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Why Peter Lynch Loves Volatility

Volatility can seem scary, but you really shouldn't fear it, according to Peter Lynch. The legendary stock picker explained why value investors should embrace volatility back in 1994.

Learning to love volatility

Lynch was asked whether he was concerned about the level of volatility at the time of his speech. He responded by saying "I love volatility," and recounted one of his most successful investments.


In 1972, there was a sharp market correction, and shares of Taco Bell (now owned by Yum! Brands (NYSE:YUM), which also owns KFC and Pizza Hut), went from $14 to $1. This happened even though the business had no debt, never had a single restaurant closure and was overall a great company. Lynch began buying at $7 a share and continued doing so as it declined to $1 (a great example of an investor sticking by their convictions).

By 1978, it was the largest position in Magellan, at which point it was bought out at $42 dollars by PepsiCo (NASDAQ:PEP). Taking $7 a share as a starting point, that equates to a 600% return on an investment, although of course Lynch's returns would have been much higher than that if he averaged down as the stock declined. This historical episode illustrates the kinds of bargains that can be found if you shop around for high-quality businesses during market downturns.


"Human nature hasn't changed a lot in 25,000 years. Something will come out of left field, and the market will go down, or the market will go up. Volatility will occur and markets will continue to have these ups and downs - I think that's a great opportunity, if people can understand what they own".



Learning from history

In my opinion, the following passage from the same speech says an awful lot about how our perceptions of investing have become skewed over the last 20 years:


"What you learn from history is that the market does go down - a lot. The math is simple, there have been 93 this century. The markets have had 50 declines of 10% or more, so about once every two years the market falls 10%. Of those 50 declines, 15 have been 25% or more - that's known as a bear market. So every six years, the market has had a 25% decline. That's all you need to know! You need to know the market is going to go down sometimes. If you're not ready for that, you shouldn't own stocks".



This demonstrates just how much things have changed in the 21st century. In 1994, it was expected that the market would decline 10% once every two years. During the 2010s, there wasn't a single year when the stock market declined 10% during a year. There were a few short-lived corrections, such as the crash in late December 2018, but for the most part these were over quickly.

Today's Covid-19 crash feels like a big decline, but in the history of the market such events are far more common than we have come to believe they are. It feels like a once in a lifetime event, but it probably won't be.

Disclosure: The author owns no stocks mentioned.

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This article first appeared on GuruFocus.