Unless you’re an avid reader of our free investing discussion boards, you may have missed it. Nevertheless, it’s one of the pithiest — and most profound — justifications for investing in the stock market that I’ve ever read.
The poster in question, jackofbasel, was responding to an earlier poster who had been making a general point about so-called ‘Long-Term Buy and Hold’ income investing.
The point being made: blue-chip stocks they may be, but buying them didn’t look like very much of a get-rich-quick strategy.
Exactly so, replied jackofbasel. Because instead, Long-Term Buy and Hold investing was about becoming a part-owner in solid businesses intent upon delivering growing profits and increased dividends.
And viewed like that, he wrote, “Owning a slice of the global economy will always perform far better than your building society account.”
Millions of people, working for you
Back in the dark days of the global banking crisis, we heard a lot about leverage. But to me, the word ‘leverage’ was never quite right for the concept in question.
For bankers, ‘leverage’ is about the ratio of capital to debt. Simply put, it involves using the bank’s capital as collateral to go out and borrow a whole lot more money, then invest that borrowed money in (hopefully) profitable ventures.
But frankly, leverage is a better description for the sort of thing that jackofbasel was talking about.
Because when you buy into the global economy, you’re buying into the hard work and effort of millions of people around the world.
Virtuous circle
Buy into healthcare giant GlaxoSmithKline, for instance, and you’re buying a slice of the efforts of 103,000 people — discovering drugs and healthcare treatments, manufacturing those drugs and healthcare treatments, and then selling and distributing those drugs and healthcare treatments.
Buy into Royal Dutch Shell, and you’re buying a slice of the efforts of 92,000 people, busily doing the same thing with respect to oil. With Unilever, it’s 174,000 people, and a business that stretches from ice cream to margarine, and cleaning products to healthcare.
Defence manufacturer BAE Systems? 88,000 people. Aero-engine manufacturer Rolls-Royce? 55,000 people. Global mining giant BHP Billiton? 49,000 people.
In short, all these companies are striving hard to grow their profits, reinvest a proportion of those profits to build their businesses, and deliver enhanced profits from those enlarged businesses.
And, all the while, throwing off a portion of their profits as dividends to reward you, their patient Long-Term Buy and Hold shareholder.
Making a turn
In contrast, the building society account — still, in 2014, many people’s favourite savings vehicle — offers a more prosaic proposition.
First, you lend the building society your money. (Yes, that’s what you’re doing when you put it in a savings account.)
Second, it then lends that money to other people, so that they can buy houses, cars, speedboats and foreign holidays.
And the difference between the interest rate that it charges them, and the interest rate that it pays you, is its gross profit. After expenses and bad debts, what’s left can be invested in growing the business.
I know which route to riches I prefer.
Riches on offer
All of which raises a very predictable question. In short, how to identify the best slices of the global economy to buy into? Or in other words, precisely which companies should you buy?
Frankly, there’s no shortage of possibilities. Even without looking away from the London Stock Exchange, there are plenty of attractive, quality businesses on offer. Choosing two more or less at random, I’d suggest that investors couldn’t go far wrong with Unilever and Diageo.
But as super-investors as diverse as Warren Buffett, Howard Marks (“The Most Important Thing”), and Seth Klarman (“Margin of Safety”) have pointed out, a question just as important as what companies to buy, is what price should be paid for them.
Because while Diageo and Unilever appear to be solid picks, their relatively high P/E ratios mean that potentially better bargains are on offer.
Beaten-down bargains
Where, precisely? Well, I’ve always been a fan of buying into businesses where the market may be mis-pricing their prospects.
On that basis, businesses such as BAE Systems, BHP Billiton and GlaxoSmithKline would seem to be rather tastier picks than Unilever or Diageo right now. So too AstraZeneca and HSBC.
And with global stock markets experiencing some turbulence right now, all of them could yet get cheaper still.
A slice of the global economy, purchased at bargain basement levels? For investors seeking a decent return on their money, it’s difficult to think of a better proposition.