One absolute focus of mine is distilling stock investing down to the simplest, most effective factors.

Over 25 years of investing, you try it all. Benjamin Graham-style "cigar butt" investing. Peter Lynch style "buy what you know" investing. Quantitative mechanical investing strategies, like "Dogs of the Dow", "Magic Formula Investing", or Ken Fisher's Super Stocks approach. You dabble in technical analysis (which always felt like alchemy to me), and option trading strategies. Always looking for the best approach.

Overall that time and different approaches, BY FAR the most successful one I've seen is the one espoused on this site. It's simple really. Look for stocks with good revenue growth opportunities, a recurring revenue base (products/services are purchased on a regular basis, often automatically), and strong durable economic moat characteristics (a nod to Pat Dorsey here). Finally - and this is a big one - investors need to hold them for at least 3 years, and preferably 5+ years.

5 words: "Buy Well and Don't Sell"!

So far, over 4 years, it has worked well. "Green" rated stocks have outperformed the others by a good margin, and "yellow" have outperformed "red". Both "green" and "yellow" have beat the market by a wide margin, while "red" has trailed the market. It's what you want to see to validate the strategy.

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Even then, there are some outcomes that make you wonder. Looking back at "red" rated stocks that were initially rated 4 years ago, there were several stocks that ended up performing quite well. I thought it might be interesting to take a look at why they did so well, whether they can continue to outperform, and whether I would still rate them "red" today. There might be some useful info we can glean from these "red dot rockets". Let's take a look!

Autozone (AZO)

Date first rated: 12/21/2017

Total performance: +72.9%

Vs. S&P 500: +21.9%

Autozone is an auto parts chain, the largest in the U.S. with close to 6,000 locations. When reviewed, there wasn't too much attractive about the business. Revenue growth over the long term was very "meh" at about 5% a year, and with a saturated store base, there wasn't much expansion potential. Revenues are driven by transactional, non-recurring purchases of products that can be had at any number of competing outlets. There were no clear competitive advantages. Autozone faces massive competition from O'Reilly, Napa, Advance, and even Walmart.

This just looked like a standard physical location specialty retailer - an easy "red dot" rating.

But in truth, Autozone has been outperforming the market for years, and it continued to do so here.

So how does the company do it? We were right about its revenue growth - it has remained at about 5% annually. There were no substantial operational improvements - operating margins stayed flat at about 19%. Autozone has never paid a dividend and still doesn't. Unlike the other 2 we will discuss, there was no "COVID halo" here that juiced business. The stock valuation also has remained steady: its P/E was 15.9 in 2017 and is 15.3 today.

Autozone wins with a very simple strategy: sustained stock buybacks. While there is a lot of competition, auto parts are also a relatively economically insensitive industry - people need to drive and vehicles wear out parts, always. This leads to steady free cash flows, which Autozone plows into stock buybacks year after year. The result? Shares decreased by an average of 6% annually since 2017.

When you combine a 6% annual share decrease with a steady 5% revenue growth rate and sustained operating margins (along with a consistent valuation), you get about an 11% annual return to shareholders. Over the long term, that handily out-paces the S&P average of about 7-8%. So there you go - a market beater!

I would still rate Autozone as a RED stock (even though the rating was closed in February). Nothing has changed about the business. Its success is a strategic managerial one. All it takes is a new CEO enamored with growth or new opportunities to screw it up. I still wouldn't trust a pure management play over a long-term holding period.

That said, there is no reason Autozone can't continue to beat the market going forward. To do so, the auto parts industry has to remain stable (a valid question with EVs rising up) and Autozone needs to stick with its current strategy.

Best Buy (BBY)

Date first rated: 3/15/2017

Total performance: +177.1%

Vs. S&P 500: +91.2%

Best Buy is another stock that has defied the odds and performed pretty remarkably over the past 4-5 years.

Like Autozone, at a glance, there isn't a whole lot particularly attractive about the company. Its store base has been stagnant at about 1,200 locations for the better part of a decade - new stores are not really a growth option. In fact there wasn't much growth potential here anyway - maybe 3-4%, mainly from expanded online and multi-channel efforts. Best Buy sold non-recurring, infrequent purchase products (computers, mobile phones, electronics and appliances). Finally, it faces a phalanx of competition ranging from online giants (Amazon) to big box retailers (Walmart, Target) to the brands themselves (Apple Stores, strong e-commerce operations from HP and Dell, etc).

