Peter Lynch: Improve Your Edge

Peter Lynch is a living legend in the value investing world. He is credited with popularizing a number of investment techniques, including GARP (growth at a reasonable price) - a blend of value investing and growth investing. He is also credited with inventing the term "10-bagger" to describe an investment that appreciates in value tenfold, and is a strong believer in the "invest in what you know" school of thought. In this video series by The Stock Shop, he explained the power of expert knowledge for the retail investor.

Research your edge

“If you know something that will drive a company’s earnings higher, you know something that will drive a company’s stock higher, sooner or later. But you can’t just guess at it - you have to have some reasons, such as ‘costs are coming down’ or ‘new products are going to be a big hit.’ Research is developing a company’s story, an idea of why earnings should go up or down. It doesn’t mean sitting in the library for hours, reading SEC filings and fiddling with a calculator. Research is exciting. It’s very little math.”

Lynch believes research is about more than sitting at a laptop for hours and pouring over financial reports. While we would argue that it is very much about those things, it is definitely true that it pays to focus on the edge you already have in an industry:

“Research starts with the things that you know - your edge. If you’re a mechanic: look at the tools you use. Which are the best? Which are the best value? Or if you’re a doctor: see what saves the insurer money, or software systems that reduce costs at hospitals. You probably already know a few companies quite thoroughly. The amateur investor probably can follow between five and eight companies. They could lecture in these five or eight companies. They know them very well...You don’t have to be an expert on lots of companies - you just have to know a few very well.”

The most important organ is the stomach

It’s not all about thinking with your head, though. Like many great money managers, Lynch reckons investment success comes as much from mental fortitude as it does from intelligence, if not more:

“Investing is a personal thing. You have to do it by yourself. You don’t do it with a committee. You have to be able to have the emotional strength to stand the volatility of the market in general, and of stocks in general. The key organ here is not the brain. It’s the stomach. Do you have the stomach for this? Do you have the patience for it? You should be able to look in the mirror and say to yourself ‘what am I going to do if the market goes down?’”

When investing your own money, you are ultimately responsible for what happens to it. For some people, that can be too much to handle, whereas others relish the opportunity to take charge of their finances. The important thing is figuring out what kind of person you are, what your risk profile is and what kind of returns you are aiming for.

Read more here:

• Debt-Laden Companies Can Ruin Your Portfolio
• Howard Marks: The Importance of Second-Level Thinking
• How to Win at Income Investing

Not a Premium Member of GuruFocus? Sign up for a free 7-day trial here.