Aggressive players who have decent stomachs for volatility might consider becoming "special-situations long-shot investors." This involves assembling a portfolio of stocks that have the potential to double or even triple over the next three to five years.
The math behind this method is pretty compelling. Say you pick 10 long-shot stocks and three triple over the next five years, while two double, three stay the same and two lose 50%. You'll wind up with an impressive 11.2% annualized return. Better yet, your annualized returns will total better than 19% if all of this happens in just three years.
This is basically private-equity investing at its finest. The key is use a healthy dose of skepticism and common sense in putting your long-shot portfolio.
I've used Value Line's list of highest-potential-return stocks with lots of success over the years. You just look at each potential stock and ask yourself:
- Does it make sense to think that this stock could achieve big returns?
- What are the odds of that really happening vs. the stock winding up on the scrap heap of market history?
I also scour filings and reports from famous high-return investors like Arbiter Partners, Glacier Peak Capital and David Nierenberg's D3 Partners to find good long-shot candidates.
Surprisingly, I've managed to put together a decent portfolio of long shots even with the market's current high valuations. Let's check some names out:
Although these stocks' short-term results have been weak, I'm highly confident that I'll be sitting on enormous gains on all three in five years' time.
Homebuilder Hovnanian (HOV) looks like a good long shot.
Its returns should be way above average over the next five years if the company simply manages to stay in business, continues to pay down debt and strengthens its balance sheet. Any improvement in the business itself from housing's long, slow will just be icing on the cake.
Value Line's latest edition has some additional candidates that seem to pass the common sense test.
For example, fertilizer giant Mosaic (MOS) has seen poor short-term results as weak Chinese and Indian demand for potash hurt recent results. However, consumer demand for food (and farmers' needs for higher crop yields) aren't going to go away. In fact, both should increase along with the global population in the years ahead.
As an added bonus, this long-shot stock actually pays a generous dividend. So, you can collect a 4.04% yield while waiting for global food demand to drive the stock higher. Value Line thinks MOS could trade as high as $70 over the next three to five years, up from about $27.50 today.
It projects long-term stock prices for both at more than 2x their current levels, while both also offer double-digit dividend yields. Gladstone yields about 10.6%, while Apollo pays out more than 14%.
Now, the short-term ride for both could be bumpy, as each have some oil-and-gas exposure. We might even see a dividend cut from Apollo before all is said and done. However, I think both stocks offer potential for huge long-term returns.
The Bottom Line
Mega-investor Bill Gross added his voice today to those saying investors should expect lower returns from stocks and bonds.
Gross wrote in his latest Investment Outlook that he doesn't like bonds or most stocks, and that "negative returns and principal losses in many asset categories are increasingly possible unless nominal growth rates reach acceptable levels."
The man who made Pimco (PHK) into Pimco was even more pessimistic last week, telling Reuters: "The artist Christopher Wool has a word painting [that reads]: 'Sell the house, sell the car, sell the kids.' That's exactly how I feel -- sell everything. Nothing here looks good. The stock markets should be down massively, but investors seem to have been hypnotized that nothing can go wrong."
If "lower for longer" is going to apply to equity returns in addition to interest rates, then investors will have to change the way that they approach the market. In a low-return world, adopting a private-equity mindset and focusing on long-shot stocks like the seven names above might be one of the best ways to reach your investing goals.