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The Equitymaster Research Digest

We Just Made a Boring Stock 'Beautiful'
Jun 22, 2016

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Investing is a simple game.

The goal is to get the most return for the least exchange. And just three variables control the outcome.

First, the risk to capital employed is important. Thus, the cardinal rule: Don't lose money. Money lost cannot be invested. Money lost will not compound.

Second, duration matters. Whether you buy the stock as a stock or a stake in a business will determine how long you're willing to hold on to it.

Third, the rate of compound growth makes a huge difference. The higher the sustainable rate of profit growth and the longer the period, the bigger the payoff.

What's funny about this list is how simple the game really is...and how few people pay any attention to the most basic rules.

I doubt many investors consider these three variables before they buy a stock.

What most investors consider is simply, Will this stock go up? By how much? And when should I sell?

If that...

But the questions they should be asking are very different.

They should be asking...

  1. What is the minimum rate at which the company will compound its earnings?
  2. When will I be willing to sell my ownership stake in the business?
  3. Most importantly, what's the most I can safely pay for this stock?
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