Rule #4 Buy the Business, Not the Stock Price!

Hello Luca, hello Laura. Today I want to talk to you about the stock market and how you can invest in it. The stock market was something of a mystery to me for a long time, and by a long time I mean most of my adult life. In high school I had an economics class. I still remember today how the teacher tried to explain to us the concept of buying and selling stocks. Her explanation was the following: "A contract made between two individuals or two companies that commit to trading shares at a certain moment in time. Each one is betting on something different, one believes that the price of the shares will go down while the other believes it will go up. The two of them establish the future moment of the transaction."

Let's look at this explanation. Even today I remember it vividly, I remember perfectly the blackboard and the white chalk with which a few squares were drawn on the board, I remember the teacher and her yellow glasses, as well as the fact that I understood absolutely nothing from her explanation, although I tried. As a high school student, I realized that economics was something particularly important and that I had to pay attention to the teacher's explanations, but the moment she started talking was the moment she lost me. Now, looking back at her explanation, I realize that she herself understood nothing of what she was teaching. And if she didn't understand it, it's clear that she couldn't explain it to us either. I think Einstein once said that if you're not able to explain a very complicated subject to someone in a simple way, as if explaining it to children, it's clear that you haven't understood the subject. Well, let's travel back in time, the three of us, and try to explain the subject of stocks and the stock market.

First of all, the concept of the stock market is overcomplicated. Imagine a company that wants to raise money to invest in its development or simply wants to sell part of the company. Maybe one of you is in the business of building and selling chairs and decides to sell 10% of that business. A simple way is to issue shares and sell 10% of them. If your chair factory has a value of 100,000 euros, this value including all the assets it owns and all the capital in the bank, it can issue 100,000 shares at a value of 1 euro per share. It can then sell 10% of them, or 10,000 shares, on the stock exchange. So you must always associate shares listed on the stock exchange with ownership in a particular company. You don't buy shares because you believe the price will go up or down, but you buy a share because you want to own part of that particular company. I, for example, have great confidence in you, so I would also be interested in buying some of those 10,000 shares offered for sale on the stock exchange.

As you probably know, or as you will find out, share prices change and fluctuate, they can rise and they can fall depending on several factors. Stock prices can be influenced by the quality of the listed company. The better the company's results, the more investors it will attract, and the more these investors will compete to buy the listed shares, pushing the price up. If a company has poor results, however, interest will decrease and the share price will fall. There are also other factors that can influence stock prices, factors independent of the company's performance, such as macroeconomics, politics, unexpected events, subjective market sentiment, and others. What is important for you to understand is that the price listed on the stock exchange has nothing to do with the performance of the listed company and that you should never buy a share based on its price or speculation, but because you want to own part of a company.

After you buy a share, what should you do? If you've managed to buy something, all I can say is congratulations. You are owners in a business. Whether it was a good choice or not, you will see over time. For now, however, let's focus on what you have to do next. Some time ago I read something about asset management companies and how they invest in the stock market to produce returns for investors. It explained how most of these funds trade their shares on average once a year and that most of the shares purchased are sold within the first 12 months after purchase. For me, this is no longer investing, it is speculation. It is a bet that you have no way of winning and for which it would be more profitable for you to gamble your money in casinos. The explanation is simple. No company in the world has enough time to reach maturity in 12 months. Even if the share price increases considerably and truly reflects significant growth, if the company is successful, why on earth would you want to sell? If you bought part of a company 12 months ago, believing at that time that it was truly worth your money, now... today... after one year and an increase of, let's say, 50%, when you have confirmation that you made a good choice... why would you want to sell? If we look at Amazon, Microsoft, or Apple, all of them have experienced significant success on the stock market over the past decades. Throughout all these years, there have been investors who withdrew their money and sold their shares, believing that their price would no longer increase. How many of them regret the choice they made now? I cannot answer that question, but I have a feeling there are many.

Another limitation of this game of going in and out of the stock market is the belief that you can reliably anticipate these variations or fluctuations in the market. I will repeat it here once again: nobody can do that. Nobody can predict a market decline or increase, and certainly not reliably over several years or decades. What we can say with certainty is that the general trend of the stock market is to rise. Even if it suffers severe corrections, as we all expect the market to experience a correction of more than 50% in the coming years, generally every correction is followed by a recovery. And recoveries usually push prices far above previous levels. The best part is that there is no upper limit. Strong inflation generally brings a proportional increase in the market, and your initial investment is relatively well protected.

What you need to remember is that it is not the share price that matters, but the condition of the company behind that price. If the company is healthy and has healthy accounting, then you have no reason to worry. The share price is unimportant. Warren Buffett says that he never looks at a company's share price because it distracts him. He first looks at the condition of a company and the business it operates in, and only after deciding that it is a company he wants to own does he compare it with its stock market quotation.

And so, if you find a company you really like but the price crashes after you buy it, how do you deal psychologically with the loss? How do you overcome the desire to sell? Well, you must remember that you bought part of a company and not a value in euros or dollars. If the total value of your shares decreases, that does not mean the company has become less profitable, it only means that investors' interest or confidence has decreased. It may even mean that the company itself wants to sell more shares to raise capital. There can be multiple reasons, which is why you should not despair and should analyze the situation calmly. Another thing you must remember is that as long as you do not sell your shares, the loss is unrealized. Only when you sell your shares does the loss become reality; until that moment, you still own the same part of the company.

So today's lesson for you, my dear ones, is a simple one: shares listed on the stock exchange represent part of a company, their price has nothing to do with the condition of the company but only with market sentiment, and once you have bought a share, you should no longer care about its price for the next 10 years. The shares you buy should only be sold after several decades. 

Rule #4 Buy the Business, Not the Stock Price!