousand points down and they only remember the down. They thought, "Oh, my goodness, this is the crash. It's all over. It's going to go to 200 and I'm going to selling apples and pencils," you know. But it wasn't. It was a very unique phenomenon because companies were doing fine. Just, you know, you'd call up a company and say, "We can't figure it out. We're doin' well. Our orders are good. Our balance sheet's good." "We just announced we're gonna buy some of our stock. We can't figure out why it's good down so much."


Q Was that the most scared you ever were in your career?
A '87 wasn't that scary because I concentrate on fundamentals. I call up companies. I look at their balance sheet. I look at their business. I look at the environment. The decline was kinda scary and you'd tell yourself, "Will this infect the basic consumer? Will this drop make people stop buying cars, stop buying houses, stop buying appliances, stop going to restaurants?" And you worried about that.

The reality, the '87 decline was nothing like 1990. Ninety, in my 30 years of watching stock very carefully, was by far the scariest period.


Q What was so scary about 1990?
A Well, 1990 was a situation where I think it's almost exactly six years ago approximately now. In the summer of 1990, the market's around 3000. Economy's doing okay. And Saddam Hussein decides to walk in and invade Kuwait. So we have invasion of Kuwait and President Bush sends 500,000 troops to Saudi to protect Saudi Arabia. There's a very big concern about, you know, "Are we going to have another Vietnam War?" A lot of serious military people said, "This is going to be a terrible war." Iraq has the fourth largest army in the world. They really fought very well against Iran. These people are tough. This is going to be a long, awful thing. So people were very concerned about that, but, in addition, we had a very major banking crisis. All the major New York City banks, Bank America, the real cornerstone of this country were really in trouble. And this is a lot different than if W.T. Grant went under or Penn Central went under. Banking is really tight. And you had to hope that the banking system would hold together and that the Federal Reserve understood that Citicorp, Chase, Chemical, Manufacturers Hanover, Bank of America were very important to this country and that they would survive. And then we had a recession. Unlike '87 you called companies, in 1990 you called companies and say, "Gee, our business is startin' to slip. Inventories are startin' to pile up. We're not doing that well." So you really at that point in time had to belief the whole thing would hold together, that we wouldn't have a major war. You really had to have faith in the future of this country in 1990. In '87, the fundamentals were terrific and it was -- it was like one of those three for two sales at the K-Mart. Things were marked down. It was the same story.


Q Is there so much pressure because you're handling so much money for other people?
A It wasn't the pressure. I loved the job. I mean I worked for the best company in the world. I get paid extremely well. We had free coffee. I mean it's a great place to work. I could see any company I wanted to see. I didn't have to, say, get permission to go visit companies I California or Indiana. I just -- lot of freedom, a lot of responsibility. The pressure wasn't it. It was just too much time. I was working six days a week and that wasn't even enough.


Q Were you surprised by the outpouring in the wake of your retirement?
A I was really shocked at people's response and all the networks and news overseas and all around the world that it was such a big deal. I mean I was amazed by it. I could write five letters a day for the next seven years to get back to the people that wrote thanking me or wishing me the best and literally maybe my secretary screened me from the nasty ones, but I don't remember anybody saying, "You god. I just got in yesterday and you left." I mean there were all these very nice notes saying, "You're doing the right thing. I'm very happy about it," and ...


Q Tell the story about your wife stumbling on a big stock for you in the supermarket.
A I had a great luck company called Hanes. They test marketed a product called L'Eggs in Boston and I think in Columbus, Ohio, maybe three or four markets. And Carolyn, ah, brought this product home and she was buying and she said, "It's great." And she almost got a black belt in shopping. She's a very good shopper. If we hadn't had these three kids, she now -- when Beth finally goes off to college, I think we'll be able to resume her training. But she's a very good shopper and she would buy these things. She said, "They're really great." And I did a little bit of research. I found out the average woman goes to the supermarket or a drugstore once a week. And they go a woman's specialty store or department store once every six weeks. And all the good hosiery, all the good pantyhose is being sold in department stores. They were selling junk in the supermarkets. They were selling junk in the drugstores. So this company came up with a product. They rack-jobbed it, they had all the sizes, all the fits, a down they never advertised price. They just advertised "This fits. You'll enjoy it." And it was a huge success and it became my biggest position and I always worried somebody'd come out with a competitive product, and about a year-and-a-half they were on the market another large company called Kaiser-Roth came out with a product called No Nonsense. They put it right next to L'eggs in the supermarket, right next to L'eggs in the drugstore. I said, "Wow, I gotta figure this one out." So I remember buying -- I bought 48 different pairs at the supermarket, colors, shapes, and sizes. They must have wondered what kind of house I had at home when I got to the register. They just let me buy it. So I brought it into the office. I gave it to everybody. I said, "Try this out and come back and see what's the story with No Nonsense." And people came back to me in a couple weeks and said, "It's not as good." That's what fundamental research is. So I held onto Hanes and it was a huge stock and it was bought out by Consolidated Foods, which is now called Sara Lee, and it's been a great division of that company. It might have been a thirty bagger instead of a ten bagger, if it hadn't been bought out.


