Between 1977 and 1990, Peter Lynch ran Fidelity's Magellan Fund and turned it into the most famous mutual fund in America. Its average annual return during his tenure is commonly cited at around 29%, roughly double the US market. Then, at just 46, he retired to spend more time with his family. In Part 6 of Legendary Investors, we look at the manager who told ordinary people they had an edge over Wall Street.
From golf caddie to fund manager
Lynch was born in 1944 near Boston. His father died when he was young, and he worked as a golf caddie at a club where many Fidelity executives played. Listening to them talk about stocks sparked his interest, and one of them later helped him get a summer job at Fidelity. After Boston College, the Wharton School and army service, he joined Fidelity as an analyst in 1969.
When he took over Magellan in 1977 it managed only about $18 million. By the time he left in 1990, it held around $14 billion.
"Invest in what you know"
Lynch's best-known idea is that everyday life is full of investment clues. If you notice a store that is always packed, a product your family loves or a service your company is switching to, you may spot a growing business before professional analysts do.
He found some winners this way. His wife's enthusiasm for L'eggs pantyhose led him to Hanes, and he liked the simple, profitable model of Dunkin' Donuts.
But Lynch was clear that noticing a product is only the start of research, not the end. You still need to study the company's earnings, debt and valuation. Many people quote the first half of his advice and skip the second.
The six types of stocks
In One Up on Wall Street (1989), Lynch sorted companies into six categories, each with different expectations:
- Slow growers: large, mature companies growing slowly, often paying dividends.
- Stalwarts: big, solid companies growing at a moderate pace. Good for protection in downturns, with modest upside.
- Fast growers: smaller, aggressive companies growing 20% or more a year. The source of most big winners, and many big losers.
- Cyclicals: businesses such as carmakers, airlines and steel, whose profits rise and fall with the economy. Timing matters.
- Turnarounds: battered companies that could recover. High risk, but big rewards if they succeed.
- Asset plays: companies with valuable assets such as land, cash or patents that the market has overlooked.
Knowing which type you own tells you what to expect and when to sell.
Tenbaggers
Lynch popularised the word "tenbagger", a baseball-inspired term for a stock that rises ten times in value. His point: you do not need to be right most of the time. A few tenbaggers can make up for many small losses, as long as you hold your winners long enough.
The PEG ratio
Lynch often compared a company's price-to-earnings (P/E) ratio with its earnings growth rate. A company with a P/E of 20 growing earnings at 20% a year has a PEG of 1, which he considered fair. A PEG well below 1 could signal a bargain; well above 1 could mean you are overpaying. It is a rough rule, not a law.
Other Lynch rules
- Know why you own it. You should be able to explain your reason in two minutes.
- Be wary of "hot" stocks in hot industries. He preferred boring names in dull industries that Wall Street ignored.
- Watch the balance sheet. Too much debt can sink a good company in a downturn.
- Don't try to predict the market. "Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves."
- Don't pull the flowers and water the weeds. Selling winners too early and holding losers is a common error.
An important warning
Studies have suggested that many Magellan investors earned far less than the fund itself, because they bought after strong years and sold after weak ones. The lesson: a great fund or stock cannot help you if your own behaviour works against it.
The takeaway
Lynch showed that curiosity and common sense can lead to great ideas, as long as you follow up with homework and patience. He also wrote Beating the Street (1993) and remained involved with Fidelity and charity work after stepping down.
In Part 7, we meet a man with the opposite message: John Bogle, who argued that most people should stop picking stocks altogether.
Legendary Investors: the full series
- Part 1: Benjamin Graham
- Part 2: Philip Fisher
- Part 3: Warren Buffett
- Part 4: Charlie Munger
- Part 5: John Templeton
- Part 6: Peter Lynch (you are here)
- Part 7: John Bogle
- Part 8: George Soros
- Part 9: Ray Dalio
- Part 10: Jim Simons
This series is for education only and is not investment advice. Returns, dates and figures are commonly cited historical values and may vary slightly between sources. Past performance does not guarantee future results.
