By Teeka Tiwari, editor, The Palm Beach Letter
My second mistake cost me $130,000…
It was 1992. I owned Oracle and Microsoft in my individual retirement account (IRA).
Due to a back-office snafu, both were sold out of my account. By the time I realized they were gone, the stocks had tripled.
The $6,000 in lost profits upset me… But I didn’t want to kick up a fuss.
I was 21 at the time and I was insecure about coming off as a “baby.” You see, I worked at the office where the mistake happened. And I didn’t want to damage my relationship with management.
Still, I kicked myself for not catching the error earlier. That was mistake No. 1.
My second mistake was even costlier…
I consoled myself with the thought that the stocks had risen so much, they couldn’t possibly go any higher.
That mistake cost me $130,000.
Let me explain…
Microsoft went on to rise 3,000%… and Oracle grew by 9,900%.
Over the early years, I’ve missed out on profits in similar ways.
In 2006, I owned Chinese search engine Baidu shortly after it went public… I got out later that year with a 30% profit…
In hindsight, I sold that far too early. On a split-adjusted basis, the shares rose from about $9 in 2006 to as high as $250 in 2014. Today, they trade at $176.
In early 2005, I had Netflix at $30 and sold it for a quick 20% profit… only to see it rise tenfold six years later. Five years after that, the stock quadrupled.
For me, missed winners have always “hurt” more than losers.
After missing out on so many long-term winners, I became determined to learn a method that would help me hold on to them longer.
The key question I asked myself was this: How do you know which winners you should hold for the long haul and which winners you should sell quickly?
This question drove me to study the common traits of superstar stocks.
I examined hundreds of stock charts. But I couldn’t find a common denominator on the technical side.
That meant there had to be a fundamental reason why these stocks would go up thousands of percent.
I had to find it…
Two Simple Rules for Holding Long-Term Winners
Along my journey, I stumbled upon an investment book from the 1950s. Warren Buffett credited it with making him a better investor.
When Buffett was in his 20s and 30s, he had a habit of selling too early.
Reading this book changed Buffett from a short-term trader to an investor in long-term, huge winners.
The book is called Common Stocks and Uncommon Profits. Phil Fisher wrote it in 1958.
Fisher was a West Coast money manager with a fabulous track record. (His son, Ken Fisher, went on to become a billionaire money manager.)
Phil Fisher had an uncanny knack for both buying and holding stocks that would turn into massive winners.
The most important thing I learned from Fisher came from a one-sentence passage in his book:
If the company is deliberately and consistently developing new sources of earning power, and if the industry is one promising to afford equal growth spurts in the future, the price-earnings ratio five or ten years in the future is rather sure to be as much above that of the average stock as it is today.
There are two key takeaways from this one passage:
- Is the company developing new sources of earnings power?
- Is the industry promising to afford equal growth spurts in the future?
If the answer to both questions is yes, then you’ve found yourself a potential long-term winner…
Why I’m Riding This Chipmaker for the Long Haul
Let me give you an example of how these two rules work using a stock we own in the Palm Beach Letter portfolio.
We bought Nvidia Corp. (NVDA) back in December 2015. PBL subscribers who got in when we recommended the stock are now up nearly 218%.
(Note: NVDA is way past our buy-up-to price, and we don’t recommending buying into the company now.)
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As a younger hedge fund manager, I might have sold out of NVDA by now to lock up some quick profits. But I’m in no hurry to sell it because it fits Phil Fisher’s two rules.
Let me show you…
Remember Fisher’s first rule for holding on to long-term winners: The company must be developing new streams of income.
Nvidia passes that first test.
The company started off making graphics chips for computer games.
But over the years, Nvidia has expanded its revenue streams by making chips that enable artificial intelligence (AI), autonomous driving, and cloud computing.
Not only that… but Nvidia is making a push into the content streaming space. It’s about to launch a service that will let you play high-end PC games on a regular computer.
This one new business could be even more lucrative for stockholders than when Netflix started streaming movies.
That’s because the global PC gaming industry is twice the size of the movie industry. That’s not a typo. The global PC gaming industry is bigger than the movie-streaming and traditional Hollywood box office industries.
Nvidia estimates there are potentially 1 billion PC users who would love to play computer games but can’t because of cost. High-end gaming rigs cost more than $2,000.
But streaming games brings the costs way down.
Nvidia’s new GeForce Now streaming service is like having access to a supercomputer in the sky.
You can play any game you want on Nvidia’s state-of-the-art machines. The whole package is streamed right to your existing PC or Mac.
It’s like borrowing your friend’s tricked-out gaming machine… only this machine lives in the “cloud.” It’s just like streaming a movie on Netflix and its starting price is the same… $7.99 per month.
This one business alone could be worth billions.
So, it’s clear that Nvidia meets Fisher’s first rule of creating new streams of future revenue.
Now, let’s move on to his second rule…
Cloud Gaming Is Just in Its Infancy
The second part of Fisher’s rule is equally important: “[T]he industry is one promising to afford equal growth spurts in the future…”
So, not only must the company show good long-term prospects… the industry it belongs to needs to show long-term growth prospects, too.
Remember, Nvidia has grown from selling just graphics chips to now providing artificial intelligence, autonomous driving, cloud computing, and PC game streaming.
As you look at each one of these industries, I don’t think you need to be a rocket scientist to know that the demand for them is just getting started.
Based on Fisher’s two criteria, NVDA could double in price again. All in, that will be a sevenfold increase from our original entry price. And that’s why I won’t sell it now.
So, if you want to hold on to long-term winners, and not sell them prematurely, remember these two simple rules:
- Is the company developing new sources of earnings power?
- Is the industry promising to afford equal growth spurts in the future?
By applying a little common sense, you can start using Fisher’s timeless wisdom to uncover your own massive winners.
Let the Game Come to You!
Big T
MAILBAG
From Pat K.: Teeka, great job on detailing the massive problems with pension plans in the United States [PBL subscribers can read the issue right here]. Nice to have the info in one location.
I couldn’t help but notice that you did not tie any of the pension issues to the actions of the Federal Reserve. Isn’t this yet another ill effect of the Fed holding interest rates at the zero-bound far too long?
Big T’s Reply: Yes, the Fed’s low interest rate policy has definitely contributed to underfunded pension plans. From the 1960s–90s, pension plans could invest in risk-free Treasurys and make yields ranging from 5% to 15%. Today, they’re lucky to get 2%.
Consequently, pension plans have had to shift assets into riskier bets such as hedge funds and alternative assets. That works fine until there’s a market crash. We saw that with CalPERS, which lost $57 billion during the 2008–09 crash. They’re still making up for the shortfall today.
Thanks for writing.
| Have you ever sold out of a long-term winner too early? Would these two simple rules have helped you hold on to them? Share your insights with the Palm Beach community right here… |
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