Q The beginning of the bull market in 1982 and the environment. Were you surprised?
A 1982 was a very scary period for this country. We've had nine recessions since World War II. This was the worst. 14 percent inflation. We had a 20 percent prime rate, 15 percent long governments. It was ugly. And the economy was really much in a free-fall and people were really worried, "Is this it? Has the American economy had it? Are we going to be able to control inflation?" I mean there was a lot of very uncertain times. You had to say to yourself, "I believe it in. I believe in stocks. I believe in companies. I believe they can control this. And this is an anomaly. Double-digit inflation is rare thing. Doesn't happen very often. And, in fact, one of my shareholders wrote me and said, "Do you realize that over half the companies in your portfolio are losing money right now?" I looked up, he was right, or she was right. But I was ready. I mean I said, "These companies are going to do well once the economy comes back. We've got out of every other recession. I don't see why we won't come out of this one." And it came out and once we came back, the market went north.


Q Nobody told you it was coming.
A It's lovely to know when there's recession. I don't remember anybody predicting 1982 we're going to have 14 percent inflation, 12 percent unemployment, a 20 percent prime rate, you know, the worst recession since the Depression. I don't remember any of that being predicted. It just happened. It was there. It was ugly. And I don't remember anybody telling me about it. So I don't worry about any of that stuff. I've always said if you spend 13 minutes a year on economics, you've wasted 10 minutes.


Q So what should people think about?
A Well, they should think about what's happening. I'm talking about economics as forecasting the future. If you own auto stocks you ought to be very interested in used car prices. If you own aluminum companies you ought to be interested in what's happened to inventories of aluminum. If your stock are hotels, you ought to be interested in how many people are building hotels. These are facts. People talk about what's going to happen in the future, that the average recession last .2 years or who knows? There's no reason why we can't have an average economic expansion that lasts longer. I mean I deal in facts, not forecasting the future. That's crystal ball stuff. That doesn't work. Futile.


Q Talk about going from one to five to ten billion and whether people thought it was getting too big.
A Sure. I certainly remember when Magellan passed the billion. I remember it was sometime in 1983 and then remember I think in '84, I don't remember exactly when it became the largest fund in the country, and people said, "Magellan's too big at a billion to get in, to get out. It's hopeless. Leave." And then when it became a largest fund, "It's obviously too big now." And then it got to five billion, they said, "Forget it." When it got to ten billion, they said, "Forget it." And I'd always say, "If I could beat the market by three or four percent a year I'm really doing a service to the public." And then after I left, they said, "The fund's too big. Forget it." And, ah, Magellan's done extremely well in the six years since I left it. It's beaten the market. It's beaten 80 percent of all funds. So I mean I hope they keep warning people to stay away from it. It's been a terrific thing for it.


Q Can the little guy play with the big guy in the stock market?
A There's always been this position that the small investor has no chance against the big institutions. And I always wonder whether that's the person under four-foot-eight. I mean they always said the small investor doesn't have a chance. And there's two issues there. First of all, I think that he or she can do it, but, number two, the question is, people do it anyway. They invest anyway. And if they so believe this theory that the small investor has no chance, they invest in a different format. They said, "This is a casino. I'll buy stock this month. I'll sell it a month later," same kind of performance that they do everywhere. When they look at a house, they're very careful. They look at the school system. They look at the street. They look at the plumbing. When they buy a refrigerator, they do homework. If they're so convinced that the small investor has no chance, the stock market's a big game and they act accordingly, they hear a stock and they buy it before sunset, they're going to get the kind of results that prove the small investor can do poorly. Now if you buy a -- you make a mistake on a car, you make a mistake on a house, you don't blame the professional investors. But now if you do stupid research, you buy some company that has no sales, no earnings, a terrible financial position and it goes down, you say, "Well, it because of the programmed trading of those professionals," that's because you didn't do your homework. So I -- I've tried to convince people they can do a job, they can do very well, but they have to do certain things.


