Multi-baggers with growth companies 📈💸

“Buy good, buy low, keep validating to hold long” to growing companies to enjoy the wonders of compounding

Photo by Francesco Gallarotti on Unsplash

This is a keystone post on investing. “Buy good, buy low, keep validating and hold long” has been my main strategy. I have been learning and refining my strategy; always a work in progress. Hence, I do update this post quite frequently.

Defining growth companies

Generally, growth companies refer to companies that are growing their revenue consistently. There are several types of growth companies and can mean differently to different investors. We can look at them in terms of:

Stage of development; see the exhibit below
Durability and predictability of their growth: young and disruptive (Uber, Airbnb) versus more established (Amazon, Microsoft)
Potential and maturity of the total addressable market (TAM) and the ability of the companies to expand and capture TAM
Intensity of competition and aggressiveness of the companies to enter the market to compete versus the companies’ ability to defend and expand the moat

Revenue growth → Strong free cash flow generation

The value of the company is a function of (a) its capacity to generate cash flows, (b) its expected growth in cash flows and (c) the uncertainty associated with these cash flows — in short: growth, cash flows and risks.

Growth companies typically refer to revenue growth. Over time, the expectation is that revenue growth must translate into growth in profits and free cash flows through reinvestment. Free cash flows are the ultimate measure of the value by calculating the present value of future cash flows.

Aswath Damodaran — Session 10: FCFE across the life cycle and Growth Rate Estimation

The types of growth companies to invest in will depend on our circle of competence, preferences, comfort and conviction levels. We have different investment criteria and approaches. Some prefer young fast-growing high-potential companies though less-proven while some prefer companies with more predictable growth albeit with lower growth (such as Amazon, Costco, and Nike).

Quality and valuation

There are 2 important aspects to investing especially with growth companies: quality of the companies (buy good) and valuation (buy low).

1. Buy good

Buy high-quality companies; high growth ≠ high quality

A business must make money period (ultimately).
The value of a high-quality growth company is its ability to grow revenue consistently and maintain/increase gross and net margins to generate free cash flow after a portion of operating cash flow allocating to reinvestment to keep building its moat and grow its business above its costs of capital. The share price will rise to reflect its growth and potential. The strength and durability of its competitive advantage (moat) are important.

High-growth young companies need money to grow. They will incur losses initially. The question is how much cash is required to grow and how long can it turn profitable and cash free. Not all revenue growth is sustainable which will result in profit and cash flow. It can create value for customers but can it capture value for shareholders? Will they be able to get profitable? Is their growth sustainable? Are they in a position of strength? It can be harder to assess these young high-growth companies. We may need time to watch them grow and overcome challenges to evaluate their quality.

As companies get larger, they will grow at a slower rate. Well-managed companies can continue to grow for many years (or decades) before they lose their competitiveness and possibly, go into decline.

Make your portfolio reflect your best vision for our future.
David Gardner

Depending on the lifecycle stage that the company is in, different metrics will be important. Usually, a slower-growth established company can have a higher net profit margin, better free cash flow and net cash position. There are also younger companies that are growing much faster in revenue and yet able to achieve a good net profit margin, free cash flow and a good cash position in a different industry.

Notes:
When the market is more risk-off, high-risk assets will do well. These include (a) high-growth, yet-to-be profitable and negative free cashflow companies with debts and (b) early-stage companies with innovative ideas with little or no revenue that have not fully operationalised their business. When the market turns more risk-on, these are the companies to be sold off.

