3 dumb investing rules I live by

How to avoid losers like Coca-Cola Amatil Ltd (ASX:CCL) and QBE Insurance Group Ltd (ASX:QBE).

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Successful investing can be an incredibly personal thing.

It helps to study other successful investors, but ultimately the decision to buy or sell shares in a company will come down to our own beliefs: our comfort with risk and how we think the world will look tomorrow.

For me managing the risk part means subscribing to a few basic investment rules. They keep me grounded and prevent me making emotional or ill-conceived decisions. To this extent, some of them are pretty dumb. Here are three of them:

1. I don't buy businesses I don't understand

It sounds dumb because it is so obvious, but it's important to remember when there is a lot of hype around a company.

If I don't understand the business I won't be able to tell if the people running the company are doing a really great job or simply taking too much risk. Similarly, I won't be able to recognise warning signs a business is in trouble until it's too late.

2. I buy companies with a long-term sustainable advantage

In my view one of the big reasons QBE Insurance Group Ltd (ASX: QBE) consistently underperforms for investors is that it operates in a competitive global industry without a compelling competitive advantage.

Without a sustainable competitive advantage a company can't win business from competitors, can't dominate in its market and can't produce above average returns for its owners.

Another company I am avoiding today is Coca-Cola Amatil Ltd (ASX: CCL). I think the brand is losing both relevance and pricing power as consumer tastes change.

3. I don't take commodity price risk

This is probably one of the dumbest rules I have because it eliminates a big chunk of companies listed on the ASX. However it is born straight from the ashes of my past investing failures.

Companies involved in producing and selling commodities have less control over the price they receive for their products, and understanding commodity cycles is a much larger part of the investment.

Pricing can be hedged somewhat, but companies still get caught out. Energy producer Santos Ltd (ASX: STO) is a classic example, getting caught out by falling oil prices.

So what would I buy today?

For all the reasons above, I would avoid QBE Insurance, Coca-Cola Amatil and Santos, while I would buy XERO FPO NZX (ASX: XRO).

Xero has pioneered a niche and has made itself a 'top-dog' in the industry of cloud accounting. The business focuses on creating a great experience for customers with an excellent product and doesn't have commodity risk.

Motley Fool contributor Regan Pearson owns shares of Xero. The Motley Fool Australia owns shares of Xero. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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