Q Wouldn't one of those things be letting you do it for them?
A Well, the small investor can do three things. They can avoid the market entirely. They can just say, ah, "I can't stand it. It's too volatile for me. I'll just put my money in money market funds or put my money in the bank." That's one choice. The other choice is they can invest directly in the stock market by buying stocks individually, or they can buy mutual funds and invest in stock. I think they can do the course of investing in mutual funds and every now and then, they find some stocks, they have a chance the make a big hit. I think the average person could know three or four or five companies very well. They could lecture on those three or four or five companies, and if one or two of 'em becomes attractive, they buy 'em. They just can't wake up in the morning and say, "Now's the time to buy this. Now's the time to buy IBM. Now's the time to by GE. Now's the time to buy Dow Chemical. Now's the time to buy some biotechnology company," if they don't know something about it. You have to know the story. And people have lots of edges and they throw them away.


Q Talk about market timing.
A The market itself is very volatile. We've had 95 years completed this century. We're in the middle of 1996 and we're close to a 10 percent decline. In the 95 years so far, we've had 53 declines in the market of 10 percent or more. Not 53 down years. The market might have been up 26 finished the year up four, and had a 10 percent correction. So we've had 53 declines in 95 years. That's once every two years. Of the 53, 15 of the 53 have been 25 percent or more. That's a bear market. So 15 in 95 years, about once every six years you're going to have a big decline. Now no one seems to know when there are gonna happen. At least if they know about 'em, they're not telling anybody about 'em. I don't remember anybody predicting the market right more than once, and they predict a lot. So they're gonna happen. If you're in the market, you have to know there's going to be declines. And they're going to cap and every couple of years you're going to get a 10 percent correction. That's a euphemism for losing a lot of money rapidly. That's what a "correction" is called. And a bear market is 20-25-30 percent decline. They're gonna happen. When they're gonna start, no one knows. If you're not ready for that, you shouldn't be in the stock market. I mean stomach is the key organ here. It's not the brain. Do you have the stomach for these kind of declines? And what's your timing like? Is your horizon one year? Is your horizon ten years or 20 years? If you've been lucky enough to save up lots of money and you're about to send one kid to college and your child's starting a year from now, you decide to invest in stocks directly or with a mutual fund with a one-year horizon or a two-year horizon, that's silly. That's just like betting on red or black at the casino. What the market's going to do in one or two years, you don't know. Time is on your side in the stock market. It's on your side. And when stocks go down, if you've got the money, you don't worry about it and you're putting more in, you shouldn't worry about it. You should worry what are stocks going to be 10 years from now, 20 years from now, 30 years from now. I'm very confident.


Q If you had invested in '66, it would have taken 15 years to make the money back.
A Well, from '66 to 1982, the market basically was flat. But you still had dividends in stocks. You still had a positive return. You made a few percent a year. That was the worst period other than the 1920s, in this century. So companies still pay dividends, even though if their stock goes sideways for ten years, they continue to pay you dividends, they continue to raise their dividends. So you have to say the yourself, "What are corporate profits going to do?" Historically, corporate profits have grown about eight percent a year. Eight percent a year. They double every nine years. They quadruple every 18. They go up six-fold every 25 years. So guess what? In the last 25 years corporate profits have gone up a little over six-fold, the stock market's gone up a little bit over six-fold, and you've had a two or three percent dividend yield, you've made about 11 percent a year. There's an incredible correlation over time.

So you have to say to yourself, "What's gonna happen in the next 10-20-30 years? Do I think the General Electrics, the Sears, the Wal-Marts, the MicroSofts, the Mercks, the Johnson & Johnsons, the Gillettes, Anheiser-Busch, are they going to be making more money 10 years from now, 20 years from now? I think they will." Will new companies come along like Federal Express that came along in the last 20 years? Will new companies come along like Amgen that make money? Will new companies come along like Compaq Computer? I think they will. There'll be new companies coming along that make money. That's what you're investing in.


