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Three Golden Rules In Investing

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Peter Lynch is one of my favourite investors. He was the brains of Fidelity’s Magellan mutual fund (the equivalent of unit trusts here) and the architect behind its 29% annual returns for 13 years from 1977 to 1990.

To give you some perspective on the math behind such returns, every $1,000 entrusted to Lynch when he started his career as a fund manager with Magellan in 1977 would have become more than $27,000 by 1990.

Those are truly astounding numbers. And fortunately for other investors, Lynch had laid down his principles and insights on investing in two best-selling books, One Up on Wall Street and Beating the Street.

In particular, the latter contains a list of Lynch’s “25 Golden Rules for Investing.” My American colleague Brendan Matthews recently picked out four of his favourites, of which three happened to be personal favourites of mine as well.

Here they are.

Golden Rule No. 5: Often, there is no correlation between the success of a company’s operations and the success of its stock over a few months or even a few years. In the long term, there is a 100 percent correlation between the success of the company and the success of its stock. This disparity is key to making money; it pays to be patient, and to own successful companies.

Here’s an example of what Lynch is talking about. Retailer Dairy Farm Holdings (SGX: D01) profits grew 29% in 2008, but its share price dipped by 3%; the following year in 2009, its profits increased by 9% but its share price decided to jump by 38%.

Over the longer term, however, Dairy Farm’s corporate performance and share price performance tend to track a lot more closely. For instance, from 2006 to the last 12 months, profits have more than doubled from US$211m to US$436m while its shares have gone on to gain 205% since the start of 2007.

Golden Rule No. 18: Nobody can predict interest rates, the future direction of the economy, or the stock market. Dismiss all such forecasts and concentrate on what’s actually happening to the companies in which you’ve invested.

Where the market moves in terms of stock prices can actually be a whole different matter from the actual corporate performance of companies.

The Great Financial Crisis of 2007-2009 hit Singapore’s stock market particularly hard. At its lowest point during the crisis (10 March 2009), our market barometer, the Straits Times Index (SGX: ^STI), fell by more than 60% from its pre-crisis peak (11 Oct 2007) of 3,876 points. Till date, the index is still almost 18% lower from that peak at its current level of 3,195 points.

Meanwhile, we have companies with corporate results shown below:

Company Net Income in 2007 Net Income in Last 12 Months % Change
Super Group (SGX: S10) S$29.3m S$98.6m 236%
Vicom (SGX: V01) S$13.5m S$27.8m 106%
Raffles Medical Group (SGX: R01) S$35.9m S$62.0m 73%

Source: S&P Capital IQ

How have their shares done so far since the STI’s peak on 11 Oct 2007? Super Group leads the trio with a 276% gain; Vicom’s next in line with a 178% return; and finally, Raffles Medical Group comes in with “disappointing” 107% return.

Those are fantastic returns, even more so when keeping in mind how the STI’s still someway off its Oct 2007 peak.

I’ve said it before, and I’ll say it again. The long-term link between corporate results and share price returns never gets tenuous.

Golden Rule No. 22: Time is on your side when you own shares of superior companies. You can afford to be patient-even if you missed Wal-Mart [an American hyper-mart retailer] in the first five years, it was a great stock to own in the next five years. Time is against you when you own options.

We have great examples here in Singapore of how time is on our side with companies that prove to be long-term winners. The conglomerate Jardine Strategic Holdings (SGX: J37) is one such example. Here’s what I had written previously:

[JSH] was worth US$2.60 a share at the start of 2003. After five years, on 2 Jan 2008, it’s selling at US$15.90. That’s a 512% gain! Surely, investors looking at the share on Jan 2008 have missed the boat, right?

Well, not quite. As of 15 July 2013’s close, JSH’s shares are worth US$36.55 apiece, representing a 130% increase from Jan 2008.”

Just like Wal-Mart, JSH was a great to stock in the ‘next five years’ (from 2008 to 2013) even if investors had missed the ‘first five years’ (from 2003 to 2008).

Foolish Bottom Line

Lynch’s focus on business fundamentals and investing for the long-term is really nothing new. But it is basic lessons like these that are worth repeating time and again.

Let’s focus on what’s really important in investing – the fundamentals of a business.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chong Ser Jing owns shares in Super Group and Raffles Medical Group.