So the New Year is upon us at last. I have thrown out a few ideas and predictions for the stock market in the year ahead, and it's my hope that these cheap stocks will allow us to make some money over the next year or two. But, before we move into Monday-night party mode to celebrate the random turning of a calendar page, I would like to share some thoughts and ideas that might be even more helpful than a handful of stock ideas.
These market maxims just might help keep your approach to investing businesslike, as Ben Graham suggested many years ago -- giving you the thought processes needed to stay calm, and buy fear and sell greed. None of them are entirely original, and have been stolen part and parcel from some of the greatest investors in history. They have served me well for a long time now, and I hope they work for you, too.
First and foremost are book-value matters. This is the single most important variable in stock selection, in my opinion. You can keep the entire income statement and just give me the balance sheet. From the absolute level of the book value and growth rate, I can determine pretty much everything I need to know about a company. Everyone else focuses on earnings, and that is exactly the wrong tack.
When approaching the stock market, react -- do not predict. All the stories of people that successfully predicted some extreme market movement, and made a fortune at it, do make for good reading. However, it is usually due to luck far more than to skills. If you read about all the amounts of money lost trying to predict market moves, you would find yourself working through a library. From time to time, the stock market will create an enormous amount of opportunities when fear holds investors in its chilly grip, and when selling is wanton. During those times, be a buyer. Conversely, it is best to be a seller when the champagne is flowing and everyone is bragging about all the money they made in the stock markets' new world order.
In short, do not do what everyone else is doing. I talk to traders all the time about this. I patiently explain that, by trading the same stuff everyone else does, they pretty much guarantee lackluster results. I suggest that, as an example, they focus on stocks of companies whose CEOs and CFOs are buying. We saw gains in 75% of the more than 350 stocks that qualified this year, and the average gain on all positions was 33%. Why not concentrate on those? There is some good deal of evidence that traders would do well to cull the herd of falling knives and find those names that have near-term technical or statistical tendencies to rise.
After folks agree with me, they tend to point out that Apple's (AAPL) store in Billings, Mont., had long lines last weekend. They'll point out that the squiggle line is close to crossing the choppy line in an ascending diamond reverse mountain pattern, and they need to jump on that sucker before it breaks out. Do not be that guy. Look for niches and situations that give you an edge, and concentrate on those scenarios. If you want to play around, head to Vegas for a weekend.
Investors should buy businesses, not electronic tickers. Think long-term and ignore that quarterly short-term focus of Wall Street. A penny or two of variation in quarterly earnings is pretty much meaningless in determining what the hotels in Sunstone Hotel Investors (SHO) will be worth in five years. Think like a private-equity investor and buy unloved assets no else wants, and own them for a long time. When everyone else in the market loves them and the assets sell at a premium, go ahead and sell them to the clamoring public.
To thrive as a long-term investor you must first survive. When approaching a stock, the two most important questions you must ask yourself are: (1) Is it cheap? (2) Can the company survive? If the answer to both questions is "yes," you usually have a stock with a margin of safety, and over time the upside should take care of itself.
Read everything you can. Know what's going on in the world, in politics and in the markets. A working knowledge of social and demographic trends and events will help you understand why a particular stock is cheap and what its prospects are for survival. Make it a point to read those who disagree with you, and those who approach markets differently from how you do. Be open-minded and only be dogmatic about book value.
The hardest thing you will ever do is to buy at the point of maximum pessimism. Buying coal stocks right now is as difficult as buying European banks had been last year. When no one likes a company, sector or asset, and they are selling as fast as they can, it is time to evaluate the situation as a buyer. The best investments you will ever make are when you are a buyer of last resort in a panic.
It's called asset-based value investing. It requires research, discipline and patience. It does work very well, however -- and, given most people's short-term focus and need for constant action, it is not a very crowded field. I doubt it ever will be.
Happy New Year to all, and thanks once again to all our readers and my fellow contributors. I especially want to thank the Real Money editors for another year of making me look much smarter than I actually am, and for tolerating my ridiculously poor typing skills.
Good luck to us all in 2013.