The dash to trash

When the stock market climbs or falls, it’s always interesting to see which segments are doing best or worst.

Not surprisingly, the stocks that have done best since the March bottom are some of the junkiest companies out there. This makes some sense because such companies were priced for bankruptcy last spring.

As early investors realized junky companies weren’t going under, they jumped at the chance to bag 200%, 300% and higher returns.

The problem with staying with such an approach, now that the trash rally has had its day, is that it’s hard to see how it can continue. Junky stocks have junky business models with weak competitive advantages, low margins, too much debt, etc. From here, there isn’t a lot of upside, and the downside is becoming more perilous.

In contrast, the best-run companies have hardly participated in the rally since March. Granted, they didn’t go down as far, but it’s nonetheless surprising that investors haven’t turned back to them now that the dash to trash has become stretched.

This is most likely due to the pervasive influence of momentum. Momentum investing is the process of buying what’s moving. If it’s climbing, buy it. If it’s sinking, sell it or sell it short. This process can continue for quite some time…until it doesn’t.

Predicting when is impossible, but predicting that it will end is a given. Or, as Herb Stein put it, “If something cannot go on forever, it will stop.”

At some point in time, investors will realize that junky companies have problems and aren’t delivering. That’s when investors will fall over each other trying to buy franchise, high-quality businesses that make money regardless of how well or poorly the economy is doing.

It’s no fun to be under-performing as the market makes a continued mad dash to trash. But, I’m not foolish enough to chase the heard, and I know it doesn’t work over the long run anyway. Or, as our mothers rhetorically asked us, “if your friends jumped off a bridge, would you follow?”

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Advertisements

Quality will rule

Now that financial Armageddon seems to have been avoided and the stock market is up over 55%, a lot of investors are wondering where to invest next. My answer: quality.

Quality is always a good place to invest, but it may be particularly important going forward. There are a couple of reasons I think this.

One is that quality companies have mostly been left behind in the rally since March. They haven’t completely been left behind, mind you, but they aren’t up 55% like the rest of the market. They’re not up as much because…they were never down as much.

The companies that tanked most from September 2008 to March 2009 were those many thought faced significant bankruptcy risk. When investors realized they wouldn’t go bankrupt (at least, not yet), their prices took off. In some cases, those companies doubled and tripled in price!

Looking forward, such low-quality companies are unlikely to continue out-performing. Significant economic and financial risks still exist, and such companies weren’t exactly healthy to begin with. That’s not the strongest vote of confidence for future returns.

The second reason I think quality companies will out-perform is because they hold all the cards. They weren’t overly indebted to begin with, they had strong market share and superior products, they tend to have excellent growth opportunities due to international markets, they have the financial resources that allows for growth, and they have the management talent to execute.

Add those positives to prices that haven’t really taken off, and you have an ideal situation. When you combine a quality company’s excellent prospects with low historical prices relative to fundamentals, you have a recipe for excellent returns.

As Warren Buffett once said, “If a business does well, the stock eventually follows.” I can’t make any promises about when the quality stocks will follow fundamentals, but I’m very confident it will take place within a 3 – 5 year time horizon.

For those of you interested, I recently reworked my website. I tried to make it more straightforward and my value proposition clearer. Please visit and tell me what you think. I also added my business, Athena Capital, to facebook. Become a fan if you’re so inclined.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

It’s a great time to invest!

As pessimistic as many of my blogs sound about the stock market as a whole, I must admit I’m very bullish about the specific investments I’m making today.

You see, the market as a whole can be over-valued, or in for a rough ride, and yet you can find specific, long term investments that are very enticing.

I’m finding the best investment opportunities I’ve seen since the 2002-2003 market trough (when we were coming out of the 2001 recession).

Not only are the investments I’m finding likely to provide excellent returns, they are also higher quality companies than I usually get the opportunity to invest in.

Usually, large, high quality companies are priced at a premium to the market. Today, though, many great businesses are selling at prices that are at distinct discounts to the market and to my assessed business values.

I can’t remember a time in the last 12 years where I’ve been able to buy such premium companies at such low prices!

I don’t know when the market will turn, or when my specific investments may out-perform, but I do know I’ve spent a lot of time assessing their value and I’m very confident that high returns are quite likely over the next 3 to 5 years.

Now, I just need to be patient and wait for the seeds I’ve planted to sprout and grow. This is a high quality “problem” to have.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.