Signs of multi-baggers

1. Consistent revenue growth	Strong demand, new models, new products and services with a high total addressable market (optionalities), more users, uses and usage
2. Maintain/increase gross and net margins with revenue growth	Indicate (a) strong pricing power and (b) operational excellence (operating leverage and economies of scale) that demonstrate their ability to consistently create and capture long-term value
3. Increasing free cash flow (FCF to revenue) to fund their investment and growth	The litmus test is its ability to turn growing revenue and profits into a growing cash machine (i.e. growing free cash flow measured by FCF to revenue and FCF by enterprise value). It is also a sign of the company’s “power” with its suppliers and customers. While the company is working towards achieving FCF, it must have a high cash position to tide them through. Not all high-growth companies can convert their growing revenue to profits and cash flows.
4. Increasing ROE/ROIC/ROCE	Ability to create and capture value with capital consistently The best businesses grow rapidly without needing much capital where ROIC > WACC. Further, with high ROIC, debts can be an accelerant. It is an important metric that many investors use.
5. Ability to keep doing the above 1 to 4 consistently over the long term	Ability to keep strengthening and expanding its moat with sustained investments consistently → creating a flywheel effect with its ability to grow on rising returns on rising cash flow levels; the holy grail of compounding and achieving multi-baggers
6. Increasing net cash position (cash ratio) through debt/equity and generating free cash flow	Important to have a cash buffer, especially during challenging situations and allow them to acquire and expand
7. Growing faster and better than competitors	Compare with their competitors on whether the competitive gaps are widening or narrowing This allows a more objective understanding of the competitive position of the company.
8. Skin in the game	There is a strong correlation between the percentage of shareholding and motivation, especially in owner-operators.
9. Changes in share outstanding	Companies do give generous stock options, and use shares for acquisitions and/or share buy-back. These can have a major impact on the earnings per share over time.
10. Multiples	As the company keeps growing, the investors will notice it. As its revenue grows, its earnings margin may increase at a faster pace. As investors become confident of its long-term growth prospects, its multiples (price to sales, price to earnings) can increase and be high. The net effect is that the share price increases faster than their revenue and earnings. Buy early. A related article: 100 Baggers: Stocks That Return 100-to-1 and How To Find Them by Christopher Mayer

The more the above-mentioned signs are present, most likely, they have a certain size and market cap. The fewer the signs are and we think that they will have more in the future, they are less obvious and they can have greater upside potential. We can wait for pullbacks and crashes before we scale in.

As companies report their earnings every 3 to 6 months together with news and events happening, we tend to focus on their quarterly performance and their short term; neglecting their longer-term performance which should be the key focus for investing in growth companies. Zoom out and focus on companies that can grow consistently over a long period.

If a company makes a product that customers really love, they can’t get it anywhere else, they use it forever, and everyone needs or wants it, that must create a lasting environment for reinvestment back into the business at strong rates of return.
The Virtue of Patience, Doug Clinton

Quantifying qualitative factors

Validating their investing narratives
Hot sectors, hot products, hot companies ≠ Long-term high-growth, high-quality companies
Value created for customers ≠ Value captured for shareholders

There will be hype and excitement with exciting technologies (dotcom, artificial intelligence, crypto, mobile, cloud, SaaS). Companies will position and hype themselves as the next great company with the next great products in the next great sector to get a higher valuation and raise more money. Many, especially retail investors will be attracted to them and their investing thesis (i.e. storytelling) feeling FOMO (fear of missing out). Hot companies are often priced with unsustainably high valuations.

On the other hand, some companies may stay quiet; revealing little of their grand plans. They reveal what is required by the regulators and let the results show.

Aswath Damodaran explained that all qualitative factors (strengthening moat, improving fundamentals, improving macros, insiders buying) will show up in financial performance over time. The ability to grow its revenue, and maintain or increase its margins and free cash flow over time is the ultimate validation of the quality and demand of the products, leadership, durability and sustainability of its moat and the size of the total addressable market.

It is also important to focus on companies, sectors and countries/regions that we are familiar with; where we understand how they make money, what are their competitive advantages and the possible market potential.

Sectors especially those with lower barriers to entry will attract new entrants into the sector. The company’s competitive advantages may not be as durable as expected. Companies may experience slowing revenue growth and suffer losses thereafter. Its revenue growth may falter. They can create value for their customers but are unable to capture the value for shareholders. We need to determine who the crying wolves are and which companies are capable of riding the hot industries and secular trends. The share price may fall fast due to the high valuation and initial high expectations by the market.

