Still Chasing Big Momentum Stocks? Stop

In would be an understatement to say that recent years' market action has not been kind to value investors. 2020 year to date through Sept. 10 saw the Nasdaq Composite rise by 21.7% while the S&P 500 gained just 3.4% and the Dow dipped by 3.5%. The Russell 2000 small-cap index was much worse, dropping 9.6%. Focus strictly on small and mid-cap value and performance was much, much worse than even the Dow Jones, S&P 500 and Russell 2000 indicated. Meanwhile, story stocks like Tesla , Zoom Video , Peloton , Etsy , and Fastly surged by 150% to 465% year-to-date on little to no profits at all. Their price to earnings (even using 2021 estimates) appear ludicrous. At the end of last week, value stocks were at their lowest relative performance levels vs. growth names in history. The Nasdaq 100 recently sold for a higher ratio to the large-cap S&P 500 than it did at the exact top of the tech/internet bubble in March 2000. Back then, market historians, as well as individual investors, came to understand that the jig was up. Tech stocks crashed dramatically over the next few years while value came back into vogue. Many high flyers like Oracle , Microsoft and Cisco had become so overpriced that they didn't recover their 1999-2000 peak prices again for about 17 years. Today's valuation discrepancies represent three standard deviation variations. What does that mean for you? Two standard deviations cover 95% of all possible future outcomes. More rarely seen, three standard deviations, extremes suggest a reversion to the mean is coming a whopping 99.7% of the time. Knowing that, only fools, or extremely short-term traders, should be playing momentum stocks these days. Many of the hottest names have already pulled back from 5% to 25% from recent peaks. There's much more risk and scant reward potential for those betting on even more extreme valuations rather than regression towards normalcy. Why even think about playing a game where the odds are 99.7% against you? Conversely, putting money to work in out-of-favor small and mid-cap value-oriented stocks appears likely to generate outsized gains as the mood shifts, as it inevitably will, like it did following March of 2000. See my previous Real Money Pro articles for lots of good value ideas, which seem primed to surge in the coming months and years. Most of my picks since March of 2020 have outperformed the tech sector despite facing headwinds from the investment macro-environment. When tailwinds finally kick in, I expect many of my selections will double or triple over the next year or two. Here's one more noteworthy side observation. Mom and pop investors have been busy withdrawing money from their equity mutual funds. The 4-week moving average for the period ended Sept. 11 saw $13.6 billion in weekly redemptions. The general public almost always gets their market timing exactly wrong. Thus their adamant bearishness should be viewed as a positive indicator. Here's an older chart of equity fund net purchases and sales from Oct. 1, 2013 through Dec. 17, 2014. Individuals took the September to mid-October declines as a reason to sell low. They then became big buyers of equity funds only after the market moved back up. When the mood turned negative again in mid-December of 2014, people once again became net sellers at decidedly worse prices than were available just weeks earlier. Knowing most non-professionals have been net sellers gives me confidence that it's safe to be accumulating shares. In general, I'd focus on owning small to mid-cap value companies but there are certainly quite a few larger cap stocks which also remain out-of-favor and very cheap. Traders wishing to play this theme can do so via purchase of any of the value ETFs listed previously. I also favor using closed-end funds in the category, trading at large discounts to their present day NAVs (net asset values). Two of my favorites, for those who don't want to pick their own stocks, are Royce Value Trust and Royce Micro-Cap Trust . Year to date and trailing 52-week returns have been lackluster but these funds are well positioned to surge as value bounces back. I took huge positions in both funds in early 2016 and told Real Money Pro readers to do so, too, when the market got off to its worst start to a new year ever. By Jan. 6, 2017, RMT had beat the S&P fund by 88.8% while RVT outperformed by 121.6%. Stop chasing big momentum stocks. That game is over or probably close to over. Take profits on growth favorites that make no sense on fundamentals. It's time to go smaller while leaning towards value. (MFST is a holding in Jim Cramer's Action Alerts PLUS member club.Want to be alerted before Jim Cramer buys or sells it? Learn more now.)

Still Chasing Big Momentum Stocks? Stop

Here I'll show you why it's time to take profits on growth favorites that make no sense on fundamentals. I'll also show you where to put your money instead.

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