Rule #1 investing is thorough and methodical, but it’s also so straightforward that just about anyone can do it.
All you have to do is follow the rules.
Rule #1 empowers individuals with the know-how to research and fully understand businesses. Many people follow investing guides, strategies, and analysts that seem reliable, but somehow overlook one element that ultimately is its Achilles heel.
Know What to Do When Stocks Take a Nosedive
In sharp contrast, the entire foundation of Rule #1 is thoroughly knowing what you are invested in so you aren’t caught in a traffic jam during a stock market drop.
Remember, you are investing in a business, not speculating on stocks.
You will be buying businesses that you would trust as the sole source of income for your family’s livelihood. Organizations that stand for what you believe in and are run by individuals you respect. Businesses that you have calculated information for that gives you confidence in their future success.
The 4Ms and Buying Wonderful Businesses
These concepts above reflect what I refer to as the 4Ms. They tie into our strategy of, “Buying wonderful businesses at attractive prices” and are important to consider when investing your money for the long-term.
“Wonderful” indicates that any business you invest in strongly meets the criteria of three of the 4Ms:
- Meaning: You understand the business enough to want to own the whole thing if you could, that you’d be proud to own it, and that it reflects your values.
- Moat: The business must meet certain criteria in terms of financial strength and predictability, creating a symbolic Moat to surround and protect it from competitors.
- Management: The business is led by skilled, experienced individuals that you respect.
- Margin of Safety: You are buying the business on sale relative to known value (which I teach you to calculate easily).
Let’s look at each of the 4Ms a little closer.
1) Meaning: Make Sure the Business is Important to You
It pains me when people are unaware which businesses are in their mutual funds, much less what those businesses do. This is the exact definition of speculating. They are trusting their money blindly in a blend of what could really be anything on any given day.
You would never walk into a shoe store, hand the cashier $100 and say, “Give me a pair of running shoes you like.” You would want to tell them about your needs, try various shoes on, ask about how they are made, and so on. It should be no different for investing, which involves the money you depend on for living and retirement.
With Rule #1, you’ll do exercises to narrow down businesses that interest you and reflect your values.
Why is this important?
Because the more a business interests you, the more you’ll understand it and stay on top of its news and industry. The more easily you’ll detect when something is not going well.
2) Moat: Confirm the Business Has a Competitive Advantage
This M is all about how a business fares against competition.
Wal-Mart dominates because it has mastered efficiencies that allow it to offer absolute lowest prices on everything.
Harley-Davidson cleans up the competition because its brand is so solid and its following is so strong.
Pfizer has built quality products that are patented and difficult to copy.
These are just a few examples of Moats that protect these businesses from competitors. Rule #1 goes into depth on five different types.
Having a Moat also involves calculating the Big Five numbers, which essentially determine if the Moat is wide enough to establish it as a sustainable company you should invest in.
3) Management: Ensure the Business has Trustworthy Management
When you are looking to trust your money inside the walls of a business, you need to have confidence in the people leading the company. Management capable of taking the company to new heights. People who live and breathe the business. Responsible individuals who make decisions that lead the company in the right direction.
There’s nothing wrong with being compensated. It’s the CEOs that are paid millions and millions of dollars amid a business catastrophe, or the despicable insider-trading stories just before businesses go belly up that are concerning.
Rule #1 will give you the tools to use to decide whether a business has winners or losers in the hot seats.
4) Margin of Safety: Determine the Right Price at Which to Buy the Business
It’s not enough to buy a great business. You must also buy at a great time.
The fourth M, Margin of Safety, is the spread between a business’ sticker price and selling price. In other words, a sale.
You first need to calculate an accurate sticker price (what the business is actually worth), then recognize when the selling price is 50% below the sticker price.
Confirming a Margin of Safety is critical to Rule #1 and all too often forgotten.
Rule #1 insists on careful computation of the Margin of Safety, which will prime you for success.
The 4Ms Investment Checklist
Businesses often lose value because of one thing—which turns out to be a big thing.
Pick any stock that has plummeted and you can bet one of the 4Ms were off. Maybe they didn’t have an edge on competition or maybe management is weak. Or maybe there was a huge gaping hole in their Big Five numbers (a part of Moat) that blew up and killed sales.
Rule #1 is straightforward, but you must be thorough. That’s why I created a 4Ms Checklist to help make sure you don’t miss a thing.
Download your free copy here and use it alongside your investing.
You can print if off for each business you are considering. Go through from top to bottom and check off each sub-step under the 4Ms. Take your time and be sure not to cut corners. Each step represents an aspect of the company that can either be an asset or a flaw.
Some businesses may check out great through Meaning and Moat, then stall when you start realizing Management is sketchy. Others may be highly successful, stable businesses, yet you know little about what they actually do. Or maybe you will find a business you love that lacks any type of Moat and screams, “Copy us, we’re doing great.”
These are red flags and are the exact reason typical investors are surprised later down the line. But you’ll know better because you will have studied each aspect of the business, carefully and systematically.
If you are considering using the Rule #1 strategy, the 4Ms Checklist is an absolute must. It will be your guide to mastery of the Rule #1 process from beginning to end. Get your free copy here now before you miss a step.
Phil Town is an investment advisor, hedge fund manager, 3x NY Times Best-Selling Author, ex-Grand Canyon river guide, and former Lieutenant in the US Army Special Forces. He and his wife, Melissa, share a passion for horses, polo, and eventing. Phil’s goal is to help you learn how to invest and achieve financial independence.