We have to find our balance between narratives of the potential of the companies and the financial performance and incorporate them into our investing approach.

Successful investing is counterintuitive to our human nature. It’s a lifelong process of retraining our minds to think different and better.
Ian Cassel

An interview very worth listening to between the valuation guru Aswath Damodaran and William Green, 5 April 2022
The Highest Possible Returns. Period. By David Gardner
The great investing myth (8): Trusting the company

2. Buy low: Valuation

Growth companies at the right price (and not overpaying)
Even great companies are not great investments if we pay too much.

Be patient, wait for the right price.

Valuation is a quantitative process of determining the fair value of an asset, investment, or firm. The value of the company is the sum of its discounted future cash flows — discounted cash flow (DCF) analysis. A great investment must generate far more future cash flow than is priced at the time of investment. Relative valuation metrics such as Price to Sales and Price to Earnings are also used to determine their relative value.

Value matters

Focusing on good businesses — those that are understandable, with enduring economics, and run by shareholder-oriented managers — by itself is not enough to guarantee success, Warren Buffett notes. He has to buy at sensible prices and then the company has to perform to his business expectations. Buying low of great companies provide the margin of safety.

Aswath Damodaran believes that it is important to value young businesses. Valuation for growth companies is difficult. Different investors have different assumptions about their business potential and total addressable market and hence, different revenue growth, margins and reinvestments. Thus, there will be a range of values. Nevertheless, the valuation process will make us think hard about how the company makes money, what are the growth drivers, how and when the company will achieve sustainable cash flow, how defensible is the moat and whether we believe that the current share price is a discount to its value (i.e. mispricing).

A great interview with Aswath Damodaran: Dreams and Delusions: Valuing and Pricing Young Businesses

Revenue growth, albeit important, is one of the inputs to valuation. The litmus test of growth companies is their ability to turn revenue into free cash flow with their business within a reasonable time. There are other factors as shown in the Exhibit below matter as well.

Aswath Damodaran: Uncertainty in Investing and Valuation

Many investors use alternative metrics such as Price to Sales (especially when the company is not profitable) or Price to Earnings to gauge their value and relative value to other companies. P/S metric ensures that they are within reasonable valuation ranges (not speculative) and only if we believe that the companies have a chance to achieve sustainable profitability and free cash flow.

Buy low versus buy early; low ≠ early

When the companies have a longer operating history, we have more information to study the durability and sustainability of their products and their ability to handle different situations. We are more confident as we have more information over a longer time period to judge their ability to balance ambition, aggressiveness and resiliency when presented with different operating environments.

There will be greater risks when we invest in younger companies just listed with little financial performance and track records to study. We are unsure of the long-term receptiveness of their products. They are less battle-tested and less proven. Some are prone to pump and dump. They are riskier. We have to do more due diligence and perhaps have a lower allocation.

We are interested to invest in young and newly listed companies, hoping to get more returns by being early. The trade-off is their ability to navigate and capture the growth. Will they be the next Amazon, Netflix or Google?

The more established experienced companies have many years (or decades) of potential and runway. They can keep expanding the total addressable market with their pivots and innovations; grab market shares from competitors, attract customers to use, and buy more and more often. These high-quality companies may go on to work on multiple huge total addressable markets and keep expanding (examples: Starbucks, Costco, Amazon, Microsoft, Google, and Tesla). Hence, we can still be early for these large, established growing companies with many optionalities with several huge total addressable markets.

When the market pulls back and crashes, it gives a good opportunity to buy low and give us a much bigger return potential.

Margin of safety: Low risk, high returns

Many investors (such as Mohnish Pabrai, Li Lu, Charlie Munger and Warren Buffett) use the margin of safety to buy low of high-quality companies to protect their downside and for greater potential upside.

Margin of safety can occur when

They are not obvious and too small to get noticed.
They are risky where they felt they may have problems surviving than thriving.
The market crashes.

