The Only Sure-Fire Way To Make Money in the Stock Market
I am often asked if you can make big money in the stock market.
The truth is that yes, you can, but not from some super double top secret trading system that doubles your money each and every week, as so many of the sales pitches I see would have you believe.
Making a lot of money in stock but it is the most difficult easy thing you will ever do in your lifetime.
It is easy because, if you are doing it right, all it takes is a combination of value and time to do all the work for you.
The tricky part is sitting still long enough for them to get the job done.
In his excellent but somewhat obscure 1973 book, “100 to 1 in The Stock Market,” Thomas Phelps provides you a roadmap for making truly big money in the stock market.
Mr. Phelps started his career working as a reporter for the Wall Street Journal in 1927 and during his lifetime he was a financial reporter, an economist and a partner in a major investment firm. By the time he retired he had pretty much seen it all and had seen some folks make and lose an enormous amount of money in stocks.
In his book, which I hope you order and read sooner rather than later, he lays out the factors he found lead to significant returns in the stock market.
In my opinion, the three most important factors that Mr. Phelps outlines are owning the right kind of company, paying the right price and owning it for a long enough period.
Of these three I think that owning the right kind of company is the easiest part of the equation.
I like to conduct a thought exercise once in a while of imaging what the world might look like in 30, 40 or 50 years. What could go right for the world? What could go wrong? How do we get from here to there and what products and services are going to be needed to get us from here to there?
I make lists of what types of industries might benefit from the trends that are likely to happen in the future.
James talks about a similar process in his “The Ultimate Cheat Sheet for Investing All of Your Money.” He likes to look for powerful social and demographic trends that are going to be in place for a long period and then search for companies that benefit from those trends. He mentions several sectors that I think are excellent hunting grounds for 100 to 1 winner like Senior Housing and Care, Energy in all forms, Temporary Staffing and Batteries as examples of powerful trends that could produce huge gains over time.
I can add a few of my own from one of the several dozen legal pad scattered around my office.
- Cyber security will be massive as the more digital and mobile we become the more vulnerable to hackers we become. Watchlist:
- Unisys (UIS)
- Cisco (CSCO)
- Palo Alto Networks (POANW)
- Populations will continue to grow so keeping the environment clean with lots of clean air and water will be increasingly important.Watchlist:
- Republic Services (RSG)
- Darling Ingredients (DAR)
- Covanta Holdings (CVA)
- So will infrastructure to deliver electricity, bandwidth, and water and help people get safely and quickly from point A to Point B. Watchlist:
- Mueller Water (MWA)
- Babcock and Wilcox (BWC)
- Tetra Tech (TTEK)
- Electronic and drone warfare will, unfortunately, be a huge trend that lasts for centuries. Watchlist:
- Kratos Defense and Security Systems (KTOS)
- Aerovironment (AVA)
- Mantech International (MANT
- The consolidation trend in banking, insurance, and asset management will stay in place for a very long time. Watchlist:
- Home Bancshares (HOMB)
- Bank of the Ozarks (OZRK)
- Cowen Incorporated (COWN)
That’s a decent starter list, and I am sure you could add to it after a thinking session of your own.
As important as getting the trend right, the price you pay for the companies you buy is even more important.
To get the type of price increase you need over time to make real money in stocks, you need to not only see earnings grow you need to see the multiple expand. That way you have two drivers of profit growth as earnings go higher.
A high Earning or Enterprise multiple can discount the future potential for a stock, and you can pay too much for even the greatest of companies.
Buying companies in industries with powerful, social and demographic trends in front of them is part of the search for significant returns. Buying them at bargain multiples dramatically increases the value creation needed to reach 100 to 1 returns.
Let’s say you have $2000 to invest in two potential 100 to 1 companies. You identify two strong companies and they each earn a $1 a share. Company A is in a business that is popular right now, and you have to pay 25 times earnings for the stock so you can buy 40 shares. Company B is an industry that is off Wall Street’s radar screen at the moment so you can buy it for 10 times earnings and you buy 100 shares.
Flash forward 30 years, and both companies shave grown by an average of 15% a year. Both are now earning $66 a share. Company A’s PE multiple is still 25, and your $1,000 is now worth $66,000. Not too bad.
But Company B after three decades of solid performance is now in vogue on Wall Street and now also trades at a PE of 25 and your $1000 investment has grown to $165,000, or 2.5 times Company A because of multiple expansion along with earnings growth.
Valuation matters and it is part of the 100 to 1 equation that far too many investors ignore.
Time is the other thing almost everyone gets wrong. 100 to 1 doesn’t happen in weeks, months or even years. It usually takes decades.
We are conditioned by Wall Street and the media to book our profits quickly. No one ever went broke taking a profit right? Tell that to the guy or gal who bought Apple back in 2003 and sold it for a quick triple two years later, only to watch it soar by a factor of 30 over the next decade.
Or consider the sharp trader that bought Berkshire Hathaway (BRK.A) in 1980 and sold it for a triple three years later at around $900 a share, only to watch it climb over the next 32 years to $248,000 a share.
Big money in the stock market requires a solid company with powerful trends that will drive growth, attention to valuation and time.
Once you find that trend and the company time and value do all the work, but you have to have the patience and fortitude to ride out the ups and downs of the market and let them do their job.
Written By Tim Melvin
As a 30-year veteran of the financial services and investment industry Tim Melvin served as a broker, advisor, and portfolio manager. He’s combined this nearly three decades of experience with a love of value investing in order to help investors worldwide to multiply profits and build their nest eggs. As an avid value investor, Tim...