I was initially drawn to investing by the idea of owning exciting companies driving the future of technology. I remember as a teenager doing some back-of-the-envelope math to see how much money I’d have if I’d simply bought my birthday money’s worth of Amazon or Apple stock when I was a young child.
It’s fun to invest in companies that are trying to change the world, but that excitement comes with risk.
According to Embroker, 90% of start-ups ultimately fail. And while the failure rate for public tech companies is certainly lower, the odds of finding the next Amazon or Tesla are extremely low. That is why smart investors understand the importance of buying boring companies, not just exciting ones.
When I say boring companies, I’m talking about mature businesses with proven track records of execution. These companies usually have strong brand awareness and loyalty, and while they’re likely growing slower than tech start-ups, they’ve done so consistently for years, if not decades.
Here are three reasons you should make space in your portfolio for these boring companies.
They’re less volatile
If you’re losing sleep over your stock portfolio, you’re likely overexposed to risk. Recently, growth stocks have taken a beating, with some down as much as 90%, and the tech-heavy Nasdaq Composite down 25% year to date.
Meanwhile, the Fidelity Blue Chip Value ETF — a fund comprised of at least 80% well-established, medium- to large-cap stocks — is only down 5% in 2022.
While there’s less upside with blue chip stocks, you’re also insulated from the extreme downside that comes with smaller-cap growth companies.
They add consistent compounding growth
Compounding is one of the keys to long-term outperformance. Think of it like a snowball rolling down a hill. At first, the growth is barely noticeable, but by the time the snowball reaches the bottom, it’s exponentially larger.
One of the reasons mature businesses tend to be compounding machines is because they elect to return their profits to shareholders in the form of stock buybacks and dividends. Growth companies return value to shareholders by investing cashflows back into the business to increase revenues (and eventually profits).
But at a point, it becomes difficult to continue generating value by investing in growth, so mature companies pay out a portion of their profits to shareholders. This produces slow but consistent returns that snowball over time for investors.
Consider two of the best compounders over the last 20 years — Costco and The Home Depot.
If you invested $10,000 in Costco in July 2002, your investment would be worth over $174,000 today. And had you reinvested the dividends, you’d be sitting on over $220,000. That’s a 2,100% gain and a compound annual growth rate (CAGR) of 17%.
Similarly, had you invested the same amount in The Home Depot 20 years ago, your investment would be worth $155,689, which is a CAGR of 15% (dividends reinvested).
Neither of these companies invented a new technology or disrupted anything over the last two decades. However, they both have strong brands and consistently deliver exceptional value to their customers while growing their bottom lines. Companies that can do this for decades might not be the most exciting, but they will grow your portfolio exponentially.
They tend to keep winning
Many investors look for tiny under-the-radar companies, hoping to get in early before they blow up. And while the occasional bet on micro-cap stocks can make sense, there is plenty of long-term upside in investing in proven winners. This is because great businesses tend to keep executing and winning over long periods of time.
Imagine a massive boat, like a cruise ship or a cargo tanker. It takes tremendous power to get ships of that size moving, but once they reach cruising speed, there’s little that can slow them down.
Companies are the same way. It takes an incredible amount of effort and resources to build a winning corporate culture and habits, but once those are instilled, they tend to persist for long periods of time.
That allows companies like Microsoft and Berkshire Hathaway to continue delivering returns for their shareholders for decades upon decades. And the great thing about the stock market is that you can place your bets on the winners throughout the race, not just at the beginning.
Don’t overthink it
Oftentimes we think we need to pursue complex investing strategies for strong returns, but the reality is that countless proven businesses will continue to deliver strong returns for their shareholders for years, even decades.
You won’t 100x your money, but you can certainly beat the market by investing in boring businesses.
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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Mark Blank has positions in Tesla. The Motley Fool has positions in and recommends Amazon, Apple, Berkshire Hathaway (B shares), Costco Wholesale, Home Depot, Microsoft, and Tesla. The Motley Fool recommends the following options: long January 2023 $200 calls on Berkshire Hathaway (B shares), long March 2023 $120 calls on Apple, short January 2023 $200 puts on Berkshire Hathaway (B shares), short January 2023 $265 calls on Berkshire Hathaway (B shares), and short March 2023 $130 calls on Apple. The Motley Fool has a disclosure policy.