Q You believe that the majority of small investors had lost money and that's why they're in mutual funds?
A I wrote three books and I had great help with doing it with John Rothschild, is I really want to help the average person. My wife and I have given all the profits from those books to charity. I want to help people do a better job investing, understand the market because what amazes me is we've had this phenomenal market. You start 1982, August of '82, the market's 777. In May of 1996, it's at 5700. I'm that's up almost seven-fold. That's an incredible advance. Now how come there's not a lot more people buyin' stocks? How come the number of registered shareholders hasn't gone up dramatically? When antiques were hot, lots of who were doin' antiques. When rugs were hot, they were doin' rugs. When baseball cards were in, thousands of people were into baseball cards, tens of thousands. And people were fixin' up old cars. The only thing I can conclude from the fact there hasn't been a great jump in the amount of people directly investing in the stock market has been in this best bull market of all time, August of '82 to 19-- May of '96, best stock market ever, people must have done a mediocre job or they would be doing more of it themselves and they'd be telling their friends about it and their friends'd be doing it. So their method must be flawed.


Q What does that say to you about their frame of mind?
A Well, for some reason, the public looks at stocks differently than they look at everything else. When they buy a refrigerator, they do research. When they buy a microwave oven, they do research. They'll get Consumer Reports. They'll ask a customer "What's your favorite kind of oven? What kind of car would you buy?" Then they'll -- they'll put $10,000 in some zany stock that they don't even know what it does that they heard on a bus on the way to work and wonder why they lose money, and they do it before sunset. Well, you've got plenty of time. You could have bought Wal-Mart ten years after it went public -- Wal-Mart went public in 1970. You could have bought it ten years later and made 30 times your money. You could have said, "I'm very cautious. I'm very careful. I'm gonna wait. I want to make sure this company -- they're just in Arkansas and I want to watch 'em go to other states." So you watch, five years later the stock's up about four-fold. You say, "I'm still not sure of this company. They have a great balance sheet, great record." I'm going to wait another -- wait another five years, it goes up another four-fold. It's now up twenty-fold. You still haven't invested. You say, "Now I think it's time to invest in Wal-Mart." You still could have made 30 times your money because ten years after Wal-Mart went public they were only in 15 percent of the United States. They hadn't saturated that 15 percent and they were very low cost. They were in small towns. You could say to yourself, "Why can't they go to 17? Why can't they go to 19? Why can't they go to 21? I'll get on the computer. Why can't they go to 28?" And that's all they did. They just replicated their formula. That doesn't take a lot of courage. That's homework.


Q The high and the low analysis.
A People spend all this time trying to figure out "What time of the year should I make an investment? When should I invest?" And it's such a waste of time. It's so futile. I did a great study, it's an amazing exercise. In the 30 years, 1965 to 1995, if you had invested a thousand dollars, you had incredible good luck, you invested a the low of the year, you picked the low day of the year, you put your thousand dollars in, your return would have been 11.7 compounded. Now some poor unlucky soul, the Jackie Gleason of the world, put in the high of the year. He or she picked the high of the year, put their thousand dollars in at the peak every single time, miserable record, 30 years in a row, picked the high of the year. Their return was 10.6 That's the only difference between the high of the year and the low of the year. Some other person put in the first day of the year, their return was 11.0. I mean the odds of that are very little, but people spend an unbelievable amount of mental energy trying to pick what the market's going to do, what time of the year to buy it. It's just not worth it.


Q So they just buy and hold?
A They should buy, hold, and when the market goes down, add to it. Every time the market goes down 10 percent, you add to it, you'd be much -- you would have better return than the average of 11 percent, if you believe in it, if it's money you're not worried about. As the market starts going down, you say, "Oh, it'll be fine. It'll be predictable." When it starts going down and people get laid off, a friend of yours, loses their job or a company has 10,000 employees and they lay off two. The other 998,000 people start to worry or somebody says their house price just went down, these are little thoughts that start to creep to the front of your brain. And they're the back of your brain. And human nature hasn't changed much in 5,000 years. There's this thing of greed versus fear. The market's going up, you're not worried. All of a sudden it starts going down and you start saying, "I remember my uncle told me, you know, somebody lost it all in the Depression. People were jumping out of windows. They were selling pencils and apples." It must have been a great decade to buy a pencil or an apple, but they were always -- there must have been everybody selling pencils. That start to -- we laugh about it. People start to think about these things with the market going down. These ugly thoughts start coming into the picture. Gotta get 'em out. You have to wipe those out and you -- you either believe in it or you don't.


