Peter Lynch and John Rothchild - Learn to Earn

This is one of Peter Lynch's published books. It is beginner friendly and easy to understand. The information is helpful for new comers to the investment world, especially the stock market. Below are important notes/highlights that I have taken from each chapter.

"Early age is the key to future prosperity, how invest that money in stocks is the best in stocks is the best move a person can make, next to owning a house, and how the earlier you start saving and investing in stocks, the better you'll do in the long term."

Referring to the idea of compound interest and the most valuable resource that you have which is time.

Compound Interest is the addition of interest to the principal sum of a loan or deposit, or in other words, interest on principal plus interest.

Think of it like the Snowball Effect. A situation in which something increases in size or importance at a faster and faster rate.

Time because it gives your investments the opportunity to grow within a longer timeframe. This is beneficial especially if you are young.

"Being a share-holder is the greatest method ever invented to allow masses of people to participate in the growth and prosperity of a country. It's a two-way street. When a company sell shares, it uses the money to open new stores, or build new factories, or upgrade its merchandise, so it can sell more products to more customers and increase it profits. And as the company gets bigger and more prosperous, it shares become more valuable, so the investors are rewarded for putting their money to such good use."

More valuable meaning more money for you as the investor.

"Investors are the first link in the capitalist chain. The more money you can manage to save, and the more shares you buy in companies, the better off you're likely to be, because if you pick your companies wisely and don't get impatient, your shares will be worth a lot more in the future than they were on the day you bought them."

With investing in shares, one important thing you would need is to be patient and think for the long-term. In my opinion, long term would be one year or more in order to receive the rewards.

"Capitalism happens when people make things and sell them for money. Or if they don't make things, they provide services for money."

Basic definition of capitalism.

"When you are an owner of a company, you only make money if the company succeeds, you only make money if the company succeeds. A lot of them don't. This is the risk of buying stocks. The company you own may turn out to be worthless. It is for taking this risk that people are rewarded so handsomely if they pick the right companies to invest in."

You can minimise this risk by using your due-diligence. This means that you should do your own research/analysis of the company before making your decision.

"Whenever the government needed money for a project, it had four choices of where to get it: taxes, bank loans, selling lottery tickets, or selling bonds. Whenever a company needed money, it could borrow from a bank, sell bonds, or sell shares of stock."

When a company sell shares of their to the stock market, this allows us to invest in them.

"Smith argued that when each person pursues his own line of work, the general population is far better than it is when a king or a central planner runs the show and dictates who gets what."

He was talking about the concept of Free Markets. In a free market, business do their own thing such as selling their products/services to customers and be in a society where there are no intervention from a government entity.

Adam Smith is a famous economist, and is known as the father of Capitalism.

"Whenever there's a demand for a new product, such as computers, more and more companies get into the business, until there are so many computers for sale that the stores have to drop their prices. This competition is very good for you, me, and all other consumers, because it forces the computer makers to improve their product and cut prices. That's why every few months, they come out with fantastic new models that cost less than the chunky old models. Without competition, they could keep selling the clunky old models and consumers could do nothing about it."

This explains the concept of Competition and how it benefits in a business environment.

"Smith said there was a "law of accumulation" that turned self-interest into a better life for everyone. When the owner of a business got richer, he or she would expand the business and hire more people, which would make everybody else richer, and some of them would start their own businesses, and so on."

This created many opportunities and benefits for society:

• Create more jobs who are unemployed; decreasing unemployment rate.
• Increase GDP (Gross domestic product).
• Increase consumer spending as people have more money to spend.

"Smith realized that competition was they key to capitalism. As long as somebody else could come along and make a product better and cheaper, a company couldn't do a lousy job and expect to get away with it. Competition kept companies on their toes. They were forced to improve their products and keep their prices as low as possible, or they'd lose their customers to a rival."

This is why Competition Analysis is important, because your company could lose business in the future if another competitor in the same industry sells a better product/service, even for a cheaper price.

"Capitalism works best when a company that's losing money has a chance to try to turn things around".

He is referring to a classification of stocks that is in a turnaround stock or situation.

"Looking at the positive side, a crash is a unique opportunity to buy stocks cheap. The major problem with crashes is how long it takes stocks to recover."

