Sunday, May 15, 2011

Best Business Mistakes from Wall Street gurus: JOHN C. BOGLE and Peter Lynch. How Top Business Leaders Turned Missteps into Success.

Winston Churchill said, “ All men make mistakes, but only wise men learn from their mistakes. ”
“ People who reach the top of their fields embrace mistakes because the lessons they learn allow them to get closer to their goals. It’s what sets them apart. ”

There are many business leaders with significant accomplishments and stories that deserve respect, and these business leaders share stories of missteps that provided opportunities for them to succeed.

Created the world’s first stock index mutual fund

I guess I was just too opportunistic, too callow, too self confident, and maybe even arrogant. All of which, every one of those characteristics which I have come to detest, I have tried to remove from my character to the maximum extent possible.
“ I’m a very demanding, very opinionated, very strong minded, and very experienced manager. And I’m very interested in history. I walk around thinking on issues before I make decisions, and there are very few cases where someone asks me, ‘Did you think of this?’ when I haven’t thought of it. ”
The fact is that Jack Bogle changed the way Americans invest when he started the Vanguard Group and introduced the world’s first stock index mutual fund.
“ Vanguard, meaning we were leaders of a new trend, ” Bogle proudly recounts. “ It was named after Lord Nelson’s battle of the Nile, later called by the New York Times ’ the naval battle of the millennium. ’ He ended Napoleon’s dreams of an empire there in Egypt. He had a loss of zero British ships and he destroyed the entire French navy. ”
What made index funds different was that they didn’t count on the unpredictable and expensive trading of money managers who tried to beat the stock market or its indexes. History showed that most of them didn’t beat the market.
The index funds were designed to mirror the indexes themselves, and to keep administrative costs low in order to closely match index returns. By the 1990s, index funds became the dominant style of investing for tens of millions of Americans. They were outperforming almost all managed funds, and still typically outperform 70 percent of them.
Jack Bogle created the first one, but it came about because of a mistake.
It started in the late 1960s, when he was president of the Wellington Fund, which offered conservatively managed investment services. He and the board of directors decided to merge with another investment counseling fi rm out of Boston: Thorndike, Doran, Paine and Lewis. Thorndike provided more aggressive money management services that would allow Wellington to expand its product line and become more involved in actively managing money.
The expansion of the company succeeded in bringing in millions more dollars, which were actively and aggressively managed by

the money managers who reported to Jack Bogle as the president and CEO of the Wellington Management Company. This was the go go 1960s, when the stock market was roaring in a post – World War II baby boomer bull market.
But the good times didn’t last. By the early 1970s, the stock market was mired in a decline that saw Wellington ’ s assets fall, according to Jack Bogle, by an estimated 70 percent.

Jack Bogle’s Best Mistake,
in His Own Words

In January of 1974, these guys who had so let our shareholders down ganged up and fired me! They had more votes than I did. They had put all their friends on the Wellington Management Company board. I didn’t think about politics in those days, I was pretty naive. I was unaware of the lessons of history that I had written about in my Princeton senior thesis on the history of this damned business. I remained as president of Wellington Fund, but I was banned by the board to get into investment management and distribution.
In their version of King Solomon, they gave me the administrative third and gave the other guys the investment, advisory, distribution, and marketing two thirds.
They had given me the worst third of a loaf, the administrative loaf. Don’t get me wrong. Administration is important and done responsibly by very good and capable and dedicated people. But it isn’t exactly Miss Excitement. So I had to get into investment management.
I said to the board, “ Look, you’re representing the funds’ stockholders. We’ll control how the funds work. ” I introduced a belly up theory. “ We’ll perform every function without which the fund would go belly up. ” You’d go belly up if you had no financial controls.
You’d go belly up if you couldn’t get your price in the paper every day. You’d go belly up if you couldn’t process redemptions and couldn’t issue new shares. That’s all we did. We were an administrative company.
Vanguard started operating May 1, 1975. In September, I proposed that we start the world’s first index fund.
Why? One, it would get me back into investment management. And two, Vanguard was all about being a low cost provider in this business. So the index fund is the first, most likely, and most obvious fit. It’s where the difference in cost shows up every day and you cannot lose over the long run.
We brought out the world’s first index fund in 1976. I think it was 1984 before someone else had one. Vanguard’s market share has risen from 1 percent of industry assets back then to more than 10 percent today. That 10 percentage point increase accounts for very close to $ 880 billion in assets [$1.3 trillion in U.S. mutual funds as of December 31, 2009].
My best mistake was my biggest mistake. I got fired, but I lived and I learned. I got fired, and created Vanguard.

Managed Fidelity’s Magellan Fund from 1977 to 1990

From his office in Boston, Peter Lynch plays the role of investment guru to the current group of portfolio managers at Fidelity Investments.
“ I guess that’s what an old fund manager is a guru, ” he laughs. Well, not just any fund manager. If you had invested $ 1,000 into Lynch’s Fidelity Magellan Fund in 1977, you would have had $ 28,000 by the time he retired from managing the fund in 1990. Not impressed? Look at it this way: If you had put $ 100,000 of your individual retirement account (IRA) savings into his fund when he started managing it, 13 years later, without adding another dime, you would have had $ 2.8 million. How does early retirement sound?
Lynch’s returns averaged a remarkable 29.2 percent per year during that period, beating the S & P 500 in all but two years. “
I loved it. It was great fun, ” Lynch says. “ I just didn’t like the hours. Twenty four/seven wasn’t enough. You could spend 24/7 just looking at insurance companies. There weren’t enough hours in the day. ” And when you talk to Lynch, you realize he probably puts a lot into a 24 hour day. If the speed at which he talks reflects the speed at which he thinks, there ’ s a lot of brainpower being put into his research. He says, “ I have a very small transmission. My gearbox is overdrive and off. And you can’t sort of run a fund. ”
Now, as research consultant at Fidelity, he meets regularly with the current fund managers, offering them his down to earth advice on how to invest successfully in a financial world that seems almost impossible to negotiate.

