Beating the Street Plot Summary
Preview of Beating the Street Summary:
Peter Lynch, manager of Fidelity Investment's incredibly successful Magellan Fund from 1977 to 1990, writes this book to provide investors with insight into his investment methodologies and tactics. He begins with a tale about a group of 7th graders who make mock investments as part of their class. The children are instructed to invest in companies they own and to research their choices to explain to their classmates why they made them. The 7th graders do extremely well, beating the S & P 500 index significantly. Their story demonstrates that even a child can invest successfully if they choose companies they are familiar with and do their research. Knowing one's investments is the main theme of the book.
Next, for those who might be timid about investing in stocks, Lynch explains why stocks are a better investment than bonds or certificates of deposit. While a conservative investor may prefer a...
Peter Lynch, manager of Fidelity Investment's incredibly successful Magellan Fund from 1977 to 1990, writes this book to provide investors with insight into his investment strategies. Lynch believes amateur stock pickers can outperform mutual funds.
He begins with a tale about a group of 7th graders who make mock investments as part of their class. The children are instructed to invest in companies they own and to research their choices to explain to their classmates why they made them. The 7th graders do extremely well, beating the S & P 500 index significantly. Their story demonstrates that even a child can invest successfully if they choose companies they are familiar with and do their research. The kids compiled a list of potential stocks, and then researched each one thoroughly, checking earnings and relative strength. Before any kid could put a stock in their portfolio, they had to understand the company's...
The successful investor cannot be afraid of the minor fluctuations and corrections of the stock market. Investors must resist the natural human urge to cut and run at the first sign of trouble.
The Barron's Roundtable, an annual meeting of the best and brightest investors, is used to demonstrate that even the experts get too caught up in letting the news of the day influence their stock purchasing and selling thoughts. Each year, during the late 1980s, after the crash of 1987, the group found pessimistic news to dissuade them from buying stocks. 1990 and 1991 were predicted to be especially gloomy years. In fact, the doom and gloom and slightly depressed market created a perfect opportunity to buy.
The best way to avoid being scared out of stocks is to buy them on a regular basis, month in and month out. Looking to the "Even Bigger Picture" as opposed...
Mutual funds are intended to take the confusion out of investing. You invest your money in the fund and do not have to worry about picking stocks or following the market. Mutual funds are so popular today that there are more mutual funds available than there are stocks on the New York and American stock exchanges combined.
Many investors make their investment decisions based on the amount of income a given type of investment will generate. They ignore growth potential. They often invest in bond or money market mutual funds because of the steady interest income they provide. Investors often ignore the income potential of stock dividends and the investment growth factor stocks provide. In other words, if you buy a bond, you will receive steady interest over the term of the investment, but, in the end, you receive your original investment back. This amount, when reduced by inflation, has...
Lynch took over Magellan in 1977. His first year was spent selling his predecessor's favorites and buying his own. These included Congoleum, Transamerica, Union Oil, Aetna Life and Casualty, Hanes, and Taco Bell. The variety of different companies reflects that Lynch did not have an overall strategy to investing. He was always looking for undervalued companies, no matter the industry. Lynch liked growing fast food chains because if they could be successful in one region, they would be successful nationwide.
Lynch made a point of getting to know every industry he could. One of the most valuable lessons he learned was the importance of doing his own research. Lynch made it a habit to meet with at least one industry representative from every sector once a month for a general update. This provided an opportunity to spot potential trouble early. Another trick he learned was to end every conversation by...
Lynch believes that focusing on the companies is more important than focusing on the stocks. Lynch used the methods of an investigative reporter: reading public documents for clues, talking with analysts and investor relations people for more clues, and then going to the companies themselves. After each contact, he would make a note in a loose-leaf binder with the name of the company, the current stock price, and a one or two line summary of the story he had just heard.
As Magellan grew, Lynch used assistants to call companies and analysts to keep up on developments. Lynch found that when people are given more responsibility, they usually live up to it. This was a revolutionary concept in the industry. Traditionally, fund managers choose stocks based on their analysts' research. Unfortunately, this allows managers to blame the analyst for a poor performing stock. If an analyst knows his or her...
