Hello, welcome to Investor’s Bookshelf. In this session, I will be introducing you to a classic investment masterpiece, One Up on Wall Street. I’ll take about 30 minutes to walk you through the investment secrets of the famous American investor, Peter Lynch.
Peter Lynch is a renowned Wall Street investor in the United States. He began trading stocks at the age of 15 to earn his tuition fees. From 1977 to 1990, during 13 years as manager of Fidelity’s Magellan Fund, he invested in more than 15,000 stocks. The fund grew from $18 million at the beginning to $14 billion in the end, creating a miracle on Wall Street. In those 13 years, he made profits every single year, and his annual performance consistently beat the market. With such outstanding results, Peter Lynch was honored by Time magazine as the “World’s Best Fund Manager” and by Morningstar as the “Most Legendary Fund Manager in History,” making him a superstar in the American securities industry.
Like Warren Buffett, the “Oracle of Omaha,” Peter Lynch is also a value investor. Value investing means that stock investing is essentially investing in a company. Buying a stock is in fact buying partial ownership of a company. What truly matters is not the short-term fluctuation of stock prices, but the company’s operating performance and future development. Therefore, the key is to find good companies with growth potential and hold them for the long term. In his books, Lynch often mentions Buffett, and Buffett, in turn, highly appreciates Lynch, having publicly recommended Lynch’s works.
Drawing on his investment experience, Peter Lynch published a series of bestsellers, including Beating the Street and Learn to Earn. The book we are discussing today, One Up on Wall Street, was first published in 1993. It became the No. 1 bestseller in the United States that year and has since been reprinted many times. When Lynch wrote this book, he was no longer the manager of the Magellan Fund but had become an individual investor. In this book, he documented his investment experiences and achievements, and summarized 25 golden rules of stock investing.
It is worth noting that many of the examples in the book come from the United States in the 1980s and 1990s, with a smaller number from Europe, the Americas, and Asia during the same period. Compared to today, many trading rules no longer apply, and some industries and companies have changed significantly. However, Lynch’s stock-picking methods and investment strategies remain highly valuable references for us today.
In the book, Lynch distills 25 golden rules of stock investing, which I have synthesized into three main themes:
- To earn more, it is best to invest in stocks, and to insist on making your own independent stock selections.
- Stock-picking is an organic combination of art, science, and research—you cannot neglect any of them.
- For different industries and types of stocks, in addition to the general methods, you must also adopt strategies tailored to their specific characteristics.
Part One:
Let’s first look at the first point: if you want to make more money, it is best to invest in stocks, and you must stick to picking stocks independently. In Lynch’s view, the returns from putting money into the stock market are far higher than the returns from investing in bonds or other securities. Even in the United States during the 20th century—most of the time in a bear market and often accompanied by economic crises—stocks were still the ultimate winner.
For example, between 1926 and 1989, in more than 60 years, only in the 1930s were stock returns lower than those of bonds; in all other periods, stocks outperformed bonds. If you had $1,000 to invest in 1926, then after 43 years, that money invested in long-term government bonds would have grown to $1.6 million, while the same investment in stocks—even if only at the baseline return represented by the S&P 500 Index—would have grown to $25.5 million.
Therefore, Lynch advises: if you truly want to earn more, invest in stocks, and put most of your assets into them. Even if a bear market might appear in the coming years, you should still do so.
In addition, as an amateur investor, you must insist on picking your own stocks. All you need to do is spend a small amount of time researching a few listed companies in industries you are familiar with. In Lynch’s opinion, professional investors—such as fund managers—are mostly formally trained. They know the market well and understand the various metrics and techniques in the field of financial investment. In this regard, amateur investors cannot compare with them. However, professionals also have their shortcomings: their familiarity with a specific industry or company may not match that of employees within those companies or of regular users of their products. Therefore, these employees or users actually have a unique advantage. Since they are deeply familiar with their industries or the products they use regularly, all they need to do is invest in stocks in those areas.
This is easy to understand: if you are an employee of Google, you certainly know more about Google’s development and operations than a professional fund manager does. Or, if you are a loyal user of Apple, you will have unique experiences and insights into Apple’s products.
To illustrate this point, Lynch provided two specific examples in his book.
