Published:
February 11, 2008
Wouldn't it be nice to have the
ability to time the market, always
buying just ahead of sharp rallies
and cashing out just before stocks
began to retreat?
Over the years, technical analysts
have devised a number of complex
charting tools to aid in this very
purpose. But most long-term
investors (myself included) base their investment
decisions on fundamental factors
like revenues and profit margins --
not stochastic oscillators and
Bollinger bands.
For those of us that aren't in the
market-timing business, venturing
out on the market's seas in the
middle of a raging storm often takes
a leap of faith. Fortunately, as any
treasure hunter will tell you, it is
precisely that churning action that
turns up some of the greatest finds.
Embrace Your Inner Bear
As we all know, the market can be
quite irrational at times, pushing
stocks far above or below what
they're really worth. Yet, while
these swings can be frustrating,
think how different (and boring) the
market would be without them. In a
perfectly efficient market, we could
never buy a stock at a discount, or
sell one at a premium -- every
security would be perfectly priced,
all the time.
It is only through irrational
selling that value investors
occasionally get the opportunity to
pick up a $50 stock for just $25 per
share.
During normal market conditions,
though, these incredible
opportunities generally arise
because of company-specific
problems: rising expenses,
decelerating earnings, product
recalls, etc. Such setbacks can
certainly be overcome, but rarely
overnight.
However, there are narrow windows of
time when we can find dozens of
problem-free companies trading at
sharp discounts. You know these
periods better by their more common
name: bear markets. In times of
indiscriminate bearish pessimism,
thousands of companies are falling
in unison -- and many of those are
doing just fine.
When panic selling invades the
market, it's not uncommon for
three-fourths of all publicly traded
stocks to trend downward. But, after
the steam is let out, it becomes
much easier to find deeply
discounted stocks. Better still,
many stocks will have been pulled
lower by nothing more than general
market weakness, which always
subsides sooner or later.
Obviously, this can set the stage
for a powerful recovery once the big
picture begins to improve. Consider
the sampling of bear markets below:
|
Bear
Market* |
Duration (Months) |
S&P
Total Return |
%
Change One Year After Hitting Bottom |
|
01/62 - 06/62 |
6 |
-22.3% |
+31.2% |
|
12/68 - 06/70 |
19 |
-29.3% |
+41.9% |
|
01/73 - 09/74 |
21 |
-42.6% |
+38.1% |
|
09/87 - 11/87 |
3 |
-29.5% |
+23.2% |
|
03/00 - 09/02 |
31 |
-47.6% |
+28.6% |
|
*Source: Ibbotson
Associates |
|
In the post World War 2 era, there
have been twelve bear markets -- lasting
an average of ten months from peak to
trough. However, after reaching the
bottom, stocks (as measured by the S&P
500) have bounced back an average of
+35.7% within the next year.
Mining for Gold
No one would complain about a gain of
+35.7%. But if this is just a simple
market average, then clearly there are
much bigger profits to be had with
exceptionally undervalued stocks. And
considering bear markets typically push
stocks to valuations that may only be
seen once or twice a decade, there is no
better time to go scavenging.
Consider these gems that appeared when
the tide went out in 2002:
|
Company |
3/01/00
Price* |
2/01/02
Price |
Decline |
Recent
Price |
Cumulative Gain Since 02/02 |
|
Akamai Tech. (Nasdaq: AKAM) |
$278.63 |
$4.06 |
-99% |
$30.20 |
+644% |
|
Amazon.com (Nasdaq: AMZN) |
$65.87 |
$14.80 |
-78% |
$77.70 |
+425% |
|
Apple (Nasdaq: AAPL) |
$32.58 |
$12.20 |
-63% |
$135.36 |
+1,009% |
|
Celgene (Nasdaq: CELG) |
$13.81 |
$6.09 |
-56% |
$56.11 |
+821% |
|
Corning (NYSE: GLW) |
$66.79 |
$7.55 |
-88% |
$24.16 |
+220% |
|
Res. in Motion (Nasdaq:
RIMM) |
$24.50 |
$4.86 |
-80% |
$93.88 |
+1,832% |
|
* Adjusted for dividends &
stock splits |
|
As you can see, quality companies
like Apple (Nasdaq: AAPL) were
battered during the tech meltdown of
2000-2002, only to come roaring
back. And keep in mind, this is by
no means an all-inclusive list.
Forget the Crystal Ball
Unfortunately, the immediate market
outlook during a downturn can be
cloudy, and it can be impossible to
say with any certainty what the
market will do. Events such as
stimulus packages and accommodative
Fed policies may put the economy
back on track quickly, or the same problems that tripped
up the economy may not have worked
themselves through the system
completely and send stocks reeling
to fresh new lows.
Fortunately, there is nothing saying
that you have to pinpoint the
precise bottom to be profitable. In
the chart above, there isn't
anything significant about February
1, 2002. The market didn't actually
reach bottom until September of that
year, yet those who jumped the gun
and bought in early still raked in a
bundle.
Consider Corning (NYSE: GLW), which
was trading around $7.50 at the time
of our snapshot. Just a few weeks
earlier, the stock was changing
hands for more than $11 per share.
Therefore, those who mistimed their
entry and bought at that price would
have seen their investment quickly
plunge more than -30% as the stock
continued heading lower. However,
the shares went on to recoup those
losses and have continued to gain
ground.
Tomorrow's Stars
With all of this in mind, it's never
too early to begin looking at stocks
battered by this recent sell-off.
And there are plenty to choose from.
A simple screen reveals that more
than 5,000 stocks are currently
trading at least -25% or more below
their 52-week high. But many of
these may be down for good reasons
or will not outperform the overall
market.
In the February issue of
Half-Priced Stocks,
editor Nathan Slaughter went in
search of companies with
exceptional potential -- those that
were unfairly punished in the panic
selling, yet still have great future
prospects. In the process, he whittled
down the list of thousands to just
nine of the best. However, to learn
the names of these companies, you
must be a
Half-Priced Stocks
subscriber. To learn more, please
visit this link. |
