The stock market, like the weather, is cyclical. Not only does it go up and down according to the current financial climate, it also changes in terms of what a great investment strategy might be. Some generalizations about great investment strategies can be made, however.
Rule number one: Don’t listen to the talking heads in the mainstream media. Not only is there a good chance that they don’t know what they’re talking about. There is also a good chance that they are pushing investments that they have some connection with. This happened during the dot com debacle. Investment “experts” were pushing stocks that their company was invested in.
By the time the TV economists are touting a particular hot stock, it is likely the worst time to get in. When a stock is hot, it usually means that lots of investors, mostly mutual funds, ETFs, and other professional investors, have already bought the stock. All they need now is for the general public to start buying in and raising the price so the pros can sell at an elevated price and get out. The sucker on the street gets left holding the bag.
Any investment strategy worth its salt has to take into account this fundamental fact about the stock market. You don’t make money buying a “hot” stock. You make money buying a stock before it becomes hot. A savvy investor seeks out trends before they are common knowledge, before everyone and their brother is talking about it.
Those who chase the hot stock du jour end up buying high and selling low, the opposite of what can make you money in the market. Of course if we knew when a stock was at a low, we could buy it then. If we knew a stock was hitting a high, we could sell it then.
While this cannot be known for sure, there is a class of investors who refer to themselves as contrarians. Their strategy is quite simple. When a stock is cheap and is undervalued, you buy it. The fundamentals of the company must be strong. You don’t just buy a company because it’s cheap. If the company is strong and its low price belies its potential, you buy that company. A good company will gain in value as it is successful in making money over time. Eventually, others will begin to see that this is a good company and will start buying. As more people or institutional buyers go for this stock, the price goes up until the general public sees this as a hot stock and starts buying. When everyone else is buying, the contrarian sells.
I’m not saying that this is easy to do. It takes a lot of skill, experience, and investigation to find those companies, large or small, which are undervalued and are likely to go higher. If you do not have those skills and experience, you can always let others do the work for you.
One way to play the contrarian game on a larger and more general scale is to become aware of whole segments of the market that are undervalued and give an indication of moving ahead in a big way in the near future. That is the strategy I have followed. It means trusting the experts in that market segment, trusting that they know what they’re talking about at a time when no one else is talking about that market. Or, they only talk about it in a disparaging way.
The market segment I am talking about is commodities. What are commodities? The market segment covered by the term commodities is really quite broad. Some may think of the movie “Trading Places” with Dan Akroyd and Eddie Murphy. The movie focused on orange juice but most food products are considered commodities including food on the hoof or on the claw.
Commodities also include things taken out of the ground, like lumbar and minerals. Energy is also part of commodities, oil, gas, and uranium. With the push for ethanol, grains and fuel have crossed over.
It is just now coming into the awareness of the average person that commodities are on the rise. Most have known that oil was going up for a couple of years because they feel it at the pump. What most people still are not aware of is that almost all commodities are rising and in fact are in a bull market that is outshining every other market segment and is still not on most people’s radar.
But the contrarians are not just getting into commodities. They have been buying commodities in various forms for five or six years. Some of them have already made a lot of money in commodities and are prepared to make more. I personally stuck my toe into the commodity waters in late 2002. I did so because a friend of mine recommended that I buy gold. I trusted her and she did a lot of research before deciding to invest.
My first venture was to invest part of my company 403b into a precious metals fund. That was in October of ’02. The price of a share at that time was just over $19. When I retired, I put all of my retirement money into that one fund, as small as that amount was. Today the value of that fund is over $41 and has gone as high as $44. The value of my 403b (now an IRA) has more than doubled.
In early 2003, I bought my first gold coins. I paid $330 each for them. That was with a $13 premium. The actual spot price of gold at that time was $317. Today, the spot price has broken through the $900/ounce level and has since backed down to the upper $800s. I bought my first precious metals stock in September ’03. My entire portfolio, mostly precious metals, base metals, and energy, is up about 200%. That includes many stocks that are losing money and at least a couple of companies that went out of business entirely.
Am I talking about an investment strategy that has run its course? Am I trying to get you to buy into a market segment that is about to flare out and drop through the floor? Most of the people I read and trust do not think so. Commodities are on a roll and aren’t likely to stop rolling for 10 years or more. Here’s why, briefly.
China and India and now several Arab countries are building like crazy. They require steel, concrete, copper, lead, and other base metals for their construction. Will this building slow down? Yes, but not for a while. All of these base metals have gained significantly in value because of this building frenzy but they have not topped out yet.
Food is going up in price now for a number of reasons. Again, as China and India become more prosperous, their appetites change. They can afford to eat more meat. Meat means more than pigs, chickens, cows, and fish. It also means the feed to fatten these creatures. Grains are going up in price as well. And the push for ethanol as a fuel has raised the price of corn and other ethanol-friendly grains.
Obviously energy is running wild. We are running out of oil. Two things will help to extend the life of our dwindling oil supply, alternative fuels and higher oil prices. At precisely the time that oil is decreasing in supply, demand is going up. Did I mention China and India? Our own demand for oil is certainly not going to decrease greatly in the near future. Also, things like coal, natural gas, thermal energy, and uranium for nuclear energy will continue to go up in price.
Finally, the precious metals are not nearing the end of their bull market yet. Gold has broken through its high in the 80s, (about $850). When adjusted for inflation, however, gold would have to be at about $1,200 an ounce to match that price. Estimates from $1,000 an ounce to $3,000 an ounce and more abound. No one knows how high gold and silver will go but with the dollar tanking and the economy in shreds, precious metals are not going to lose their luster soon.
In short, a sound investment strategy is not to go with the favored stocks of the mainstream press, stocks that are very likely near their peak. In fact, the stock market as a whole may be in for a very large and possibly drawn out downward correction. It may not be a good place for your hard earned, if worthless, dollars.
But commodities thrive when other segments are tanking. People still need to eat. People still need energy and roofs over their heads. People still look for something of real value when the value of their currency is plummeting (gold and silver). Commodities have already gone up a lot and some have corrected downward and will correct downward again. But this bull has just gotten started and it’s not too late to jump on if you have the courage.
As always, do not risk more than you can afford to lose. Be cautious about individual stocks unless you know what you’re going. Investigate commodities in the form of mutual funds and exchange traded funds (ETFs). Let others do the homework for you and spread the risk through these vehicles.