One example is a group of seventh graders in Massachusetts who simulated stock trading and created an investment portfolio of 14 stocks, including Walmart, Nike, Disney, Topps (the baseball card company), and Pentax (the manufacturer of colored pens). The children had various reasons for choosing these stocks, but all decisions were made after group discussions and research. For example, they chose Walmart because of its rapid growth; Disney because almost every child had watched Disney animations; Nike because they found its shoes comfortable to wear; Topps because nearly every child had traded its baseball cards; and Pentax because one of its dual-use pens was very popular among students, and so on.
As it turned out, this portfolio achieved a 70% return in two years, while the S&P 500 Index—the benchmark return—was only 26% over the same period. Clearly, the children’s portfolio far outperformed. Although this was a simulation, it used real companies and stock data, so if the children had actually followed this portfolio in the real market, their performance would still have been impressive.
Another example comes from the National Association of Investors Corporation (NAIC) in the United States. In the 1980s, most of the clubs in this association outperformed the market, while at the same time, three-quarters of mutual funds failed to do so. One of the key factors in the clubs’ success was their commitment to dollar-cost averaging: investing a fixed amount of money at regular intervals, such as $10,000 on the first of every month. They stuck to this investment strategy regardless of market rumors, even during times when people were saying the stock market would crash or the world was ending. They kept buying stocks regularly and consistently.
So how did they pick stocks? Specifically, each investment club met once a month. Every member was responsible for researching one or two companies, then sharing their findings at the meeting. The group would then decide together which stock to buy next, and the decision had to be approved by the majority before being acted upon.
Although collective decision-making has its downsides, it helps avoid individuals making blind guesses about the stock market and reduces foolish, impulsive buying and selling. As a result, most of the stocks they bought were high-performing growth stocks—companies with good operations and steadily increasing profits—that easily became “big winners,” stocks with massive price gains. If held for more than 10 years, such stocks could produce returns of 10 times, 20 times, or even more.
Lynch repeatedly reminds amateur investors: never buy stocks you don’t understand. Focus only on a few companies you know well, and keep your investments limited to those. He has a principle called the “Five-Stock Rule,” which means you should limit your portfolio to about five stocks. Don’t hold too many, otherwise your attention and energy will be spread too thin; but don’t hold too few either, because you can’t expect every stock to be a big winner. As long as one stock in your portfolio becomes a 10-bagger (increasing tenfold), even if the other four stocks don’t grow, your overall portfolio still triples. Therefore, do your best to discover a few big winners in areas you’re familiar with. Even if you only find two or three such stocks over 10 years, it is well worth it.
This is the first key point we want to share: if you want to make more money, invest in stocks, and insist on picking them independently. Putting most of your assets into stocks will yield much higher returns than investing in other securities. Amateur investors have their own unique advantages—by spending just a small amount of time studying a few listed companies in industries you know well, you may very well outperform Wall Street’s professional investors.
Part Two:
Now, let’s look at the second point: stock selection is an organic combination of science, art, and research, and none of the three should be neglected. Let me explain them one by one.
The “science” here mainly refers to data analysis, including reviewing the financial statements of listed companies and calculating and comparing various indicators and ratios. This is an essential part of fundamental analysis, since buying stocks is about paying attention to a company’s performance. But one must also remember not to get stuck in piles of data without stepping back. Fundamental research means analyzing the macroeconomic situation at home and abroad, the overall industry environment, and the specific circumstances of a company. Even retail investors should not speculate blindly—they should insist on studying a company’s fundamentals before investing. This allows them to gain a deeper understanding of the industry and the company’s position within it, helping them grasp the right timing. Scientific stock selection emphasizes making judgments based on data.
So, how can one practice scientific stock selection? The most basic method is to follow the news to understand the macroeconomic situation, and to study company financial reports—examining net profit, debt levels, and the price-to-earnings (P/E) ratio during a given period. The P/E ratio is a key indicator to assess whether a stock’s price level is reasonable. A high P/E ratio implies that the stock is overvalued and expensive; a low P/E ratio suggests undervaluation. Lynch believes that, in general, the lower the P/E ratio, the better. Financial data used in scientific stock selection can usually be found at securities companies or online. Lynch also offered some investment techniques in his book.
