Forget Penny Stocks: Your Money Is Better Off in These 3 Companies

Many newer investors believe that penny stocks are the way to make money in the stock market, but this is 100% false. Penny stocks are far more likely to lead to financial ruin than riches, and the hands-down most effective way to make money in stocks is to buy great companies and hold them for the long haul.

With that in mind, here’s why three of our contributors think Berkshire Hathaway (NYSE: BRK-A) (NYSE: BRK-B), Oaktree Capital (NYSE: OAK), and BlackRock (NYSE: BLK) are excellent penny stock alternatives.

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If you’re new to investing, this is the type of stock you should buy

Matt Frankel (Berkshire Hathaway): It’s a common misconception among new investors that the best way to make money in stocks is to find the smallest, most untested companies to invest in — a.k.a. “penny stocks.” The problem is that most of these are either scams or companies without a real business.

Instead of pursuing the stock market equivalent of a “get rich quick” scheme, new investors should be focused on trying to build a long-lasting base of top-notch companies. And my hands-down favorite for new investors is Berkshire Hathaway, the conglomerate led by billionaire investor Warren Buffett.

I love Berkshire for new investors for a few reasons. First, it’s diversified. With about 60 subsidiary companies and a stock portfolio worth more than $190 billion, Berkshire Hathaway is like a well-diversified investment portfolio all in one stock.

Second, it’s a mature business. Buffett and his team have spent more than half a century building Berkshire into what it is today, and the company was specifically designed to be full of recession-resistant businesses (insurance, consumer staples, and railroads, just to name a few components) that each have clear competitive advantages in their fields.

Finally, Berkshire is a great first stock because of Warren Buffett himself. By observing how Buffett and his team run the business — reading his annual letters, watching (or even attending) Berkshire’s annual meeting, and reading some of Buffett’s various words of wisdom from over the years — you can gradually build the knowledge needed to become a great investor. After learning from Buffett, you’ll wonder why you ever considered penny stocks at all.

A stock for a bear market

Jordan Wathen (Oaktree Capital Group): Under the management of Howard Marks, Oaktree Capital Group has proven its mettle as one of the world’s best credit investors. Its extraordinary record gives it pricing power, allowing it to charge hefty management and incentive fees for the service of managing other people’s money.

What I like most about Oaktree is that it does best when financial markets are plunging. During the 2008 financial crisis, when investors were taking cash out of other managers’ funds, Oaktree managed to raise a multibillion-dollar fund in a matter of weeks. That allowed it to buy assets on the cheap, scoring huge returns for its clients, and $1.5 billion in incentive fees for its shareholders, just from one fund.

Investors are willing to give Oaktree a long leash because its record is unmatched. Consider that since 1988, Oaktree’s core distressed debt funds have generated an annualized return of 16.2%, net of fees, a record few can come close to matching.

Nine years into a bull market, investors have priced Oaktree as if a bear market is years or even decades away. But financial history tells us that just as it feels as if stock and bond prices will stay forever high, markets tend to come crashing back down. Shares trade at about 12 times what I believe the company can reasonably earn in a normal environment, making Oaktree a compelling bargain for investors who want to diversify their portfolio with a stock that should soar when others are taking a beating.

Invest in a manager that invests trillions

Dan Caplinger (BlackRock): Penny stocks are a surefire way to lose all your money unless you get extremely lucky, because they’re designed to take advantage of investors looking for a quick score. Reputable investment managers know that the key to longer-term success is finding viable strategies that go beyond the crapshoot in the penny stock world, and BlackRock has become the leading investment company in the exchange-traded fund universe with its extremely popular iShares line of ETFs. With more than $6 trillion in assets under management, BlackRock helps investors put their money in stocks, bonds, and alternative investments effectively and efficiently.

BlackRock has been especially profitable because it focuses on institutional investors who are willing to pay a bit more in fees in order to get the liquidity they need. iShares funds tend to have a lot of assets and trade frequently in the open market, and that makes it a lot easier for big financial institutions to make large orders without worrying about disrupting the ETF’s trading operations. ETFs are only getting more popular, and with such an impressive lineup of funds that give investors access to just about every corner of the financial markets, BlackRock’s success seems destined to continue indefinitely into the future.

10 stocks we like better than Berkshire Hathaway (A shares)
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Dan Caplinger owns shares of Berkshire Hathaway (B shares). Jordan Wathen has no position in any of the stocks mentioned. Matthew Frankel owns shares of Berkshire Hathaway (B shares). The Motley Fool owns shares of and recommends Berkshire Hathaway (B shares) and Oaktree Capital. The Motley Fool has a disclosure policy.

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