The Commonsense Investing Rules of Two of the World’s Most Successful Investors

All the math you need in the stock market you get in the fourth grade.
— Peter Lynch

Whenever you watch an expert in their craft do something, it looks effortless, elegant, simple, even easy. It should be easy to replicate then, right? Not so, as we often find out when we try to do so.

In the words of Buffet, “What we learn from history is that people don’t learn from history.”

The reasons for this are many and rooted in human psychology and inexperience, a topic for another article and summed up best in Warren Buffet’s words:-

“There seems to be some perverse human characteristic that likes to make easy things difficult.”

In this article we want to highlight some of the common-sense rules and wisdom of two of the world’s greatest investors of modern times. In a world where instant gratification has somehow become normalized, the wisdom of these two legendary investors points to sensible rules and guidelines for investing that happen over longer-term timelines - years - and require the exercise of patience.

“Most money I make is in the third or fourth year that I’ve owned something.” Peter Lynch

So, let us look at some of these investment mavericks’ rules when it comes to investing.

Rule #1 - Focus on buying the absolute best businesses.

A key rule that both investors have in common is that primarily they are looking to invest in the best businesses and evaluating them through the eyes of businesspeople. They do their due diligence on the business fundamentals. They observe a business to see how it performs over time. And finally, if they like the business, they evaluate what is a reasonable price to pay for the business.

They often make the analogy when buying a stock/business of performing the same due diligence and careful consideration that you would do before buying a house.

“Charlie [Munger] and I are not stock-pickers; we are business-pickers.” Buffet writes in his 2022 Berkshire Hathaway letter to investors/

“If a business does well, the stock eventually follows” Warren Buffet

“It’s never too late not to invest in an unproven enterprise” Peter Lynch

While this is not an exhaustive list, key factors in their consideration include:-

a) Is the business a market leader?

b) Is the market for its products in the early stages of adoption?

c) How big is the market opportunity and adoption curve ahead?

d) How could this impact growth and earnings?

e) How much competition is there in the market?

f) Does  the business have core competitive advantages that can be maintained over the long term? Buffet referred to this as an economic moat, one that is difficult for competitors to challenge.

g) Is the company profitable?

“The fast growers are among my favorite investments: small aggressive new enterprises that grow at 20 to 25 percent a year. If you choose wisely, this is the land of the 10- to 40-baggers, and even the 200-baggers.” Peter Lynch

“Wait for the earnings. You can get ten baggers in companies that have already proven themselves. When in doubt, tune in later.” (p. 159) Peter Lynch

“In the world of business, the people who are most successful are the ones who are doing what they love” Warren Buffet

Rule #2 - On Market Timing

Buying anything whether it is a house, a business, a car, or a stock does require experience, discipline, and discrimination as well as an awareness of market conditions and cycles. The business evaluation is the first step but the price at which to purchase is an equally important second step.

“ Whether we are talking about socks or stocks, I like buying quality merchandize when it is marked down” Warren Buffet

“It’s self-defeating to try to invest in good markets and get out of bad ones.” Peter Lynch

“A simple rule dictates my buying: Be fearful when others are greedy and greedy when others are fearful.” Warren Buffet

“Obviously you don’t have to be able to predict the stock market to make money in stocks, or else I wouldn’t have made any money.” Peter Lynch

“For as long as they can keep up, fast growers are the big winners in the stock market. The trick is figuring out when to sell them and how much to pay for the growth.” Peter Lynch

Rule #3 – Are Key Interests Aligned?

“When management owns stock, rewarding the shareholders becomes a first priority, whereas when management simply collects a paycheck, increasing salaries becomes a first priority.” Peter Lynch

Rules #4 - On Investing, Buying & Selling

“I can’t imagine anything that’s useful to know that the amateur investor can’t find out.” Peter Lynch

“For as long as they can keep up, fast growers are the big winners in the stock market. The trick is figuring out when to sell them and how much to pay for the growth.” Peter Lynch

“All else being equal, a 20-percent grower selling at 20 times earnings is a much better buy than a 10-percent grower selling at 10 times earnings.” Peter Lynch

“Widespread fear is your friend as an investor because it serves up bargain purchases” Warren Buffet

“A simple rule dictates my buying: Be fearful when others are greedy and greedy when others are fearful.”

"Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks." Warren Buffet

“The most important thing to do if you find yourself in a hole is to stop digging." Warren Buffet

“Sell the winners and hold on to the losers is as sensible as pulling out the flowers and watering the weeds.” Peter Lynch

“The first rule of an investment is don’t lose [money]. And the second rule of an investment is do not forget the first rule. And that is all the rules there are.” Warren Buffet

In Conclusion

Focus first on the business fundamentals. Is the business a market leader? How large is the market for its products or services? Where in the adoption cycle is the market? How many competitors are there? How well regarded is the business in its market? How deep and wide are the company’s core competitive advantages? Does the business have earnings/profits?

In the words of Peter Lynch “Wait for the earnings. You can get ten baggers in companies that have already proven themselves. When in doubt, tune in later.”

Then focus on “price”. What is a fair price to pay for the business? Where are we in the business/economic cycle?

There will always be some companies that do not live up to their potential despite looking like they fit both investors’ rules. The world of business is constantly changing. Key figures can leave, better competitors can enter, companies can lose their advantage etc. In the words of Warren Buffet-

"Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks."

Listening and paying attention to the rules and investing wisdom of both Peter Lynch and Warren will make us better investors.