For example, one simple method to judge whether a stock’s price is high or low is to compare the company’s stock price trend with its earnings. If the price is equal to or lower than earnings, then it is a good time to buy; if the price is higher than earnings, it means there is risk, and it is better not to buy.
Another tip is to view the development of a company as a continuous process, not a series of broken stages. In real life, if you initially judged a company to have investment value but ended up losing money because you sold too early or too late, you should not become disheartened or avoid that stock forever. After all, value investing is about focusing on a company’s long-term development.
Lynch suggests that if you truly believe in a company, you should continuously follow it and reassess its progress, never missing any new changes or turning points. Ideally, you should re-examine your chosen stocks every six months and every two years. After all, Lynch advocated value investing, not short-term speculation. If you have chosen a stock in a good company, the best strategy is to hold it long-term—for several months, several years, or even decades. Since the market is always changing, you need to watch closely and adjust in time. Regular reviews of your portfolio are therefore necessary. Such reviews are not just about checking price movements but about re-evaluating whether the stock’s current price is justified by earnings; whether the company’s earnings can continue to grow, and why; and so forth. In essence, it is like conducting a fresh round of stock selection. What matters is the company’s development, so you must analyze the fundamentals of each stock in your portfolio. If nothing major has changed, do not adjust rashly; but if there are changes, you need to respond accordingly.
That covers scientific stock selection. Next, let’s consider the “art” of stock picking. By art, Lynch refers more to intuition and inspiration, which come from each investor’s experience and life background.
For instance, people often yearn for bull markets, but Lynch believes that bear markets are actually the best time to enter. In his view, when prices fall, that does not necessarily mean you should buy; and when prices rise, it does not necessarily mean you should sell. But during economic recessions, when the market has dropped to the bottom, there are many undervalued bargain stocks worth investing in. Once the economy recovers, these undervalued stocks usually rebound strongly. By contrast, in a bull market, prices are often too high, making it hard to find cheap, worthwhile stocks. That is why, for seasoned investors, bear markets are the real opportunities.
In addition, Lynch also provided a simple short-term trading strategy known as the “January effect.” In the U.S., there is a tax policy that allows investors to offset losses against taxable income in the same year. As a result, in November and December, many investors sell stocks cheaply to take advantage of this policy, causing certain stock prices to drop sharply. If you buy during this dip, by January those prices usually rebound, allowing you to make a profit. This year-end slump followed by a rebound at the start of the new year is known as the January effect, and it is usually more noticeable in small-cap stocks.
After discussing science and art, we now turn to research. Research emphasizes fieldwork and understanding the actual operations of companies. On this point, Lynch had the most authority, earning the nickname “the diligent rabbit.”
In his book, Lynch described how, during his time managing the Magellan Fund, he seized every opportunity to conduct research: calling company management, visiting listed companies directly, experiencing their retail stores, and buying products to test them personally. Typically, he read 700 annual reports per year, had lunch meetings with company representatives daily, spoke with dozens of brokers every day, and visited over 200 companies annually—traveling more than 160,000 kilometers a year, which averages to about 400 miles (600+ kilometers) per workday. Even when vacationing with his wife, his choice of destination was based on whether there were listed companies worth visiting. Once, while traveling in Europe, he skipped Venice altogether because, although the scenery was beautiful, he could not find a single company worth visiting there. Such diligence and obsession speaks for itself.
It is clear that there are no shortcuts or magic formulas in stock selection. Only by combining science and art with thorough research can one hope to profit from investing.
This is the second point we want to share: stock selection is an organic combination of science, art, and research, and none of them should be neglected. Individual investors must carry out research, study company fundamentals through data, and then combine that with their own experience and judgment when investing. Only by integrating these three aspects can one hope to achieve the greatest returns in stock investing.
Part Three:
Now, let’s move on to the third point: for different industries and different types of stocks, in addition to the general methods, one also needs to adopt stock-picking strategies tailored to their particular characteristics.
After Peter Lynch retired in 1990, the number of stocks he followed and recommended declined significantly. Previously, he would recommend hundreds of stocks each year, but in 1992, for the well-known financial magazine Barron’s, he only recommended 21 stocks. These 21 stocks covered a variety of industries including retail, real estate, finance, cyclical industries, utilities, and restaurants, and he proposed corresponding stock-picking methods based on the features of each industry. Here, we will focus on Lynch’s strategies for selecting stocks in three areas: retail, depressed industries, and cyclical companies. The reason for choosing these three is that their conditions and characteristics are also common in China, and therefore the stock-picking strategies in these areas are highly relevant to Chinese investors. Let’s take a closer look at each.