I know what you're thinking. Buy stocks during a crash. Why would I do that?

Let me give my brief overview/explanation on why you should invest during a crash.

Pessimism of investors in the stock will be very high during these times, which normally leads to mass selling of shares by both retail and institutional investors. If we use the Law of Supply and Demand, this normally pushes to prices of stocks down lower and could even push it to new 52-week lows. When this happens, this gives the opportunity to buy good quality businesses at a bargain.

When the markets transitions from a bear market to a bull market, the prices of your bargained stocks will increase in value which then you can sell for a profit.

But this comes with a price, you will have to be patient as it could take years. You will have to do your research/due diligence, ensuring you pick the right stocks that will not go bankrupt and is able to recover and make a net profit after this crash.

Of course this is just a short explanation of why I think you should invest during a crash. Sometime in the future in another blog post I'll explain it in more detail.

"During the Great Depression, which lasted about ten years, money was scarce, and jobs were scarcer. Stores went out of business and the employees lost their jobs and their paychecks, which meant they couldn't buy anything, so more stores went out business and their employees los their pay-checks. The economy was falling into a catatonic state. Companies couldn't earn a profit, and when that happened, the stock prices went down and stayed down."

"The Depression was bought by a worldwide economic slow-down and raising interest rates at the wrong time. Instead of putting more cash into circulation to perk up the economy, our government did just the opposite, pulling cash out of circulation. The economy cam to a screeching halt."

Simple explanation of the Great Depression. This event negatively affected many businesses and has slowed down the economic climates of many countries around the world. This lead to a major decrease of value in the stock market. But can be a great opportunity to buy.

"Fortunately for posterity, the government learned from this mistake. Now when the economy slows, the government is quick to pump up the cash supply and lower the interest rates so there's more money around and it's less expensive to take out a loan. Cheaper loans encourage people to buy houses and make other expensive purchases and encourage businesses to expand. A good jolt of home buying and business expansion can shock the economy into action. It may take several drops in interest rates before the economy revives, but we've had nine slow downs since World War II and in all nine cases, the economy has come back."

The stock market always bounces back but will take years.

"Certain kinds of companies can ride out depressions and recessions and other periods when money is scarce. These are called consumer growth companies. They sell inexpensive items: beer, softs drinks, snacks, and so forth, or necessities, such as medicines that people can't live without. Chewing gym and candy companies, such as Wrigley's, can thrive on recessions, because as Mr. Wrigley himself once said: "The sadder they are, the more the people chew."

"A company must quickly adapt to changes in the market, or it won't survive."

"An agency known as the Securities and Exchange Commission (SEC) was established to lay down the law and punish the violaters."

"Debt is saving in reverse. The more it builds up, the worse off you are."

Think about the Snowball Effect mentioned earlier.

"When you invest in a stock, you're buying a piece of a company. If the company prospers, you share in the prosperity. If it pays a dividend, you'll receive it, and if it raises the dividend, you'll reap the benefit. Hundreds of successful companies have a habit of raising their dividends year after year. This is a bonus for owning stocks that makes them all the more valuable."

You are not just buying a electronic blip, you are buying a part of a business. If that business does well and grows, your investment grows.

"When people consistently lose money in stocks, it's not the fault of the stocks. Stocks in general go up in value over time. In ninety-nine cases out of hundred where investors are chronic losers, it's because they don't have a plan. They buy at a high price, then they get impatient or they panic, and they sell at a lower price during on those inevitable periods when stocks are taking a dive. Their motto is "Buy high and sell low," but you don't have to follow it. Instead, you need a plan."

I believe investing is 80% psychology, and 20% having a strategy. Your emotions is the biggest factor in making your decisions, and there are only two: Greed and Fear.

"If you've decided to invest in stocks above all else, avoiding bonds, you've eliminated a major source of confusion, plus you've made the intelligent choice. When we say this, we're assuming you are a long-term investor who is determined to stick with stocks no matter what."

Stocks have outperformed in returns against all the other traditional asset classes in the long term.

"People are always looking around for the Secret formula for winning on Wall Street, when all along, it's staring them in the face: Buy shares in solid companies with earning power and don't let them without a good reason. The stock price going down is not a good reason."