The amount of time needed to research your portfolio depends on how many you own. A few hours a year must be dedicated to reading annual and quarterly reports and calling companies for periodic updates. One person with five stocks can do this as a hobby. The fund manager of a medium sized fund can do it as a 9-5 job. In a larger fund, a 60-80 hour work week is required. By mid-1983, Magellan had 450 stocks. Before the end of the year, the fund doubled to 900. Magellan was criticized for being too big-by owning that many stocks, they couldn't beat the market, they were the market.
When Magellan had 900 stocks, 700 of them accounted for less than 10% of the fund's total assets. The smaller stocks accounted for a tiny portion of the fund for two reasons: 1) the companies were small, so even if Magellan...
Lynch feels strongly that stock picking is part art and part science. Relying too much on either aspect, however, can be dangerous. Lynch has used the same stock picking method for 20 years. His method involves elements of both art and science with a healthy dose of legwork. He does not rely on computer programs or services. He figures that for every ten companies he researches, he will find one worth buying.
Lynch prefers a recession to an overpriced market. In an overpriced market, good value stocks are extremely hard to find. In a recession market, bargains are everywhere. He is happier to see the market lose 300 points than gain 300 points.
The investor who buys sells stocks frequently is asking for trouble. That investor would do much better to know their stocks. The investor who knows an industry and knows how a particular stock will respond to a...
A large regional mall can be the best place to do stock research. Many of the biggest gainers of all time are retailers: Home Depot, the Limited, Gap, and Wal-Mart are just a few. When it comes to retailers, if you like the store, you will probably love the stock even more.
Lynch attributes the success of retailers to the fact that taste in both food and fashion is universal. Typically the foods that are popular in one town or region will do well in other towns or regions. Likewise, clothes and fashion that are popular in one region often become popular nationwide.
Employees at malls can recognize very quickly which stores are doing well. If you don't happen to have such an insider connection, perhaps you can get some good tips from a friend or family member who visits the mall regularly. If a teenage girl you know buys...
Investors are often rewarded by looking to industries other investors fear. In 1992, for example, there was no more feared an industry than residential real estate. Investors feared that the collapse in the commercial real estate market would spread to residential real estate.
Lynch noticed that despite analysts' concerns, the median house price steadily rose from 1989 through 1991. Since the statistic was tracked in 1968, the median home price had gone up every single year. Lynch calls this a "quiet fact." Other quiet facts for the housing market are the "affordability index" and the percentage of mortgage loans in default. Even though these facts pointed in a positive direction, companies even remotely related to the home building and home finance industries were way down.
Anticipating a boom in the housing market, Lynch looked for housing-related companies that might benefit. He thought about Pier 1, the home furnishings retailer. If...
Towards the end of 1991, Lynch received a Supercuts prospectus and decided to visit a store for a haircut. He noted the prices were about the same as his regular barber, though much less than the salons his wife and daughters frequented. The company had just gone public a month or two earlier. There were 650 franchise stores established and management was embarking on an extensive expansion campaign. The theory behind the business was that the hair care industry was a $15-40 billion industry dominated by independent barbers and salons. Barbers, however, were a dying breed. This seemed a perfect opportunity for a well-managed national franchise do to very well.
Lynch liked the fact that the only expenditures for the company, besides rent, were scissors and combs. As a franchise operation, the corporation didn't have to invest its own money in expansion. The biggest plus of all, though, were the...
Lynch is quite fond of solid companies in poor industries. It is much more difficult to find an undervalued stock in an industry that is popular and successful. In a lousy industry, weak companies fail and strong ones earn an even bigger share of the market. A growing company in a stagnant market is much better off than one that has to struggle to keep up in a fast-paced market.
Good companies in poor industries share certain characteristics. They operate at low cost. Their owners are often characterized as "cheap" or "penny-pinchers." They avoid debt. They reject the traditional corporate structure of overpaid fat-cat executives who ignore the concerns and opinions of labor. Workers are well paid and often own a piece of the business. They seek out markets that larger companies have overlooked. They tend to grow very quickly.