The bigger the discount to intrinsic value, it reduces the risk and thus, higher potential return.
However, many (i.e. conventional wisdom) tend to correlate risks correlate with returns — low risk, low returns; high risk, high returns. Not necessarily.

However, they do not sell after reaching their intrinsic value; they hold. If the companies are capable of keep growing, they let them compound.

You can watch Mohnish Pabrai on this: Mohnish Pabrai: How to Earn 26% Returns Per Year (feat Chuck Akre) | Multibagger Investment Strategy

Multiple expansion and earnings growth
In What I learned about investing from Darwin by Pulak Prasad, share prices going up is a function of (a) multiple expansion and (b) earnings growth.

In his book, 100 Baggers, Chris Mayer explained that multi-baggers are a function of (a) growth, (b) lower multiples and (c) high returns on capital. Low multiples are margins of safety.
My summary of the book: 100 Baggers: Stocks That Return 100-to-1 and How To Find Them by Christopher Mayer

When a growth stock with a low multiple is being discovered, the share price will go much more than its revenue and earnings growth as the company proves its quality and its multiples increase (valuation increases).

Portfolio management is key

Nothing is 100% certain. High conviction or a strong track record should not lead us to overbuying and over-concentration. Disciplined portfolio management is our defence against greed and overconfidence.

Types of growth companies to invest in and their portfolio allocation will depend on the margin of safety (protect our downsides) and our risk appetite. Stable growth companies tend to be more predictable and consistent in their growth while younger and faster growth companies can be more booms (multi-baggers) and busts (loss of capital). The allocation for younger and faster growth companies should be lower and let their allocation grow with their share price appreciation. Both spectrums of growth companies can be profitable investing but the evaluation, investing process and journey as well as their allocation is different.

Yes, high-growth, high-quality companies are often expensive.

Perceived high-quality, high-growth companies always trade at a high valuation; paying for quality. The high valuation is justified as long as they keep growing, able to maintain or increase its ROIC more than its WACC, generating cashflows to further fuel its expansion and fortify its market position against competitors.

Whenever investors think that a company has huge potential, it can stay expensive with financial metrics such as Price to Earnings (P/E) or Price to Sales (P/S) ratios. Many may find their valuation in a “speculative” range and price for perfection. The earnings are often deflated as they spend a lot to invest to grow and improve their competitive advantages.

Using Amazon as an example, its share price increased by 54 times or 5,406% in 22 years from the start of 1999 (USD 59.15) to the end of 2020 (USD 3,256.93). Throughout the period, its PE ratio has always been at least 40 and sometimes, negative (due to losses) while maintaining a quarterly growth of mostly more than 20% year-on-year. Amazon is always expensive (overvalued). In 1995 when Amazon was just started, it was difficult to know how it could achieve its mission of becoming “an everything store”. They keep investing for future growth to fortify their moat, thus, their low net profit margin. They pursued numerous projects (such as Kindle, Echo, AWS, Amazon Fresh, Amazon Studios, Alexa, Fire phone and Fire tablets as well as building their logistics with their planes, warehouses and delivery network), acquired several companies (such as Souq, Twitch, Whole Foods Market, Audible.com). They were willing to let go of the ones that do not work. If we worked backwards from 2020 to 1999, putting actual growth rates into the valuation, Amazon was cheap in 1999. However, it is impossible to know, decades ago, that Amazon can do so extraordinarily. Slowly, we can appreciate the fruits of labour in which they keep investing all these years. It is difficult to value the fighting and innovative spirit of the company — the ability to keep innovating, investing, failing and learning.

You can refer to macrotrends.net for further historical analysis. For Amazon’s historical PE ratio: https://www.macrotrends.net/stocks/charts/AMZN/amazon/pe-ratio

Read more about Amazon to study a multi-bagger in greater detail: A case study of a mega-compounder: Amazon

Buy during crashes and pullbacks to buy low

While we are convinced of the long-term multi-bagger potential, there will be short-term market and financial cycles that will create pullbacks and these can be huge pullbacks. These are opportunities to buy low.