Look for companies that are earning a profit.

"They let their emotions get the better of them, and they forget the reason they bought stocks in the first place - to own shares in good companies. They go into a panic because stock prices are low, and instead of waiting for the prices to come back, they sell at these low prices. Nobody forces them to do this but they volunteer to lose money. Without realizing it, they've fallen into the trap of trying to time the market.

"Stocks that do well in the long run belong to companies that do well in the long run. They key to successful investing is finding companies. To get the most out of your training sessions, you have to do more than follow the prices of the stocks. You have to learn as much as possible about the companies you've chosen and what makes them tick."

"Doing your own research. This is the highest form of stock-picking. You choose the stock because you like the company, and you like the company because you've studied it inside and out."

"The more you learn about investing in companies, the less you have to rely on other people's opinions, and the battery you can evaluate on other people's tips. You can decide for yourself what stocks to buy and when to buy them."

"You'll need two kinds of information: they kind you get by keeping your eyes peeled and the kind you get by studying the numbers. The first kind, you can begin to gather every time you walk into a McDonald's, a Sunglass Hut International, or any other store that's owned by a publicly traded company. And if you work in the store, so much the better."

This explains why due-diligence is important when investing.

"A store doesn't have to fall apart to lose customers. It will lose customers when another store comes along that offers better merchandise and better service, for the same prices or lower prices."

"Companies that intentionally mislead their shareholders (this rarely happens) face severe penalties, and the perpetrators can be fined or sent to jail. Even if it's unintentional (a more common occurence), a company that misleads shareholders is punished in the stock market. As soon as they realize it hasn't told them the whole truth, many big-time investors will sell their shares at once. This mass selling causes the stock price to drop. It's not unusual for share prices to fall by half in a single day after the news of the scandal goes out.

"Big established companies are happy to see their earnings increase by 10 to 15 percent a year, and younger, more energetic companies may be able to increase theirs by 25 to 30 percent, but one way or the other, the name of the game is earnings. That's what the shareholders are looking for, and that's what makes the stocks go up."

"This simple point - that the price of a stock is directly related to a company's earning power - is often overlooked, even by sophisticated investors."

"If earnings continue to rise, the stock price is destined to go up. Maybe it won't go up right away, but eventually it will rise."

After making many mistakes and losing money in the stock market, this is one thing that made sense. Remember this: Share price will rise when earnings rises.

"The market multiple is a useful thing to be aware of, because it tells you how much investors are willing to pay for earnings at any given time. The market multiple goes up and down, but it tends to stay within the boundaries of 10 and 20. The stock market in mid-1955 had an average p/e ratio of about 16, which meant that stocks in general weren't cheap, but they weren't outrageously expensive, either."

Market multiple would be similar to the price-earnings ratio of a stock.

"In general, the faster a company can grow its earnings, the more investors will pay for those earnings. That's why aggressive young companies have p/e ratios of 20 or higher. People are expecting great things from these companies and are willing to pay a higher price to own the shares."

From my experience I would consider not buying stocks with this p/e ratio as the price go down to a more suitable level. But it could vary to different situations.

"Because with fewer share on the market, the remaining shares become more valuable. Share buybacks can be veery good for the stockholders, especially if the company is buying its own shares at a cheap price."

Think about Supply and Demand.

"Dividends also have a psychological benefit. In a bear market or a correction, no matter what happens to the price of the stock, you're still collecting the dividend."

Highly probable that the company would have a strong balance sheet, if the company pay outs dividend.

"If you're going to invest in a stock, you have to know the story."

Due-diligence again.

"Confusing the price with the story is the biggest mistake an investor can make. It causes people to bail out of stocks during crashes and corrections, when the prices are at their lowest, which they think means that the companies they own must be in lousy shape."

Always check the story and don't trust other people's opinions.

Check the news around the company and the financial statements to ensure that it is in good financial shape, and not be in the risk of bankruptcy.

"What often happens is that the newly issued stock may rise for a few days, weeks, or months, but after that, the excitement tends to wear off, and the price comes down. This is a great time for small investors to pounce on a bargain. After twelve months of trading, Apple shares had dropped from the twenty-two-dollar offering price to fourteen dollars."