Sun TV, a small, discount retail television and electronics business...
In the early 1990s, Savings & Loans had a terrible reputation. After hundreds went bankrupt, the federal government was forced into a $500 billion bailout. In that environment, investors did not want to go near an S & L. Many S & Ls, however, were doing just fine and were excellent candidates for investment. Lynch provides a framework to analyze an S & L. He divides them into three categories: the "bad guys" that perpetuated fraud, the "greedy guys" that ruin a good thing, and the thrifty "Jimmy Stewart" types.
The "bad guys" tended to run them into the ground in the same ways. For example: several investors get together and collectively invest $1 million. This is their equity. They take in $19 million in deposits and then make $20 million in new loans. In order to raise the $19 million in deposits, they paid sky-high interest rates. Those deposits...
Chapter 13 Summary and Analysis
A casual stock picker could pick five conservative S & Ls, invest an equal amount in each, and wait for the profits to roll in. One would likely do better than expected. Three of them would make an average return. One would do worse than expected. The overall result should be better than a traditional investment in Coca-Cola or Merck.
Lynch would try to improve his odds through in-depth research. He spoke with the CEO of Glacier Bancorp. It was a 12-15% earner selling at 10 times earnings. Nonperforming loans were almost non-existent. The dividend rose for the 15th straight year. It had just acquired two other S & Ls. Strong S & Ls grow quickly by acquiring troubled and defunct S & Ls. Glacier held a relatively high percentage of commercial loans, but these loans for multifamily housing, not vacant office buildings or condos.
Lynch phoned the CEO of...
Another class of company ignored by Wall Street was the master limited partnership or "MLP." The term limited partnership, in 1991, brought back memories of terrible tax-shelter partnerships that went bust. Another reason they were ignored was that an MLP forced the shareholder to do extra tax paperwork. The biggest difference between an MLP and a normal corporation is that the MLP distributes all of its earnings to the shareholders in the form of a very high dividend. A substantial drawback was that most all MLPs were forced to close out in 1997-1998 because of tax laws.
EQK Green Acres owned a shopping mall on Long Island. Lynch recommended this company in 1991. Management owned many shares and the dividend rose every quarter since it went public. Future earnings would be good as well, because rent would increase substantially a year down the road. He was worried about heavy borrowing,...
In a poor economy, fund managers often turn to cyclicals. Cyclicals are companies which typically follow a pattern of boom to recession and then back again. Common cyclical industries are: aluminum, steel, paper, automobiles, chemicals and airlines. Wall Street seemed to be anticipating the return of cyclicals earlier and earlier, making it that much more difficult to successfully invest in them. While a low P/E ratio is regarded as good with most stocks, such is not the case with cyclicals. When they are very low, a cyclical is usually at the end of a favorable period. Inexperienced investors will stick with the company because business is good and earnings are high. This, however, will soon change. Smart investors will sell. The price of the stock falls quickly once the selling begins. Never buy a cyclical after several years of record earnings and when the P/E ratio is at a low...
Utility stocks have traditionally been consistent earners. They are often better than a CD because they pay a nice dividend and normally appreciate in value over the course of several years. Troubled utilities can be excellent investments. A troubled utility almost has to fix itself because they are regulated by the government and the population has to have electricity. A utility may declare bankruptcy or eliminate its dividend, but it is going to have to stay in operation.
With several distressed utilities to choose from at the end of 1991, Lynch looked to CMS Energy, the utility company of Michigan. The company had done very well until it built a nuclear plant that regulators would not allow them to operate. Its stock fell from $20 to $4.50 in 1984. The company was forced to take a $4 billion write off-the cost of building the plant. Despite the huge hit, CMS...
Privatization of government-run business can be very profitable, no matter which country is selling. Privatization takes something that is owned by the public, sells it to the public, and then it is private. In America and Britain, privatization is almost always a no-lose situation. Elected officials do not want to upset the voting public by losing their money in a privatization deal that goes wrong. Privatizations almost always favor the investor with very low prices.