You can refer to this article: A Trading Set-up: Bottom-fishing

Bear markets offer great opportunities for investors. We just do not realize it at that moment.

3. Keep validating to hold long

Making sure the companies remain high-quality, always

Investing is where you find a few great companies and then sit on your ass.
Charlie Munger

10% of successful investing is finding a great investment. The other 90% is not selling them.
Ian Cassel

Validate and hold; ownership is earned.

Hold ≠ Buy and do nothing
Hold = Buy and continuously validate

We are unable to foresee with high accuracy what will happen to the companies in 3 to 5 years. They may not do well or they may gain from strength to strength as they pivot and grow into adjacent new businesses.

Almost universally, we overestimate what can happen in the short term and underestimate what can happen in the long term. This applies to investing. Great companies keep innovating, pivoting, and leveraging their ecosystems to create new businesses, new products and services and usages that further accelerate growth we will underestimate their potential.

Analysts and investors would project a certain growth rate for the first 5 to 10 years and a terminal growth thereafter with a discount rate to determine the valuation. This is valid as it is hard to predict the future. However, high-quality companies can surprise on the extent of their potential, their long-term growth and their upsides.

Their ability to keep growing with their existing businesses exceeding what many have projected (Coca-Cola, McDonald’s, Apple, Alphabet) and,
Their ability to expand into new products/services and markets that they keep growing (Amazon, NVIDIA, Apple, Meta Platform).

Companies can enjoy exponential growth due to Metcalfe’s law (i.e. network effect) and strong brands that create the flywheel effect.

It is difficult to quantify the vision and leadership great founders and CEOs and their execution and resilience with their businesses and products to derive a target stock price over a long-term period. Just buy, and keep validating with new information to ride on their growth momentum.

Continuous validation helps to reinforce our conviction through research and analysis (not market hearsay) to objectively evaluate how events and incidents affect the companies, whether their strategies are effective and whether the market has gotten them wrong. Ignore mainstream news; they usually create FUD (fear, uncertainty and doubt) and greed with FOMO (fear of missing out). Else, we will be continuously vacillating between greed and fear, between euphoria and disgust. It is also better to add and hold the winners during pullbacks and crashes when everyone’s conviction got shaken and their share prices become oversold; buy when people are fearful.

The great investing myth (2): Buy and hold

Extract of Amazon’s 2000 Letter to Shareholders

Jeff Bezos’ Letter to Amazon’s shareholders is a good read. It showed the decoupling of the share price (as the dot com bubble burst affecting every dot com company) and what Amazon was doing.

Buying growth stocks is counterintuitive and not obvious.
It is difficult to foretell which growth stocks will keep growing and multi-bag. Depending on how early we invest, they can be unknown and controversial. It will get volatile. Many invest in blue chips, income stocks, buzzword/trend-following stocks or what’s in hype right now. Be prepared to have a dubious look and be scorned when discussing your growth stocks portfolio with friends.

Batting average versus slugging percentage
Focus on improving the batting average as well as slugging percentage. What we want to achieve is having more winners and making more with these winners (more multi-baggers); asymmetric risk/reward with a high slugging percentage.

If you are truly prepared, you should be prepared to be wrong. This is especially true when we get started.

Have patience. Compounding works like magic when we let it work long enough for us.

“At the beginning of the Annual General Meeting of the Berkshire Hathaway Company they show this little video and each year Buffett is asked what’s the main difference between himself and the average investor, and he answers patience. And there is so little of it these days. Has anyone heard of getting rich slowly?”
Nick Sleep

When you have found a great company, hold tight.

Yes, they are very volatile; a strong conviction is required to buy and hold.

Zooming out, we may not notice the volatility and think that buying and holding is easy. Being in the present and holding the position, we feel the wild swings frequently.

