100 Ways to Beat the Market #16: Filter by opportunity cost

Charlie Munger has said that one the most effective filters you can use to optimize the allocation of capital is to compare a prospective stock purchase to your best current holding. If it’s not as attractive, don’t buy it.

Instead, consider buying more of your best holding. This type of thinking will force you to move capital into optimal opportunities and will prevent the dillution of your efforts. Munger also points out that it is a powerful time saver. If your idea is not as good as your best holding, you can forgo wasting time doing any further research.

Another variant of this idea is to compare your idea to buying Coca-Cola. Coke is a great company: virtually unlimited growth prospects, Fort Knox balance sheet, unassailable franchise, low capital intensity, minimal regulatory and litigation risk, strong management, etc. Always remember that (most of the time) you could just buy Coke and your almost guaranteed of getting a good, if not spectacular, result. Run down your idea against Coke and honestly determine if it is worth it on a risk-adjusted basis. This may keep you from doing some dumb things with your precious capital.


2 thoughts on “100 Ways to Beat the Market #16: Filter by opportunity cost

  1. Greg Speicher Post author

    Any of those metrics can be useful as long as they show that the stock is obviously cheap. As Buffett says if you’re analysis says it’s worth $1.00 and you can buy it for $.95 that’s not good enough. You want a price of $.50. For example, if you find a good company with a 20% earnings yield it will probably work.

    The point of the article is to use your best holding as a screen. If you understand what you own this can be a powerful filter when looking at a possible purchase.


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