Peter Lynch is one of the most successful investors of recent decades. Between 1977 and 1990, he managed the Magellan Fund, which recorded an annualized return in excess of 29%. This was significantly higher than the S&P 500’s 16% annualized return in the same time period.
In seeming contrast with his strong investment performance, Lynch adopts a simple investment strategy. He does not use complex methods to try and predict the stock market’s future movements. Instead, he buys quality stocks with business models that he understands while they trade at low prices.
Predicting the stock market
Many investors spend a great deal of time attempting to predict how the stock market will perform in the future. For example, they may seek to estimate the economy’s future growth rate and identify which sectors could be well-placed to benefit.
Peter Lynch, in contrast, feels that this is an unproductive use of an investor’s time. Instead, he accepts that the stock market’s movements are a known unknown that cannot be accurately predicted on a consistent basis:
“No one can predict the stock market. They try to predict interest rates. If anybody can predict interest rates right three times in a row, they’d be a billionaire”.
This point is highly relevant at the moment. The stock market’s performance in the near term could be highly unpredictable, with the S&P 500 having the potential to move significantly higher or lower in future weeks. Taking a long-term view and focusing your energy on identifying quality stocks, rather than aiming to predict the movement of the index, could be a better use of your time.
Investing rationale
The reasons for owning a specific stock can differ greatly between investors. For example, one investor may feel that a business has a strong balance sheet with modest debt levels. Another investor may feel that the same company’s competitive advantage is the most positive aspect of its investment appeal.
Whatever your reasons for holding a stock, Peter Lynch believes that they should be simple and succinct. According to Lynch, “If you can’t explain to a 10-year-old in two minutes or less why you own a stock, you shouldn’t own it”.
Having a clear picture of why you bought a stock and why you continue to own it may help you to be more efficient in deploying your capital. It could allow you to focus on the most important aspects of a business to determine its risk/reward opportunity.
Market downturns
Many investors view market downturns as being a negative event. They may, for example, feel disappointed that their portfolio value has declined. A market correction or bear market may even make them less likely to buy the same stocks that they were happy to previously purchase during more prosperous periods for the economy and index.
Peter Lynch views market downturns as frequently occurring events that offer buying opportunities for long-term investors:
“It’s good when the market goes down. If you like a stock at $14 and it goes to $6, that’s great. You understand the company. You look at the balance sheet. They’re doing fine. You hope for $22; $14 to $22 is terrific, $6 to $22 is exceptional, so you take advantage of these declines.”
Capitalizing on the stock market’s declines can be a difficult task. Emotions, the views of other investors and losses within your portfolio may make you less positive about the prospect of buying a specific stock that you previously viewed as being attractive.
However, by focusing on a company’s fundamentals and seeking to obtain a wider margin of safety via a lower stock price, you can generate higher long-term returns from buying during corrections and bear markets.
Read more here:
- Warren Buffett's Advice on Coping With Stock Market Losses
- What's Next for the S&P 500?
- Unearthing Quality Stocks in a Market Crash
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