How To Pick Winning Stocks — Finding The Multibaggers and 100 Baggers
Investing in winning stocks that become 100 baggers can fund a whole retirement account. But even hitting smaller multibaggers can help you generate outsized investment returns.
100 baggers are stocks those that will return you more than 100x your initial investments.
There isn’t a specific formula to find these 100 bagger Stocks or multibaggers, but there are several common characteristics to look for.
Table of Contents: Picking Winning Stocks and 100 Baggers
- Coffee Can Approach To Finding Winning Stocks
- Qualities Of Multibagger And 100 Baggers
- Common Characteristics Of 100 Baggers
- When Do Multibaggers Make Their Biggest Advances?
- Moats That Lead To Multibaggers and 100 Bagger Investments
Coffee Can Approach To Finding Winning Stocks
Finding these winning stocks is only one part of the process. 100 baggers take time to grow, and investors are certain to run into market crashes, downturns and other volatile periods before then.
How do you invest without being scared out of a position until then? By using the coffee-can portfolio method — the simple idea of finding the best stocks and letting them sit for 10 years.
By using this investing strategy, you’ll likely find in your portfolio:
- Some losing positions — which could be worth a fraction of your portfolio
- But also the potential for an outsized position — which would become your 100 bagger
But it’s okay to have these losing positions in your portfolio since the winning stocks will make up for your losses multiple folds.
This strategy also protects you from your worse instincts to sell before your stocks get the chance to turn into 100 bagger stocks
Here’s an example of different portfolio scenarios that evenly invests in 10 stocks.
Portfolio A: 100 Bagger Scenario
- 9 companies lose 90% of their value but 1 company becomes a 100 bagger stock
- Total Return: 909% — 10x growth in your portfolio
Portfolio B: 10 Bagger Scenario
- 9 companies lose 90% of their value but 1 company becomes a 10 bagger
- Total Return: 9%
Of course, this isn’t ideal since your investment will be locked in for many years. But the likelihood of all 9 of your other investments losing 90% of their value is low as long as you buy high-quality companies using the guidelines below.
Qualities of Multibagger and 100 Baggers
100 baggers are often found in two types of investment
- The company that hits it big from one single event — i.e. oil drillers striking oil or a biotech company getting a drug approved.
- A compounder that can consistently grow its sales and earnings for a long period of time.
For most investors, it’s often easier to look for the compounder. These are often easier to understand and analyze than a biotech or oil company — which requires deep industry expertise.
In most cases, winning stocks take many years and even decades until they become 100 baggers. According to the author of 100 Baggers, Christopher Mayer:
- The average time for a stock to become a 100 bagger was 26 years.
- The median market cap was $500m
- The median annual sales figure was $170m.
With such a long holding period — it’s difficult to resist the urge to sell. One example in Mayer’s book advises us to stick to the investment as long as the original theme is intact — this is an important point as most investors tend to sell too early and miss out on the biggest periods of return.
The stats given above imply that these companies trade at a price-to-sales multiple of ~3x. So when it comes down to finding winning stocks, yes, valuations do matter.
Many of these high-flying tech companies that trade at 20-40x plus sales multiples are unlikely to be the next 100 baggers.
- Since they’re also trading at a smaller market cap, they also tend to be riskier and are more volatile.
- They all go through several periods of downturns where their stock is seen by the market as unfavorable.
Common Characteristics of 100 Baggers
According to Christopher Mayer’s research, the common characteristic of a 100 bagger are SWGLP, which stands for:
- S — Size is small
- Q — Quality is high for both the business and management
- G — Growth in earnings is high
- L — Longevity in both Q and G
- P — Price is favorable for good returns
Size Of The Company Is Crucial
According to a study by Kevin Martelli at Martek Partners — size is crucial to finding multibaggers.
In study of 21,000 stocks that had at least $100m in market cap:
- 3,795 (18%) become a multibagger with 10x return
- Of the 3,795 that became multibaggers, 2,580 (68%) of these had a market cap under $300m
The Takeway: Multibaggers tend to come from smaller, riskier stocks so don’t expect to put your money into a stock like Microsoft or Walmart and expect to generate a multibagger return.
He also noted that patience is critical and there is often an extended period of time where they trade at a low price.
Return On Equity And Capital Allocation
Having a high return on equity and being able to allocate profits for future growth is another important aspect in picking multibaggers.
Return on equity (ROE) is calculated by dividing the shareholders’ equity by the net income. These numbers can be found in freemium tools like Atom.