Q The fact of the matter is, in the America that we live in, there are a lot of people who feel they have no choice, that they have to be in the market. What do those people do?
A Well, if people don't have the stomach, they really don't have it, the volatility's too much for them with the stock market, they can avoid it. They could buy money market funds and they'd get a little bit better than inflation. They will not get, in my opinion, the same return the next 20 years, the next 30 years they would get by buying stocks. That doesn't sound like much, but over the long period of time Treasury Bills and money markets have yielded a little bit higher than inflation, bonds have yielded five or six percent, and stocks have yielded a total of 11. The differences are massive over 30 years, but that's not a bad return to get a positive return. If you're worried, it's better than losing money.


Q How do those people educate their kids and retire?
A They have to save more. The public's not saving enough. Our whole system's all backwards. If you borrow money to spend, add addition to your house, it's tax deductible, you save money, they tax you on it. I mean the public has figured out very well there's no inducement to save. Our system is very confusing. We have the highest capital gains rate in the history of this country right now. The capital gains rates in Japan is zero. They have a 20 percent savings rate in Japan. We have to have a higher savings rate. No one's encouraging savings. And it's the one thing I remember from college is savings equals investment. For every savings of a dollar, money goes into capital investment, that yields more productivity, yields more jobs, yields better standard of living. We are not saving enough money. That's the most single important thing people have to do, they have to save some more.


Q With so many people investing in mutual funds, let's consider two issues. Short-term profit....long-term stability?
A Well, if corporate management's job is to make the company deal well and make a good job for employees, provide a good service, they know if they do something very slick, very fast and it works well for three months, their competitors will knock 'em off. They have to come out with a better product. They have to come out with better services. So I think the real issue is they have to think long-term and they're doing that. They have to say, "We have to stay competitive and we have to think about ways -- we just introduced a me-too product. That's not enough. It has to be a better product." And I think that's been the difference. "Can we lower our costs?" You see that with the telephone companies. You see it with electric utilities. You see it with broadcasting. You see it with gas companies, industries that never even thought of this -- publishing, just throughout all of the America in the retailing industry, better ways of delivering products. And it's a serious effort and it's a long-term effort. And they're trying to spend more and more time to say, "How can we do a better job? We just can't raise prices. That game's over."


Q So companies get a bad rap for this short-term, long-term business?
A Well, there is a group of people that buy companies, sell this division, sell that division, sell that off and divide it up and that's a very small minority. It doesn't happen very often. And they used to be able to use junk bonds. That day's over. They used to get a lot of money from the banking system to do an LBO. That day's over. So now a corporate buyer's a legitimate buyer. It's a major company buys another company. It's not somebody who puts a thousand dollars down and borrow 23 billion and then tries to sell parts off. So I think corporate managements are doing a very good job of saving companies. But a lot of times it's a tough decision. They don't like lettin' people go. No one enjoys that. The question is, if we can slim down and get more efficient, it'd be better off for 90 percent of the employees than "If we don't do it, we could become another Eastern Air Lines, another Pan Am and everybody loses their job."


Q A lot of people worry that the mutual fund pressure has caused a lot of pain in this country ...
A Well, I think it was the recession of '81 and '82 that was the wake-up call. It wasn't the stock market. It wasn't mutual funds managers. It's competition. It's competitor in the apparel industry. It's competition in the textile industry. It's competitor in the housing industry. It's competitor in the broadcast industry independent of mutual fund managers. Now you look at AT&T, about 11 years ago they broke up AT&T, had one million employees. One out of every hundred Americans was working for the telephone company. If you put together AT&T and all the Baby Bells today, you'd have about 700-- less than 700,000 workers and they're doing double the amount of telephone calls, twenty times the faxes, a hundred times the data communications, a thousand times the cellular with 30 percent less employees. Now is that good for America or bad for America? Would we be better off if they had two million employees? I think we're just better off that they have less employees and they're doing a better job.


Q Why?
A That's -- competition, because we have the lowest cost communication system in the world. It's the single most important thing. It's not the highway system. Communications is the single most important and we're the lowest cost. That helps us compete with the rest of the world.