Retail Industry – Research While Shopping
Lynch believed that large shopping malls serve as a stage where listed companies fully showcase themselves, and they are also one of the best places to study company fundamentals. While shopping, you can observe which companies’ products are popular, which stores are crowded with customers, which businesses are declining, and which companies are undergoing transformation. Mall employees have even greater insider advantages—they see every day which stores are doing well and which are not, and they can also gather more insights from peers. Mall managers, too, can see the monthly sales of each store, which provides a valuable source of information. According to Lynch, many big winners often come from these shopping centers.
Of course, observation alone is not enough; one also needs to combine it with other indicators. For chain retailers or restaurant businesses, the main drivers of revenue and stock price growth are rapid expansion and same-store sales growth. If the average revenue per store continues to rise, the company has low debt, and its expansion matches the development plans described in its annual report, then holding the stock long-term is highly likely to yield substantial gains.
For example, The Body Shop was one such big winner Lynch discovered in a shopping mall.
The Body Shop is a British company specializing in cosmetics and skincare products. Once, when Lynch went shopping with his three daughters, the first store they rushed into was The Body Shop. He observed that it was one of the three busiest stores in the mall, packed with customers, and his daughters bought several bottles of banana shower gel at once. Lynch also recalled that an analyst at the Magellan Fund had once recommended the stock, and that a former colleague had even left a high-paying, high-ranking job to open a franchise store. Upon further research, he found that when The Body Shop first went public, its share price was 5 pence, and eight years later, it had risen to 325 pence—a more than 60-fold increase. The Body Shop emphasized health and environmental consciousness, producing all its products from natural ingredients, which also reflected its commitment to social responsibility. Even when the U.S. economy was struggling, The Body Shop’s stores worldwide continued to report rising average sales per store. Lynch also noted the company’s cautious and prudent approach to expansion. For instance, when his former colleague wanted to open another franchise, the chairman personally flew from the U.K. to the U.S. to evaluate her management ability.
In summary, Lynch concluded that The Body Shop showed consistent same-store sales growth, careful expansion, a healthy balance sheet, little debt, and annual earnings growth of 20–30%. These strong indicators made it an attractive investment, so he recommended the stock.
Depressed Industries – Finding Excellent Companies
Next, let’s look at depressed industries. According to Lynch, excellent companies are often found in these sectors. Many people assume excellent companies are the famous names in hot industries, but Lynch argued the opposite: the best place to find excellent companies is in depressed industries.
Like Warren Buffett, Lynch rarely touched stocks in hot areas such as the internet or biotechnology. He believed these industries attracted too much attention, creating fierce competition, which in turn made it hard for the entire sector to earn money. By contrast, depressed industries grow more slowly, and poorly managed companies tend to be eliminated. The survivors gradually expand their market share and eventually become excellent companies in their fields.
Lynch observed that excellent companies in depressed industries often share common traits: low operating costs; frugal management; minimal debt; little internal hierarchy; good employee compensation and equity incentives that allow employees to share in the company’s growth; the ability to find niches ignored by large corporations and build monopoly advantages; and rapid growth despite being in a depressed sector.
For example, Sun Television and Appliances was one such company Lynch identified.
Between 1990 and 1991, the U.S. economy was weak, the housing market was sluggish, and few people were buying new appliances, so the home appliance industry was depressed. But Lynch discovered Sun Television and Appliances, a large discount retailer of household appliances in central Ohio, with seven stores in Columbus and plans to expand to 22 stores. Within a 500-mile radius of Columbus lived nearly half the U.S. population, and the number was growing, which meant great market potential. Further research showed the company had less than $10 million in debt, annual earnings growth of 25–30%, a stock price of $18, and a P/E ratio of only 15—indicating it was undervalued. When Lynch called headquarters for more information, the president himself quickly took the call, showing that the company had little internal hierarchy. Lynch recommended the stock in Barron’s, predicting it would grow further in 1992—and indeed, his judgment proved correct.
