Seeking “THE Stock”

When I say that I work in Portfolio Management the first question I am usually asked is: What stocks should I buy? My answer is always the same: Stocks that compete in a Duopoly or tight Oligopoly.

There surely is no foolproof system to pick a good stock. It takes a lot of effort, research and time to find one with a durable advantage; a stock that you can forget after buying.

Usually, people look for companies with high ROE, high margins, low debt, stable dividend… I believe it should be the other way around, you should look for companies that compete in an oligopoly and most of the time they will have great metrics.

Investing is putting your money in an asset that will over time increase your initial investment. When we invest, we want to make sure we will not lose our money. Therefore, finding safe and enduring companies is crucial.

Companies with a Durable Competitive Advantage have the following characteristics:
– Compete in an industry with little competition
– Sell a product that doesn’t change much (ie: Apple does not have a long term competitive advantage)
– Provide a service or product that is difficult to replicate
– Have Pricing Power (Most important Characteristic)

And if you look closer you’ll see that many of these firms have these characteristics.

Examples of tight oligopolies:

– Visa & MasterCard (control about 70% of worldwide card volume)
– Coca-Cola & Pepsi (control about 75% of the carbonated beverage market)
– Boeing & Airbus (Sell more than 95% of commercial airplanes worldwide)
– Stratasys & 3D System (Current market leaders in 3D printing)
– Verizon & AT&T & Sprint (Own more than 70% of US wireless provider market)
– S&P & Moody’s & Fitch (Provide more than 96% of all ratings)

Surely competing in an oligopoly does not mean by itself that a stock is a buy. But it is a good start to finding companies with durable competitive advantages.

Monopolies on the other hand, will also have great metrics. However, they come with a big risk. The risk that one day, regulators will say enough is enough, we want more competition (As had happened with AT&T in the early 1920s). Or that being alone at the top prompts them to stop innovating and competitors start emerging and gaining market share.

Surely, it can happen within an oligopoly too. However these firms are used to competition and can adapt more easily than a firm sitting alone on its throne. Take for example the latest case in Canada; Verizon being granted entrance into the Canadian telecom market. The big 3 (Bell, Rogers and Telus) are not very happy that the American Giant (being 2 times the size of the 3 combined) is allowed to enter their market. However after years of fierce competition, they have adapted to rivalry and are now offering bundled services and better customer service that provides them with customer loyalty. The impact of a new entrant should not be as disastrous as it seems. As opposed to Bell, who in the early 1990’s enjoyed a monopoly and alienated its customer with its bad customer service. When competition surfaced, they lost market share at a faster rate than foretold.

Finding great companies is the first step. The second and more important step is to be patient and buy them at the right price as described in my previous post.

Georges Boustany

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3 responses to “Seeking “THE Stock””

  1. Roger Martenson says :

    Very cool article dude, you should put it on SeekingAlpha!

    What would be a good price to buy these companies you think?

  2. Kenneth Lawford says :

    I think you should also mention looking at ROIC and cost of capital over the long term. It is extremely important to gauge the competitive advantage of a company.

  3. Buzzonomics says :

    Yes I completely agree.

    Like Buffett said in his 1992 letter: “Leaving the question of price aside, the best business to own is one that over an extended period can employ large amounts of incremental capital at very high rates of return.”

    Visa, Master Card, Coke, Pepsi, S&P, Moodys are extraordinary businesses. And you’d be lucky to find them at a discount. Whenever the price decreases,you should buy them! Their intrinsic value changes as Im sure you know. And forecasting 1 price is ridiculous. Use conservative assumptions to get a conservative price. But as I said, these stocks usually trade at a premium.

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