Now hopefully these companies have done a good job when they had to let people go, they helped 'em find other jobs or they let people retire. I'm hoping they were good corporate citizens. That would be very good. That's important. So they just don't say, "Sorry, fellas. Sorry, lady. You're outta here." That would be not a very good thing to do. That'd be terrible. So that would be an abuse. That's not the way to treat people. But holding onto people and all of a sudden you have to cut everybody's pay by 10 percent and then cut everybody's pay by another 15 percent, then your whole company folds. No one wins by that.


Q Talk companies that have gone public since the bull market started and the flow of capital ...
A I get asked a lot by people, you know, "Where's this money that's going into mutual funds of my money? Other people's money. Where is this going to wind up?" One wonderful thing that happened, the last three years over a hundred-billion dollars has gone into initial public offerings. These are new companies coming public. We've had over 2,500 companies come public. That's over two a business day. These companies now have more money for equipment, more money for research. They have a better balance sheet. They can borrow more. They are going to hire more people and more jobs. These are going to be the companies like the next Staples, the next Federal Express, the next Compaq. That's what made America grow.

In the decade of the '80s the 500 largest companies eliminated three million jobs. We added 18 million jobs. This is the greed decade. The decade of the '80s we added 18 million jobs in the United States. There's 2.1 million businesses started. Some didn't make it, but they just had 10 jobs each. That's 21 million jobs. Some medium-sized companies grew to be big companies. That's what's made America grow. When the stock market does well the next two years or the next three years, that money's there. They've got it now. It didn't just go to a bunch of rich people. It went into the companies' treasuries. It's now being used for research & development. Companies like Amgen has come along and they have two one-billion-dollar drugs. Company didn't exist 20 years ago.


Q So my money winds up in Amgen?
A The money the public puts into mutual funds, a large percentage of that is wound up going into finance new issues. From '65 to 1995 in America we added 54 million jobs. The European Union, the old Common Market, has 100 million more people. In those 30 years, they added 10 million jobs. They added 10 million jobs in 30 years. We added 54 million jobs. There's 10 percent unemployment in Europe, 20 million people out of work. We are very lucky we've had these companies come public. That's what made this country hold together. Business has done a terrific job. We ought to be very happy. I don't think 2,500 companies have come public in Europe since Charlemagne, and I think he became King of the Francs in 788. This is a wonderful thing we have in this country, this initial public offerings, putting money into small and medium-sized companies and let them grow.


Q Do you think Vinik got a bad rap, too much emphasis put on short-term record?
A Jeff Vinik ran Magellan Fund for a little over four years. It beat the market. It beat 80 percent of all other funds. So if you went somewhere else, you would have been in the 80 percent that lost out to Magellan. Now the last nine months Magellan didn't have a great record, but when you have a basketball game and at the end of the game its 105 to 85, they don't say to the team, " the third quarter you lost by 32 to 22. What happened to the third quarter?" I mean I think a four years is a reasonable period of time to look over a record. I think Jeff Vinik did a very good job the time he ran Magellan.


Q Too much scrutiny is unfair at this point?
A Well, I can't say whether there's too much scrutiny or not enough scrutiny. I think there's a lot of watching of the largest fund in the country. The question is, can it continue to beat the market like it's done under Morris Smith, under Jeff Vinik, and under Bob Stansky. And it's still a very small percent of the market. I mean 50 billion is a very large number, but when you think the New York Stock Exchange is five-and-a-half trillion. If you look at the hundred largest stocks over-the-counter, there's another trillion. You look at the 200 largest stocks overseas is several trillion, I mean it's not a very small -- it's a very small percentage of the available market. All you have to do really is find the best hundred stocks in the S&P 500 and find another few hundred outside the S&P 500 to beat the market.


Q That's all?
A That's all you do.


Q What was Magellan's size when you left?
A When I left Magellan Fund, it was 14 billion.


Q And where is it today?
A Today over 50 billion.


Q What has caused that incredible influx of money?
A Well, part of it, the market was 2700 when I left. You know, and before today the market was 5500. So, the market doubled, plus dividends has brought a lot of it, and people already were there. So they kept adding. So every year people kept adding money and as it's gone up, it was up over 35 percent in 1995, I mean those compound to give you very big numbers. So it's some people adding do it and the fund doing very well. It went up when Morris Smith ran it. So it's gone up a lot in six years.

