Inside The 'Circle Of Competence'

Your needs make a fine place to start. Chances are, other people have those needs, too. Needs are what create demand. But understanding a company means knowing how it makes money, what its challenges and competitors are and how to tell if and when it's making the grade. Only at that point is an investor prepared to realize that Rite-Aid is carrying around boatloads of debt, or that Apple is reeling not only from a slowing desktop market but from overpriced high-end products and iMac delays.

And so an investor with a strong knowledge of the aforementioned industries might come to see that even if you don't live near a Walgreen's or a CVS, they're still tops in the business; that Dell has developed marvelous expertise in both the precision manufacturing and marketing needed to be a long-term force in the PC business, or that the best opportunities in wireless might not be the phone makers but firms like OpenWave, which hopes to be the standard bearer for wireless Web browsing and messaging.

All this doesn't mean Rite-Aid or Apple is a poor investment. Nor is there any guarantee that Walgreen, Dell and OpenWave will produce better returns over the next decade. Still, it should help illustrate the perils of overstating one's knowledge of a company based on familiarity--as well as the opportunities available to the informed investor.

Armed with real understanding, an investor can better decide whether a company is worth holding through tough times, or whether its prospects have soured and it's time to look elsewhere. Maybe it's time for one more gloss on buy what you know: know what you buy.

© 2001