How do you choose good investment ideas? Every investor has their own process, developed and streamlined over many years. If there is one thing we can learn from the world's most successful investors, it is that it is critical to be disciplined when choosing good ideas.
Buying stocks just because they've been mentioned to you in a passing conversation, or because they look cheap on certain metrics, might generate some profits, but these strategies are not repeatable. The more stocks you have to pick and choose, the higher the likelihood that you will end up owning a dud.
That's why investors like Warren Buffett (Trades, Portfolio), Charlie Munger (Trades, Portfolio) and Li Lu are focused on finding only the market's best opportunities. When they have found these opportunities, they act with conviction to take advantage of Mr. Market before he tries to correct his mistake:
"Ted Williams is the only baseball player who had a .400 single-season hitting record in the last seven decades. In the Science of Hitting, he explained his technique. He divided the strike zone into seventy-seven cells, each representing the size of a baseball. He would insist on swinging only at balls in his 'best' cells, even at the risk of striking out, because reaching for the 'worst' spots would seriously reduce his chances of success. As a securities investor, you can watch all sorts of business propositions in the form of security prices thrown at you all the time. For the most part, you don't have to do a thing other than be amused. Once in a while, you will find a 'fat pitch' that is slow, straight, and right in the middle of your sweet spot. Then you swing hard"
- Li Lu
Waiting for the time to strike
This approach requires a tremendous amount of patience and emotional intelligence. Not only do you need to be prepared to wait for a long time for the best pitch to come along, but you also need to be able to ignore other investors getting rich off booming markets.
For example, the past decade has been a very lonely time to be a value investor. History has shown us that value investors' patience is usually rewarded after these periods of market growth, but many value-hunters fail to make the most of the opportunities available in the market because they start chasing growth.
A punch card
Buffett is a huge advocate of the punch card approach. He has stated in the past that he believes he could improve every investor's financial performance by giving them a ticket with just 20 slots in it, representing the 20 different investments they are allowed to make throughout their investment career.
"Under those rules, you'd really think carefully about what you did and you'd be forced to load up on what you'd really thought about. So you'd do so much better," Buffett said about the topic.
The great thing about this idea is that it encourages thoughtfulness as well as patience when picking investments, and that's what every investor needs when picking stocks.
Multiple studies have shown that over the past 10 or 20 years, just a handful of stocks have produced most of the market's returns. What is also interesting to note is the fact that over the same time frame, the average holding period for stocks has dropped from 10 years to less than one year.
This does not make much sense. In theory, if just a few stocks are generating the bulk of the market's returns, investors should be buying these equities and holding them for as long as possible. Therefore, the average holding period should be increasing. It is not, and that's a problem.
Despite all of the data and research out there, which shows that long term investing is the best way to grow your wealth, investors just aren't taking notice.
Disclosure: The author owns no share mentioned.
Read more here:
- What We Can Learn From Michael Burry's Investment Style
- Michael Burry: Retail Sector Bets
- Charlie Munger: How to Avoid 'Man With a Hammer' Syndrome
 Not a Premium Member of GuruFocus? Sign up for a free 7-day trial here.