Meager revenue growth, non-recurring revenue, and no real competitive advantages against a gauntlet of strong competition. Yeah, I'd say a "red dot" rating was pretty obvious here.

So how has Best Buy crushed the market in the preceding 5 years???

Well, the growth expectation was not wrong. Best Buy's revenue growth has, indeed, averaged about 4%. It's not really a point-in-time stock valuation swelling either - its P/E today is 14, and 4 years ago it was even higher at 16.

No, Best Buy has succeeded through really outstanding management, both operationally and financially. And it has been a somewhat unexpected beneficiary of the COVID-19 pandemic lockdowns.

While COVID-19 did not really increase sales that much (+8% in 2020), it really changed the makeup of sales. Best Buy's online channel grew a massive 144% in 2020, and represented about 40% of sales, vs. about 18% in 2019. At the same time, Best Buy operated its stores at limited hours and limited capacity, which reduced its operating costs. As a result, you see operating margins swell from 4.8% to 6.2%. That may not seem like a lot, but on Best Buy's $50 billion in revenue, those small percentage gains lead to huge gains in dollar profitability and cash flow. The company's free cash flow has almost doubled from 2017 levels.

Management deserves credit for investing in a best-in-class online and multi-channel experience even before the COVID pandemic. This, along with an ongoing rationalization of their lease and real estate portfolio, allowed Best Buy to capitalize on what was a difficult environment for many less forward-looking retailers.

Also, like Autozone, Best Buy's focus on shareholder returns has paid off. Best Buy has bought back even more shares than Autozone - an average 7% annual decline since 2017. Unlike Autozone, Best Buy pays a dividend and has aggressively increased it, more than doubling the dividend since 2017, while still maintaining a safe payout ratio of around 30%.

These are textbook examples of how great management can overcome even a difficult business. Best Buy should be lauded, but it is still a RED dot stock. Peter Lynch's famous quote comes to mind: "Go for a business that any idiot can run – because sooner or later any idiot probably is going to be running it." I think that is a good warning in Best Buy's case. Investors considering a long-term investment should tread carefully and pay close attention to valuation.

Target (TGT)

Date first rated: 11/30/2017

Total performance: +302.5%

Vs. S&P 500: +236.2%

Of the three reviewed here, Target was by far the best performing - and most surprising. Taken in a vacuum, there isn't much special about Target. It is general merchandise, big box retailer - essentially a department store. Anyone who knows the history of department store chains knows about their spectacular rises and falls throughout history - witness Sears, J.C. Penney, Montgomery Ward, K-Mart, Woolworths... even Lord & Taylor just last year. It is a cutthroat, no-moat, minimal growth space to invest into.

In 2017, there wasn't much special about Target. Its revenue and store base had been stagnant for more than 5 years. The company bought back shares, but at a modest pace (about 3% annual reduction). It paid an "ok" dividend. But it lacked any of the 3 characteristics we look for: rising revenues, recurring revenues, or a meaningful moat.

Fast forward 4 years and Target was one of the "star stocks" of the COVID-19 pandemic. Sales soared in 2020 and into 2021 - up 20%. With its grocery offerings, Target was deemed an "essential business", allowed to remain open throughout the lockdowns. Target's lagging e-commerce efforts got a huge boost, rising to 9% of sales (from just 2.6% in 2014). The revenue increase leveraged Target's cost base, leading to an 8% operating margin - up almost 100 basis points (1%) from 2017.

The stock price was also juiced by substantial valuation gains. In 2017, Target was valued at 0.5 times sales and 13.7 times earnings. Today those figures have swelled to 1.2 and 18.9, respectively. Improving business results combined with a rising stock valuation is the true "magic formula" for MASSIVE stock gains - which is exactly what we saw with Target.

To be clear, of the 3, I feel Target's success is the LEAST likely to be sustainable. This is about as obvious of a COVID boost as there is. People were at home, they needed groceries and household products, they WANTED new furniture and home decor, and Target was one of the few places open to find both. Stock valuation followed the business success.

However, now that the U.S. is approaching 70% vaccination, cases have fallen by 80% since April, and most of the country has opened up again, there is a very good chance that Target will have trouble sustaining its recent business success. That could lead valuations closer to their pre-2020 levels, which would cost Target a good deal of its recent stock gains.

In any case, this is still a RED dot business. Its continued success, while a boon to investors, is far from certain to continue.