Cyclical Companies – Timing Is Everything
Finally, let’s talk about cyclical companies, which require careful timing—ideally entering when the economy is starting to decline.
Cyclical companies are in industries such as aluminum, steel, automobiles, chemicals, and airlines, which rise and fall in cycles with economic booms and recessions. Savvy investors act just before these companies recover, so investing in cyclicals requires greater skill and judgment.
Unlike most stocks, where a low P/E ratio is usually good, with cyclical stocks it is the opposite. A very low P/E ratio may signal that the cycle is nearing its end and that smart investors have started selling. When many people sell, prices drop further, and P/E ratios fall, which can mislead ordinary investors into thinking a low P/E means safety, causing them to buy too soon and suffer losses. By contrast, a high P/E ratio for a cyclical stock is actually a positive sign, indicating the company is emerging from a downturn and its business is improving, making it a good time to buy.
Investing in cyclical companies requires intuition—“the art”—plus twice the skill and sufficient expertise. Buying or selling too early carries huge risks. Another critical concern with cyclicals is whether their balance sheets are strong enough to withstand downturns. Lynch warned that without industry knowledge, one should be cautious about entering.
One example was Lynch’s investment in General Motors.
Lynch reasoned that as long as no better transportation alternative existed, Americans would continue buying cars. Cars wear out and need replacing, so new demand arises every year. He studied the relationship between actual annual sales and potential demand (calculated from population, the prior year’s sales, and other factors). When actual sales lagged behind potential demand, the difference represented “pent-up demand.” If actual sales trailed for four to five years, a reversal usually occurred, with sales catching up or even surpassing potential demand.
Take the 1983–1988 cycle as an example. In 1983, sales boomed at 12.3 million vehicles, while potential demand was estimated at 13.4 million—leaving a pent-up demand of 1.1 million. Adding accumulated unmet demand from previous years, the market had about 7 million vehicles of pent-up demand. In 1984, actual sales rose by over 2 million, consuming part of this backlog. Over the following years, sales continued climbing while potential demand grew slowly, steadily reducing the pent-up demand. By 1988, the 7 million backlog was largely exhausted. This 5-year cycle suggested that the best time to sell auto stocks was 1988, not earlier. Afterward, the cycle turned downward, and pent-up demand began building again. Lynch calculated that by 1993, there would be about 5.6 million vehicles in pent-up demand, meaning a new boom could arrive between 1994 and 1996—so 1992 was the right time to enter.
Lynch also emphasized that even within the right industry, one must still choose the right company. Otherwise, losses are still possible. In 1991, while analyzing GM’s third-quarter report, he noticed that although U.S. auto sales were weak, GM’s overall revenue was unaffected, thanks to strong performance in subsidiaries such as its finance and electronic data systems divisions. These businesses generated significant profits, offsetting domestic sales declines. Lynch concluded that once GM’s performance recovered, earnings per share could reach $10. Ultimately, his assessment proved correct.
This, then, is the third point: for different industries and types of stocks, one must apply specific strategies in addition to general methods. For retail, you can research while shopping, discovering investment opportunities in everyday life. In depressed industries, you can uncover excellent companies. For cyclical companies, the best entry point is when the economy begins to decline, though success requires greater skill and judgment.
Summary
Let’s briefly review the key points of this session. Peter Lynch, honored as the “World’s Best Fund Manager,” distilled his practical experience in stock-picking into fundamental investment principles for amateur investors. We can summarize them into three main takeaways:
First, if you want to make money through investing, allocate more of your assets to stocks or stock funds, and insist on picking stocks independently. By spending just a small amount of time researching a few listed companies in industries you are familiar with, amateur investors may outperform even professional Wall Street investors.
Second, stock selection is a blend of art, science, and research. You must value quantitative analysis, combine it with personal experience and intuition, and also conduct thorough field research. Only by integrating these three aspects can you truly hope to profit in the stock market.
Third, beyond the general methods, you must adopt strategies tailored to different industries and types of stocks. For retail stocks, shopping is the best form of market research; avoid blindly chasing hot stocks, as excellent companies are often found in depressed industries; and with cyclical companies, timing and expertise are critical—if you don’t understand the field, it’s better not to enter lightly.
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