- Example: You invest $100 to start a business and in the first year, you generate a profit of $20 — this implies a ROE of 20% (20/100).
What Does High ROE Mean? A high return on equity implies that the company is able to generate a high profit for the amount of money invested. By having a higher ROE, companies are able to reinvest the profits into other growth initiatives.
But a company must have a high ROE isn’t enough. Large tech companies like Microsoft have a really high ROE, but its massive market size (2.1t at the current time of writing) leaves little room for it to become a 100 bagger.
- Meaning: Companies should have a high ROE and low price (valuation) to become a 100 bagger.
But the management team must be able to use that excess cash to generate outsized returns — exceptional capital allocation. Jeff Bezos, the founder of Amazon, was one of those people.
Owner-Operators — Those With A High Ownership
Several research studies have shown that founder-led companies, those that are still run by the entrepreneurs that created the company, have historically performed better.
These founders also tend to have a significant stake in the company, which can often lead to better decision-making and decisions made for the long term.
Studies have found that these founders:
- Tend not to bet the company on one risky move — instead, they’ll aim to hit singles and doubles vs. home runs
- Invest more in research and development and are focused on building shareholder value instead of value-destroying investments and acquisitions
Founders with a stake in the business have shown to make more responsible and long-term decisions. The top-performing companies also tend to have talented people at a stage in the company’s life.
Which Industries Can You Find 100 Bagger Stocks?
In the past 50 years, we’ve seen multibaggers in industries like tech, railroad, airlines and just about any industry you can think of. These winning stocks include household names like Walmart and McDonald’s or less known names like Forest Laboratories (pharmaceutical) or HollyFrontier (oil refineries).
When Do Multibaggers Make Their Biggest Advances?
According to an analysis by Tony at TS Analysis, multibaggers tend to make their biggest moves when:
- Earnings Grow: During an extended period of growing earnings (earnings per share) followed by an expansion of the price/earnings ratio
- Expansion of the P/E Ratio: Stocks are often valued based on their P/E ratio and if investors are willing to pay more for each dollar of earnings, its price will increase accordingly (multiple expansion)
- Forgotten Ones: Multibaggers are often found in stocks that have gone through a period of losses or periods where their stock is beaten down. In some cases, these 100 baggers may be in the process of transitioning back to profitability
- High P/E Ratios: Don’t be scared if a company reaches a high P/E ratio as long as the growth potential remains intact
Summing things up, there are two important things in finding a 100 bagger; growing earnings and investors placing a higher worth on each of those earnings, and leading to a price-to-earnings multiple expansion.
Moats That Led To Multibaggers And 100 Bagger Investments
A moat is a durable competitive advantage that helps a company dominate an industry and, in turn helping the investor generate outsized returns.
There are many types of moats but the biggest one includes:
- Strong Brand — which can help a company price its products higher or prevent a customer from buying elsewhere.
- Switching Costs — this prevents a customer from switching to a competitor’s product without incurring a high cost (either paying more or dealing with inconvenience)
- Network Effects — this makes a product better as more people use the product (i.e. Facebook with its social network or Zoom with its video tool)
- Cheaper Costs — you can provide a service/product at a cheaper price than competitors which can be passed on as cost savings to the customer or higher margins for the business
- Size Advantage — you are the biggest business in the market which deters competitors from entering the industry
Case Study: Monster Beverage:
Monster was originally a multi-product company that made many different lacklustre products, including sodas, cereal, food bars etc. Monster Energy was introduced in 2002 and quickly became the focus.
The company’s focus on its energy drink and smart marketing led to rapid growth in its brand — which led to more and more distributors/retailers wanting to stock it on their shelves.
- Monster turned into a 100 bagger in under 10 years in 2006 — becoming a 700+ multibagger by the end of 2014
- Its P/E ratio never got out of line — staying relatively flat while Monster grew its sales and revenue tremendously
- The company was rarely followed by analysts — so you were unlikely to hear it in mainstream media
- Many sophisticated investors had recommended against the stock and thought it was a passing fad
Here’s a summary of the most important points when looking for winning stocks that can turn into 100 baggers:
- It takes time for winning stocks to turn into 100 baggers
- Focus on smaller companies with a high return on equity
- Look for companies with a reasonable valuation (i.e. price-to-sales multiple)
- Find companies that are still being run by their founders
- Companies will begin to break out as their earnings grow or they see a multiples expansion
- These companies are often the least followed companies or the forgotten ones
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