Whenever a newly issued stock goes in the stock market, it is called an IPO (Initial Public Offering). Majority of the time during these IPOs, the share price becomes very inflated due to greed, then later on it decreases to a more acceptable level. This is a opportunity for you to buy at a bargain.

"Because of the variety of calamities that can befall a company in the high-risk juvenile phase of its life, the people who own the shares have to protect their investment by paying close attention to the company's progress. You can't afford to buy any stock and then go to sleep and forget about it, but young companies, especially, must be followed every step of the way. They are often in the precarious position where one false step can put them into bankruptcy and out of business. It's especially important to asses their financial strength - the biggest problem with you companies is that they run out of cash."

This is referring to small-cap companies. They are young companies that has potential to be a multi-bagger and make big bucks. But there is a catch. They are very risky as they may not have strong balance sheets or may not even have making profits yet. This is when a lot of due-diligence/research is needed a lot in these areas.

"Now for the good part: Starting from scratch, a young company can grow very fast. It's small and it's restless, and it has plenty of room to expand in all directions. That's they key reason young companies on the move can outdistance the middle-aged companies that have had their growth spurt and are past their prime."

"No matter how powerful it may be today, a company won't stay on top forever."

Competition is always a constant changing force in the business world. If you chose to invest in a top company, make sure you do due-diligence/research on other competitors within the same industry as they may catch up quickly.

"Cyclical companies either sell expensive product, make parts for expensive products, or produce the raw materials used in expensive products. In recessions, consumers stop buying expensive products."

"In fact, it's the central banking system that controls the money supply. Whenever the economy is cooling off too much, the Fed does two things. It lowers the interest rates that banks must pay when they borrow money from the government. This causes the banks to lower the interest rates they charge to their customers, so people can afford to take out more loans and buy more cars and more houses. The economy begins to heat up.

"The fed also pumps money directly into the banks, so they have more to lend. This pumping of money also pumps money directly into the banks, so they have more to lend. This pumping of money also causes interest rates to go down."

"If the economy is too hot, the Fed can take the opposite approach."

"When stock prices fall 10 percent from their most recent peak, it's called a "correction." We've had fifty-three corrections in this century, or one every two years, on average. When stock prices fall 25 percent or more, it's called a "bear market." Of the fifty-three corrections, fifteen have turned into bear markets. That's one every six years, on average."

This is all part of macro-economics. Especially monetary policy.

"Lives quietly" and "avoids press" are phrases that appear frequently in the descriptions of the Forbes four hundred. These people are still doing whatever it was that led to their successes. There is a good lesson in this. Find something you enjoy doing and give it everything you've got, and the money will take care of itself. Eventually, you reach the point where you can afford to spend the rest of your life at the side of a swimming pool with a drink in your hand, but you probably won't. You'll be having too much fun at the office to stop working."

"In most cases, the big corporate fortunes come from owning the company's stock. The higher up you are on the corporate ladder, the more likely it is that you are on the corporate ladder, the more likely it is you will be paid in shares instead of cash. Executives are also given "options," which enable them to buy more shares at a specific price."

Giving options is another way to compensate the executives if the performance and the share price has been met.

"But all of this works to the executives' benefit only if the company does well and the stock price goes up. If the company does poorly and the price goes down, these people stand to lose money and may be worse off than if they earned a huge salary. Being paid in stock puts a company's leadership on the same side of the table as the shareholders. When they make big bucks on the stock, other investors also are profiting from the shares they own. It's a win/win situation."

But if the company's performance in the future is poor and the share price does not meet expectations by the expiry date, the options will be useless and will not hold any value.

"But the layoffs have a purpose: to make companies more competitive and better able to survive in the future."

It will decrease expenses and allow the company more space to restructure its business.

"Since 1982, companies of all kinds have dedicated themselves to becoming more efficient overall. On Wall Street, this is known as restructuring, rightsizing, downsizing, or getting leaner or meaner. Whatever you call it, it means reducing costs and boosting productivity, not just to survive recessions, but to become more profitable and more competitive as a matter of course."

"There's another way to increase productivity: making better products with fewer mistakes."

Hope you enjoyed my book summary of Peter Lynch's - Learn to Earn.

By Josh Cuizon