When I was learning about markets in the 1980s, something that was often mentioned was the idea of bottom-drawer shares. Those are shares that you wish your grandparents had bought, stuck in a bottom drawer and left to you in their will.
The logic was simple: that there were listed companies that were so excellent and dominant in a bulletproof sector that you never had to worry about them.
Two of the names mentioned would have been General Electric and General Motors. General Electric certainly was a stock to own — until 2000, when it peaked; it didn’t recover to those levels until this year. General Motors couldn’t survive the financial crisis of 2008 and went bust in 2009. So maybe not the best strategy?
But the failure of these two doesn’t mean there isn’t a case for long-term holdings. The problem is they can’t just go into the bottom drawer. Investing is inherently active and investors need to keep an eye on their holdings. We don’t need to watch them every day, consistently monitoring the share price and any company news. But we do need to read the results and watch the dividends.
Ideally what we’re looking for here is to build a core portfolio of high-quality, long-term stocks. Above these you may want to add small- and mid-cap stocks, cyclical sectors and more speculative stocks that may, one day, become high-quality, long-term holds.
I like to start the process by asking: what is essential to every household? This means there must be a real demand. If we consider food, clothing and banking as three essential products that every household needs, we have a great place to start our research.
The next point matters: buy the best. Don’t be tempted to buy the second or third best in the hope that one day they’ll become No 1. Buy the best and trust them to continue to be the best. If they stumble you can always exit and switch into the new winner; that’s why it’s important to keep track of results.
The problem is that if we want to buy the best, we’re going to have to pay up. You don’t get the best locally listed bank or food retailer on a low double-digit p:e. You will have to pay more.
Here I typically track the longer-term earnings multiple, ideally seven to 10 years of data. Then, when the forward earnings multiple (the current price using next year’s expected earnings) is below the long-term median multiple, I would look to buy. This makes me price sensitive, but relative to the elevated value of the quality stock.
At times we do get offered quality at a great price. The pandemic and the financial crisis both offered excellent opportunities for buying some top-quality companies at great prices. But that’s twice in two decades, so you can’t just wait. The rest of the time, you’ll have to pay up.
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