Because of the high valuation, the market has high expectations and its share price is very sensitive to any signs of underperformance, unexpected news and macro uncertainties. As shown above, Amazon has fallen 30% several times from the local tops. Investors need to be able to stomach large share price drops and the duration of these drops. We need strong long-term conviction else, it is very easy to be affected by the share price swings.

Trade the volatility: Ride the secular trends and trading the market cycles

Some investors who are also experienced traders may trade a portion of their positions on shorter time horizons of cyclical and tactical cycles (“timing the market”) instead of holding the entire position throughout the long-term secular trends (“time in the market”) with lots of wild swings along the way. Some may use options as a hedge.

Choose your ride

Everyone loves the returns of the multi-baggers but not everyone is ready to put in the effort to find, analyse, identify these multi-baggers and validate them continuously to stay convinced. Also, they are volatile. Growth companies are not as stable as established companies. Many may lack the conviction and temperament to hold.

Evaluation of growth stocks will be more judgemental and subjective. How durable and sustainable is their growth? Can their margins and free cash flow maintain/improve over time? Will their (aggressive) reinvestment improve their competitiveness? Can their past be a good predictor of their future? There are lots of growing pains and challenges as the company scale and out win its competitors and imitators. They are usually valued higher. The greater the growth the market expects, the more sensitive its share price will be to macro events and earnings releases and hence, greater volatility.

Investing in growth companies takes much more time to analyse and requires prudent allocation into the portfolio. Investors must also remain flexible that their investing thesis can be wrong and be willing to cut. The key is to identify several high potentials and be able to add winners and trim losers.

Most typical investors tend to rely solely on financial reports to evaluate the quality of companies. They will evaluate them based on a standard checklist such as their growth and returns on equity, book value, debt level, cash flow and consistency in these metrics over a period and they must fulfil as many criteria to consider investible. Different growth stocks can be different. They do not tick most of the boxes on many investors’ checklists looking for more established companies. Investing in young companies which have just started to generate revenue is more akin to venture capitalist investing. The financial performances of more aggressive growth companies do look ugly financially too as they keep investing to expand to grow; resulting in low net margins/losses and minimal/negative free cash flow.

Tails drive everything. Only a handful of companies will become long-term growth companies that attribute most of our returns. Not all growth companies we identified will succeed. We need to study them in detail and set our investing criteria tight. We can be wrong and must be able to cut losses for poor-quality companies.

Fighter mentality and playing the infinite game

It is not the strongest of the species that survives, not the most intelligent that survives. It is the one that is the most adaptable to change.
Charles Darwin

The best companies play the infinite game (as opposed to a finite game). It is not about becoming a market leader or achieving a certain valuation, rather, it is to keep the game going. The infinite players focus less on what happened and put more effort into figuring out what is possible.

Amazon’s 1997 Letter to Shareholders which has been attached to all subsequent Annual Reports is worth reading. It explained its long-term, strategic and bold investment approach in its relentless focus on customers and revenue growth than short-term profitability and it has held true to this day.

There is no status quo. Companies must continuously innovate, improve and re-invent themselves leveraging on market situations to strengthen their market leadership and move towards their vision.

Markets will react if the product is good and believe there is an opportunity/threat. Companies will copy to develop cheaper, better and/or faster offerings. Others may create competitive pressures such as blocking distribution channels and price dumping. Also, the operating environment can change unexpectedly and beyond any control such as through economic crises, political tension, and pandemic.

Bad companies are destroyed by crisis, good companies survive them, great companies are improved by them.
Andy Grove

The key is how the companies pursue their vision and thrive in a constantly competitive and evolving market environment in the long term. The best time to evaluate companies is when they are having problems and how they overcome them. Observe how these extraordinary leaders will improve their competitive leads with each crisis.

Everybody has a plan until they get punched in the mouth.
Mike Tyson

The best companies iterate fast and stay resilient. It is about the leadership and organisational culture that give them the speed and ability to experiment, fail, learn, and succeed and the cycle continues. The road to success is never smooth sailing.

