“Invest in what you know” is Peter Lynch’s age-old advice that most beginners have taken to heart for decades. Warren Buffet has, in fact, offered up related advice, claiming that it is perilous to invest in a business that you do not fully understand. It’s a famous little principle, but let’s think about this for a minute and deconstruct Lynch’s quip. There are much more interesting alternatives out there for more seasoned investors.
Do You Actually Know?
Lynch told a story once about his wife. She loved a Hanes pantyhose product so much that Lynch decided to invest in Hanes stock – as a result, his investment grew into the largest portion of the fund. While these individual stories can be fun to hear, they do not tell the whole tale.
What’s missing from the equation, then, is research. Lynch and Buffet, with all their sage advice, have actually done a lot of that. That’s the key for any investment undertaking, after all. “Invest in what you know” is not the end point – it’s just a beginning. Should you buy stock in Apple just because you happen to like your iPhone?
The thing about investing in what you know is that you may think you know what is going on in the investing world, but you don’t really, not without doing the research – which can be a risk in itself. Industry analysts are not always reliable when it comes to predicting trends in their respective industries.
What it all comes down to, then, is to know what it is that you don’t know. The most important thing, ultimately, is asking the right questions and finding solid answers that you can back up with concrete facts.
Investing in What You Know Can Be a Dangerous Game
The issue with investing solely in what you know comes down to a different fundamental adage: don’t put all your eggs in one basket. Lynch’s advice may have been to invest in what you know, but it certainly was not intended to say that you should put all your assets in one place.
So what’s the solution? More seasoned investors have it right: research, consult, and diversify. And when all else fails, it definitely pays off to invest in the funds headed by those people who know what they’re talking about and are advanced enough in the game themselves to know how to diversify their own portfolios.