The striking thing about Lynch’s approach is that he makes it sound so simple:
You ought to be able to explain what you own to an eight year old in two minutes or less [and] why you own this thing. If you don’t understand it, you’re really going to get in trouble.
And while Wall Street has become peppered with technical analysts who look at charts, and quant fund managers who back test all kinds of theories by computers looking for an advantage that isn’t obvious in the balance sheets,

Lynch’s approach comes across as refreshingly basic:
“ There’s a 100 percent correlation between earnings and a stock. These are not lottery tickets. Behind every stock is a company. If the company does well, the stock does well. If the company does poorly, the stock does poorly. ”
He also believes that you should look at the world around you to find opportunities on Wall Street. “ Invest in what you know ” is his classic but down to earth advice. For instance, he bought L’Eggs for his mutual fund because his wife had tried on the stockings and raved about them. And his investment history is full of household names that may not have been household names when he first put money into them: Chili’s, Dunkin’ Donuts, Stop & Shop, and many others.
“ I missed Wal Mart. If I had spent more time in Arkansas I would have done much better with WalMart, but I never saw the stores, ” he says. “ You’ve got to know what you own, because as the stock goes down, you can get shaken out in a market correction. ”
And though he looks for great leadership, he doesn’t count on it, which leads to one of his better - known sayings:
“ Go for a business that any idiot can run — because sooner or later, any idiot probably is going to run it. ”
One of his long - held goals is finding a stock that goes up tenfold — a “ ten bagger, ” as he coined it based on baseball’s vernacular for doubles, triples, and home runs (two , three , and four baggers).
But while Lynch is appropriately revered for his stock picking prowess, he didn’t get it right every time.
“ Be flexible and have no bias and learn from your mistakes, ” he says.
It doesn’t seem like a track record of 29.2 percent per year would include many mistakes, but even Peter Lynch makes them. Including his best one.

Peter Lynch’s Best Mistake,
in His Own Words

It was 1982 or 1983. I was at a Robinson Humphrey conference in Atlanta, and after it was over I went to see Home Depot. They had gone from four stores to six, and all the stores were in Atlanta. Arthur Blank was the president, and was one of two guys really running it. And I had gone to see maybe four of the six stores.
I bought some stock, and like an idiot I sold it two years later; then it went up 25 fold after that.
It s great if you’re right six times out of 10 times, but you want your winners to offset your losers. You can be wrong a lot, but if your winners can go up threefold, fivefold, 20 fold, you can have a lot of stocks that you lose 50 percent on.

You don’t ever want to miss one of these enormous stocks.
And I was there at the creation of this thing, I was really early. But I never stayed in touch, and I did a total brain cramp on it. And it went up probably 50 fold after I sold it.
I made a triple on it, but that was just stupidity. If I had just kept in touch, you know, now there are 20 stores out there, now 40, and now up to 400 with no competition.
They offered customers a good value; they had a good balance sheet, not very cyclical at all — I wouldn’t have gotten shaken out at all. It could have been a ten bagger.
I still try to fi gure out what was going on in my brain.
There were a lot of winners, like Au Bon Pain Co. Inc., which became Panera Bread Company — it was a huge winner, but I stayed with it — Stop & Shop, Dunkin ’ Donuts, La Quinta Motor Inn, Taco Bell, and other ones. But this one. . . .
Warren Buffett called me — I think it was 1989 or 1990. And he said, “ I'm doing my annual report and I’d love to use one of your quotes in your book — the one about how ’ selling your winners and holding on to your losers is like cutting your flowers and watering your weeds. ’ ” And I said, “ Sure, go ahead and use it. ” And that was the mistake I made. Here I was, cutting the flowers and watering the weeds.
It was a great company: a beautiful balance sheet; great record; huge return. It made money very fast; there was a lot of high morale among employees. And they were in only a few states when I sold it. It s different when you ’ re in every state and a competitor comes along like Lowe ’ s — that’s a different story. But that was two decades later.

Q. How would you have “ stayed in touch ” ?
I would have visited one of the stores every six months, or called a couple of Wall Street analysts, or called the company every three months, just kind of to update how they’re doing. How are the stores doing? What new markets have you gone into?
How are the old stores doing? It’s all public information; I just would have been in touch. Nothing technical, but what new departments are you starting, and what departments are weak? Who are you competing against? Until then it was basically mom and pop shops out here; there were very few of these large do it yourself shops. They really helped the consumer out.

Q. Does it still bother you?
No, but it’s an example that if you’re right, you want to let your winners run. In your lifetime you get very few stocks that go up tenfold — I call it a ten - bagger. You don’t want to miss those. And this was like a 25 - bagger, or a 30 - bagger. This stock — well, the prior year it was under a dollar. You could buy it in 1983 at 25 cents. So it went from 25 cents to $ 50.
I learned from that if they’re really a superior company, watch and ask: Do they still have that competitive advantage? Do they still beat the mom and pops? Do they still have no national competitors? Are their existing stores still growing?
Don’t sell it. Keep checking up on it. Don't be stubborn, of course. Just because a stock went up doesn’t mean it has to go up more; there has to be a reason for it. This stock went up probably a hundredfold, and their earnings went up a hundredfold.
Don t sell your winners too soon. But stay in touch. You want to make sure the story’s still valid.



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