Telephone companies around the world have privatized and done extremely well. Privatization of telephone companies in Mexico, Spain, and the Philippines all resulted in investors making a once-in-a-lifetime killing. The Mexican phone company, for example, went up almost 800% in only two years.
Privatization in the United States is somewhat rare since the types of companies that might be privatized in other countries likely started out private in the U.S.
During Lynch's last three years at Magellan, Fannie Mae was its biggest position in the fund. Fidelity's clients made over $1 billion in profits from Fannie Mae during the 1980s. Looking back, Lynch thinks Fannie Mae was a rather obvious pick. He realizes, however, that no one can make that much on a stock unless the stock is grossly underestimated by the market.
Fannie Mae created the concept of the "mortgage-backed security." They bought mortgages, bundled them together, and then sold the bundle to anyone, including the banks that originated the mortgages. Fannie Mae earned a fee for this package and passed the interest rate risk on to new buyers. This service became very popular among the banks. Before it was invented, banks and S & Ls were stuck administering thousands of little mortgages. They were hard to keep track of and hard to sell. Now the bank could sell...
Lynch bemoans the fact that he missed investing in the mutual fund industry. The Great Correction of 1987 allowed him to give them a try. There was a great fear at the time that the mutual fund industry would collapse. Lynch bought mutual funds at low prices. When mutual funds are popular, it is often better to invest in the companies that sell the funds than to invest in the funds themselves. When interest rates decline, bond and equity funds attract more cash and the companies that specialize in these funds do very well.
New restaurants and fast food establishments are created every year. Historically, restaurant stocks have been some of the biggest earners of all time. Shoney's rose 168 times. McDonald's price multiplied by 400. Kentucky Fried Chicken rose 27 ? times its initial offering price.
The investor who missed the restaurants of the 1960s didn't have to worry. In the 1970s he could have done very well investing in Dairy Queen, Wendy's, Luby's, Taco Bell, Pizza Hut, and Long John Silver. In the 1980s, Cracker Barrel, Chili's, Sbarro, and Chi-Chi's were excellent restaurant opportunities.
Restaurant chains, like retailers, typically have 15-20 years of fast growth as they expand. Restaurant companies take time to expand across the country. Slow and steady expansion is better than overexpansion. If a restaurant expands by more than 100 stores a year, it is asking for trouble. A pace of 30-35 new units per year is much more...
A prudent investor should review his portfolio every six months and ask the following questions: 1) is the stock price still a bargain compared to its earnings? And 2) is the company doing anything to increase earnings?
Asking these two questions can lead to one of three conclusions: 1) the company's financial situation has improved and I should buy more, 2) the company's situation has worsened and I should sell or 3) the company's situation is unchanged and I can either leave the money there or put it into another company with better prospects. With this strategy in mind, Lynch re-examined the 21 picks he made for Barron's at the six-month point.
As a group, the 21 stocks did very well in an average market. Lynch read the quarterlies of the 21 companies. Some of his research led him to companies he liked better than the original 21. He recommended...
This section is a summary of Lynch's most important lessons learned through two decades of investing.
Get the investor's edge to outperform the experts by investing in companies or industries you know and understand. An amateur can often outperform the professionals by ignoring them. In every industry, an amateur who does a little homework can find great growth companies long before a professional. Never invest in a company without understanding its finances. Never own more stocks than you can handle. An amateur can do quite well owning only five companies.
The key to making money is being patient. Sometimes even a successful company may not see an increased value in its stock for many years. Eventually, though, a successful company will show a long-term gain in value. Long shot stocks, on the other hand, almost always fail. "Hot" stocks in "hot" industries are usually risky. Established companies in non-growth industries...
Beating the Street Important People
Investors are the target audience of this stock-picking advice book. In recent decades, investors have shied away from buying stocks and have preferred investing in bonds or mutual funds. Lynch wrote this book to convince investors to head back to the stock market. He urges the cautious investor to give stocks a try by demonstrating that a long-term investment in the stock market will almost certainly pay off. He shows how investing in an established, solid company can result in long-term gains that could double or even triple the returns of a bond. The ups and downs of the stock market are largely made irrelevant by long term investment.