[helios]

under the chapter12: Getting the Facts - Can you believe it?

he wrote about investor relationships; different companies will have different ways of describing the same scene. when you've been through 6 wars, ten booms, fifteen busts, and thirty recessions, you tend not to get excited by anything new. you are also strong enough to admit readily to adversity.

he said: there is no reason for the investor to waste time deciphering the corporate vocabulary. it is simpler to ignore all the adjectives.

when looking at the same sky, people in mature industries see clouds, where people in immature industries see pies.

~ revolutionary message.

[winston]

Peter Lynch: 10-Bagger Tales Matthew Schifrin

How do you stay one up on Wall Street? Buy smart and quit, while the going is good.

Who Is Peter Lynch?

If ever a legendary investor benefited from good timing it was Peter Lynch. Lynch was born in 1944 and first became interested in stocks while caddying for executives at a country club in Newton, Mass. His caddying landed him an internship at Fidelity Investments in 1966 and eventually a scholarship to Boston College.

After serving in the army for two years, Lynch eventually graduated with an MBA from the Wharton School of Business at the University of Pennsylvania in 1968. Upon graduation, Lynch returned to Fidelity as a research analyst. At age 25 he was earning $16,000 per year.

Lynch covered a variety of industries from textiles and chemicals to mining. Lynch eventually took over as director of research for the small investment mutual fund company and in 1977 took over portfolio management of Fidelity's Magellan mutual fund. The fund had only $18 million in assets when Lynch began running it.

Lynch ran Magellan from 1977 until 1990, and by the time he stepped down the fund had grown to $19 billion in assets with more than 1,000 stock holdings. Peter Lynch's compounded average annual investment return during the 13 years was 29.2%. A thousand dollars invested the day Lynch took over Magellan would have been worth $28,000 when he quit.

Not to be understated is the fact that during Lynch's tenure the S&P 500's bull run was nearly continuous, rising from less than 100 to more than 320. The most severe market reversal Lynch faced was the crash of 1987 when stocks declined more than 30%. By the time Lynch retired a few years later, stocks had recovered most of their losses.

At the end of Lynch's career as a portfolio manager he teamed up with journalist John Rothchild to write his now famous bestseller One Up on Wall Street: How to Use What You Already Know to Make Money in the Market. This cemented Lynch as the everyman's hero because the book convinced millions of investors that you didn't need to be a quant or investing savant to find so-called "10 bagger" stocks (stocks that go up tenfold.) Just use common sense and invest in things you see everyday and understand.

During his tenure at Magellan, Lynch bought more than a hundred "10 bagger" stocks, including Fannie Mae (nyse: FNM - news - people ), Ford Motor (nyse: F - news - people ), Philip Morris International (nyse: PM - news - people ), Taco Bell, Dunkin' Donuts and General Electric (nyse: GE - news - people ).

Since Lynch retired in 1990, he has remained as a director of Fidelity Investments, written several more books and devoted his time to philanthropy.

[winston]

Peter Lynch's Stock Picking Strategy:

Peter Lynch loved story stocks. He once told a reporter for PBS' Frontline about his impetus for buying the stock of Hanes. Turns out the company was test-marketing a new product called L'Eggs in Boston. His wife brought home a sample and after wearing them raved about how great they were.

L'Eggs stole market share from cheap drugstore competitors, and Lynch eventually made it one of Magellan's biggest holdings. Eventually L'Eggs was bought by Consolidated Foods, which is now called Sara Lee (nyse: SLE - news - people ). Magellan fund-holders benefited from a 30-fold appreciation in Hane's stock.

Below is a list of the criteria used.

You will note that Lynch avoided any stocks growing earnings per share faster than 50% because he liked to avoid hot companies with unsustainable earnings growth rates. He reasoned that they would attract too much attention, which would bid up the price and attract competitors.

--A price-to-earnings ratio (P/E) less than the industry mean.

--A P/E less than the five-year average.

--The ratio of the P/E to the sum of the five-year growth rate in earnings per share and the five-year dividend yield (dividend adjusted PEG ratio) is less than or equal to 0.5%.

--The five-year growth rate in eps from continuing operations is less than 50%.

--The percentage of common stock held by institutions is less than the median percentage of institution ownership.

--The total liabilities to total assets ratio for the last fiscal quarter (Q1) is less than the industry's median total liabilities to total assets ratio for the same time period