Three More Lessons from the Little Book That Beats the Market
More Wisdom From a Classic of Finance Literature
The Little Book That Beats the Market is a gem for anyone who wants to learn about successful stock market investing.
It is such an easy read that even a teenager can understand the fundamentals of investing, without getting lost in a sea of confusing financial terms and deciding which stocks are worth buying.
No other 200-page book has taught me more about finance and investing. It is a classic, and one worth reading.
I have a lot to say about this book, so here are three more things I learned from the Little Book That Beats the Market because I went on a caffeine-fuelled 2-hour writing spree and wrote a LOT about it-
1. Pay Less than What the Business Earns
I talked about how it is impossible to predict the market in the last article. But there are two things we can use to help us identify stocks at mind-blowing bargain prices. One of them is calculating the earnings yield of a business.
Earnings yield is one of the two things Greenblatt talks about in chapter 5 of the book. It is like a litmus test one uses to know how much a business will earn you for every dollar of its stock you own.
How do you find out the earnings yield? Well, it is stupidly simple. You just divide the earnings per share for the year by the share prices, and boom, there you have it, the earnings yield of the business for the year!
In short, it is preferable to invest in companies with higher earnings yields rather than lower ones. Why? Well, because their stocks will earn more in relation to the price you pay!
2. Are You Buying a Good Business or a Bad Business?
The second thing we can use to identify bargain-priced stocks is learning about the business itself. The way to do that is to find out the return on capital of the business.
Think of it like this: Two women, Hermione and Jo (fictional bookworms, hehe), decided to build and open bookstores. Both stores cost $40,000 to build, but Hermione’s store earned $10,000 each year, while Jo’s earned $5000. Hermione’s store earned a 25% return on capital, while Jo’s earned a 12.5% return on capital. (By the way, the earnings of their stores don’t have anything to do with their ability to be a good salesperson. Hermione may have used a Luring Charm, but you don’t know that, shh.)
But which sounds better to you- a business that earns a 25% return on capital, or one that earns a 12.5% return on capital?
It’s obvious, so I’m not even going to answer. Hint: it’s the first one.
To sum up, one should purchase businesses that can invest their money at high rates of return rather than those that can only invest at low rates of return.
3. Becoming a Stock Market Master Is No Rocket Science
By combining the two methods listed above, you acquire the power to buy great businesses at bargain prices and become rich beyond your wildest dreams.
You just have to stick to buying good companies and to buying them only at prices that are ridiculously lower than the actual worth of the company.
Greenblatt promises that doing so can help you achieve investment returns that can beat the best investment professionals, top-notch professors, any academic portfolio study ever done, and outperform the stock market index by a huge margin.
I trust the guy. I don’t even know why, because I haven’t even seen him till now (I just searched for him, and he has one of those faces that seem trustworthy only when there is no smile on the face, so, *insert grinning face with sweat emoji*. Eh, just agree with my first sentence, *insert shrugging emoji*.), but I do. He just writes like a trustworthy person.
So, those were three (more) great lessons about investing I’ve learned from the Little Book That Beats the Market. That’s all for today, thanks for reading my TED Talk :)
Catch you on the flip side,
Sarah ✌🏽
P.S. If you want to read part 1 of this article, which has three more lessons from the book, you can check it out here: 3 Lessons from The Little Book That Beats the Market.