Peter Lynch managed the Magellan Fund. A mutual fund is basically a pool in which many investors have deposited their money. The fund managers then invest the money in various stocks and other investments depending on the type of fund. An...
Beating the Street Objects/Places
This is the school the amateur 7th grade investors attend. Lynch uses them to make a point that even a novice investor can be successful if they make wise investment choices and sticks to areas in which they are knowledgeable.
The Magellan Fund is a fund created by Fidelity Investments in the 1960s. Peter Lynch managed Magellan from 1977 to 1990. By managing Magellan, Lynch became the premier fund manager in the U.S. Magellan outperformed the S & P index each year.
This was an annual meeting in which the top fund managers and investment analysts met to make investment recommendations for an annual issue of Barron's Magazine. Lynch's 1991 and 1992 recommendations form the basis of this book. The book highlights how he made his selections and how he reviewed and tracked them to make further recommendations.
The P/E ratio provides a way to measure a stock's value. P...
Beating the Street Themes
Lynch's overriding theme throughout the book is investing in what one knows. He demonstrates this first in the 7th grader exercise. The 7th graders did very well in their mock investments by choosing companies they were familiar with, from fast food restaurants to Nike to Disney to the Gap. Lynch suggests that an amateur investor can be just as knowledgeable about a particular field as a Wall Street analyst and perhaps even more so. For example, those who visit malls frequently often have insight into new retail stores and trends of which a Wall Street analyst may not be aware. The shopping mall regular may be able to pick out a new, popular chain with great potential like the Body Shop. Likewise, regional fast food chains on the move might be spotted early, as they are on their way to national expansion and great success. Taco Bell, Sbarro, and Chili's...
Beating the Street Style
Peter Lynch is perhaps the most successful mutual fund manager of all time. Lynch managed the Magellan Fund from 1977 through 1990. During that time, Magellan was the top-ranked general equity mutual fund. TimeMagazine called Lynch the "#1 money manager." Lynch's first book, One Up on Wall Street, instructed potential investors to invest in subjects and areas in which they are knowledgeable. After retiring from Magellan, Lynch devoted his time to assisting nonprofit corporations with their investments. He wrote Beating the Street to help the average investor make better investment choices.
Lynch's intended audience could be any investor, from a seasoned pro to an absolute beginner. The beginner will appreciate the step-by-step method Lynch takes in explaining the basics of investing and then explaining his own methodology for researching a company for potential investment. The seasoned investor will likely appreciate learning Lynch's methodology and exactly what goes through his...
Beating the Street Quotes
"Never invest in any idea you can't illustrate with a crayon." Chapter 1, p. 27.
"You can't see the future through a rearview mirror." Chapter 2, p. 41.
"The extravagance of any corporate office is directly proportional to management's reluctance to reward the shareholders." Chapter 4, p. 86.
"The best stock to buy may be the one you already own." Chapter 6, p. 129.
"A sure cure for taking a stock for granted is a big drop in the price." Chapter 6, p. 131.
"Never bet on a comeback while they're playing 'Taps.'" Chapter 6, p. 138.
"If you like the store, chances are you will love the stock." Chapter 8, p. 152.
"All else being equal, invest in the company with the fewest color photographs in the annual report." Chapter 11, p. 190.
"...try to find a reason that the next year will be better than the last. If...
Beating the Street Topics for Discussion
Why are stocks a better investment than bonds or certificates of deposit?
Discuss three specific ways that research helps an investor make better decision.
Discuss how an average consumer has an advantage over a Wall Street analyst in choosing a retail stock.
What is the pattern of a cyclical stock and when should an investor consider buying one?
Name the five basic types of funds and describe each one.
What are the effects when a company buys back its own stock?
Describe how a recession can be good for an investor.
Explain how to find a good company in a lousy industry.
What is the "January Effect" and how can a good investor take advantage of it?
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