Tough times never last, but tough people do. The ultimate measure of a man is not where he stands in moments of comfort and convenience, but where he stands at times of challenge and controversy.
Martin Luther King, Jr., Civil rights leader and minister

“A smooth sea never made a skilled sailor.”
Franklin D. Roosevelt

It is good to read the life stories of founders/CEOs and their en route to their success (from business case studies, interviews and biographies). Many went through multiple personal and professional challenges to overcome against the much larger incumbents to succeed and more. It is a startup David versus the well-established industry giant Goliath. Logically, the probability of success is very low. These founders are highly visionary, with a strong conviction that they have a unique proposition that the market needs and an immense fighter mentality (grit, willpower and discipline) despite being outnumbered and out-gunned in every aspect. Notable examples are (a) Tesla against traditional (ICE) automakers such as Ford, General Motors, BMW, Mercedes and Toyota; (b) Netflix against Blockbuster, against linear TV channels and now against other non-linear TV providers such as Disney; (c) Amazon against bookstores (Barnes & Noble, Borders) and slowly, into every retail category such as fashion, toys, household essentials, electrical appliances, gadgets, clothing, sports apparel and equipment.

We cannot value and quantify the fighting spirit, tenacity and determination in the financial valuation. Do not underestimate the underdogs. History is filled with extraordinary companies led by extraordinary leaders creating new and great S-curves with their innovative products.

It is always good to buy great companies at a good bargain during crises and huge corrections. They will be sold out of fear by traders and noobs. Knowing that they will survive and thrive, we will be handsomely rewarded as stock prices go up to reflect their calibre later.

Companies such as Amazon, Facebook and Apple, Google which have been growing consistently for many years are capable of defining, developing and extending their S-curves into various product categories and geographical markets as well as developing new S-curves (digital products such as books, music and videos, Amazon Web Services).

What should investors do when markets are crashing??!!

Just start small and slow

Volatility has to be experienced to understand so it is good to start small and slowly with a few companies; each with a small initial allocation.

It will not be an easy ride. It can be difficult at times. There are companies whose promises turn out to be false, resulting in losses. There will be periods of huge pull-backs as much as 60% (2007 to 2008 Global Financial Crisis; 2020 Covid-19). Some will pull through each internal and external challenge and crisis, and some may lag and fail. Because of high growth expectations, it will be volatile that swing our emotions if not careful. Hence, we have to assess our risk appetite and comfort level.

Have an open and growth mindset; strong opinions, loosely held

Many new business ideas are innovative and disruptive; very different from the status quo. Our immediate reaction would be: Will this work? Will people buy and use it? Is there a market for this? Will the companies succeed and be able to grow with the market? Will they fail?

It may work and it may not work. We need to develop an open mindset to new business ideas and investigate. Instead of having preconceived notions with negative/doubtful thoughts from others and media or being infatuated with disruptions at first instance, we need to be objective and curious to spend time studying and investigating the founder / CEO, company and product offering and their financials to determine whether the company and new services have a good chance to succeed.

Not all disruptions will succeed. Not all growth companies will succeed. We need to have a growth mindset to be positive and forward-thinking so that we can learn and embrace mistakes as a learning opportunity to keep improving our home runs. Investing can be learned, developed and nurtured over time. There is no need to be too harsh with oneself with mistakes; avoid anchoring, learn to let go and move on.

It is not about being right.
Be open-minded and humble. Have conviction with flexibility. Be prepared to change and pivot.

Wonders of compounding

Knowledge begets knowledge

Read 500 pages every day. That’s how knowledge works. It builds up like compound interest. All of you can do it, but I guarantee not many of you will do it,
Warren Buffett

As we keep learning as we invest, we are building a larger knowledge base. Compound learning is a mindset. Once we embrace compound learning, our brains will find the right connections to apply it in many areas of our lives. And eventually, we will begin to gain exponential returns.

