Lesson #1 of Take Stock In This Strategy: Buy Companies So Good That No One Else Can Compete Against
Most people think that blue-chip companies are safe investments. But the truth is quite the opposite. Most blue-chip companies are prone to die over time. Just to name a few: Toys R Us, JCPenney, Blockbuster, Borders. That's why Warren Buffett (Trades, Portfolio) doesn't invest in any company. He invests in companies that are so good that no one else can really compete against. The reason he bought Apple was because the company is so good that no one else can really displace it.
The reason he invested in Mars was because no one can displace any of its iconic brands, such as Snickers. The reason he bought Larson-Jhul in the early 2000's was because no one else could compete with its market-leading distribution capabilities.
Lesson #2 of Take Stock In This Strategy: Don't Be Afraid To Pay A Premium
Everyone is taught to “buy cheap stocks.” We're told that the way you make money in the markets is by waiting for opportunities to buy stocks at a bargain. But if you take a look at Buffett's greatest mistakes, you'll notice that they were caused by overestimating the importance of buying cheap companies. He he almost didn't buy Sees Candies 1972 because the company was trading at a slightly expensive price of $30 million. The lesson? Be willing to pay a premium.
If you come across a wonderful business that trades at a slightly higher price, be willing to pull the trigger on the investment. When buying a new home, you would obviously look for a good deal. But you wouldn't be too cheapskate either. The same is true with companies. You have to be willing to look for the right deals in the market. But you can't be a cheapskate either.
This is a lesson that Danial Jiwani, author of Take Stock in This, learned the hard way. In 2020, Jiwani invested in Foot Locker, a retailer of athletic shoes. “The reason I bought the company was because it was extremely cheap,” Jiwani said. “You never find a company trading at double digit free cash flow yield.” But he was being a cheapskate. Rather than being a premium for a quality company, he was paying an extraordinarily cheap price for a mediocre business. The result wasn't good. Today, his shares trade nearly 50% below his original purchase price.
Jiwani had the opposite result when he paid a premium for quality companies. During the Covid crash, he also invested in Meta. “The company was a little expensive,” he said. “It wasn't particularly cheap.” At the time, it traded at a 6% free cash flow yield. But he decided to buy the stock anyways. It turned out much better than his Foot Locker investment. Today, his shares are up over 350% from his $138 purchase price. “Meta has been one of the best investments within my portfolio to date,” Jiwani said.
All that success came from paying a premium for quality companies. The lesson? Don't be a cheapskate when investing in the markets. Don't pay a low price for mediocre businesses. Be willing to pay a premium for quality companies.
Lesson #3 of Take Stock In This Strategy: Learn to Spot 10-Baggers
Everyone dreams of picking "10-baggers," stocks that return over 10-times their initial investment. But it sounds risky. People assume that picking 10-baggers requires somehow predicting which penny stock will become the next Amazon or Google. But the reality couldn't be farther from the truth. If you take a look at the investment of the most successful investors –including Warren Buffett (Trades, Portfolio)– you'll notice that they also made their money by investing in 10-baggers.
For example, Buffett earned more than 10 times his money in American Express. Similarly, Peter Lynch earned over 10 times his money in Dunkin Donuts. What's important to note that none of these were risky companies when they invested in them. Rather, they were some of the safest investments in the stock market. When Buffett invested in American Express, it was one of the leading credit card companies in America. When Peter Lynch invested in Dunkin Donuts, it was also one of the leading fast food chains in America. There are two lessons. First, the best investors get rich by learning to pick 10-baggers. Second, picking 10-baggers doesn't require you to invest in speculative companies. Rather, you can pick 10-baggers by investing in some of the safest companies within the stock market.