The more you try to do and learn things, the more you understand how things work and how to learn better. These insights and reflections are your compound learning,
Alexander Mistakidis

Learning needs to happen before our investment returns will improve. Investing returns is not just the outcome of buy and hold. We need to keep learning what to buy and hold (conversely, what to not to buy and what to sell). This is how learning accumulates and compounds to improve our investing skills and returns.

In 1993, Warren Buffett sat down for an interview with Supermoney author Adam Smith, and the conversation began like this:

Smith: “If a younger Warren Buffett were coming into the investment field today, what areas would you tell him to point himself in?”
Buffett: “Well, if he were coming in and working with small sums of capital I’d tell him to do exactly what I did 40-odd years ago, which is to learn about every company in the United States that has publicly traded securities and that bank of knowledge will do him or her terrific good over time.”
Smith: “But there’s 27,000 public companies.”
Buffett: “Well, start with the A’s.”

Ideas compound.
Inventions compound.
Learning compounds.

Time in the market > timing the market

There are no overnight miracles.

Compounding interest is the eighth wonder of the world. He who understands it earns it. He who doesn’t, pays it.
Albert Einstein

It takes years for companies to turn vision and strategies into reality. Its ability to execute and grow consistently in various circumstances for a long time will turn its stock into a multi-bagger; rewarding the shareholders handsomely. Hold tight to these great companies and let the compounding run wild.

Patience is a competitive advantage.

Patience is a form of wisdom. It demonstrates that we understand and accept the fact that sometimes things much unfold in their own time.
Jon Kabat-Zinn

The first rule of compounding: Never interrupt it unnecessarily.
Charlie Munger

Investors’ competitive advantage: Time

Our advantage as investors is time:

Time spent to study the companies, their founders, products/services and the markets they are serving; be hardworking
Time to hold and let these growth companies execute their plans while we keep validating the investing thesis to reinforce our conviction; be patient

The earlier we start to invest, the more time we will have to put the power of compound returns to work, and the more money we will have in the end. To be successful in investing, we need to compound our knowledge, our skills, our understanding of our investments, our rationality and our emotions before we will reap the compounding returns.

Do read this article by David Gardner, Motley Fool: The Greatest Secret of All.

Big new ideas take years to develop. People make fun of you along the way. Stick with it.
Chris Dixon

Like great companies that take years to achieve their greatness, growth investing takes time to learn, make losses, keep learning, keep iterating, and improve. Yes, it does require hard work, tenacity and determination (i.e. a fighter’s spirit) to succeed.

How to start: A cheat sheet to jump-start

A good start is to study how great companies are being started, struggled and persisted to success, and the biographies of great founders.

A few great books:

Nothing But Net by Mark Mahaney; check out my summary of the book
Amazon Unbound: Jeff Bezos and the Invention of a Global Empire by Brad Stone
Lessons from the Titans: What Companies in the New Economy Can Learn from the Great Industrial Giants to Drive Sustainable Success by Scott Davis, Carter Copeland, Rob Wertheimer

Another is how investors evaluated and felt that the companies would be great, found their convictions, and invested. Jason DeBolt invested in Tesla early and began to invest more as his conviction got stronger. Dave Lee’s interview with Jason DeBolt on his investing journey with Tesla is worth watching: Retired at 39 Years Old With $12 Million in TSLA — w/ Jason DeBolt (Ep. 235).

An investment advisory service is a good way to learn about investing in growth companies. Motley Fool is my favourite and a good way to start is their Stock Advisor service. They are growth investors. They have lots of resources for investors to learn about growth investing, the mindset and deep dives into stocks. You can refer to my article for details: A cheat sheet to jump-start your profitable investing journey

I have a section of the blog dedicated to my studies on multi-baggers; do check them out.

We can also learn from great investors such as Warren Buffett, Charlie Munger, Li Lu, Mohnish Pabrai, Guy Spier, Howards Mark, Bill Miller and Peter Lynch.

Good reading materials:

Published by Lifenotes