YOUR BASIC INVESTMENT STRATEGY
Successful investment in the stock market involves a major decision: what to buy.
Should you buy individual stocks, mutual funds, or exchange traded funds (ETFs—recently developed hybrids of stocks and mutual funds)? Should you be investing in domestic stocks, in stocks and/or mutual funds that represent markets overseas, in large company issues, in smaller company issues, in technology companies, or in higher-yielding financial corporations? And, even more difficult—which stocks, which mutual funds, or which ETFs should you consider?
These decisions sound complicated—but, luckily, there are strategies that you will learn that should almost certainly, almost automatically, put your capital in the right place at the right time, including cash when general stock market conditions are unlikely to favor the ownership of stocks. These strategies—which are not complicated to apply—are discussed in the final portions of this book.
Although the selection of your individual investment holdings is of significance, of probably more significance is the general direction of the various stock markets—domestic and foreign—in which you might invest. For the most part, when the stock market as a whole is strong, the average stock is likely to rise in price, particularly if you invest via broadly based mutual funds, which are more likely to represent the “stock market” than individual stocks.
In other words, if you invest only during periods of generally rising stock prices, the odds are going to be heavily on your side that you will outperform the general stock market—all the more so if you apply successful techniques for the selection of your investments. If you place all or at least a significant amount of your investment capital on the sidelines—earning safe interest flows— during periods of market uncertainty or weakness, you will be able to reduce risk and preserve your capital while other investors are achieving only minimal gains or actually taking losses.
I will show you, in the first section of this book, some simple but highly effective techniques for assessing the likely strength of the stock market that have, over more than a quarter of a century, proven to be successful in determining when stocks have represented good investments and when it has been safer to just maintain cash positions.
Believe it or not, you should be able to maintain and to apply these market-timing techniques that will show you when to be invested, as well as those strategies for picking the best places in which to invest, in probably less than one or two hours per week.
The Best and Worst Mindsets for Profitable Investing
Let’s consider some of the mindsets that investors fall into that really work against making money in the investment markets—mindsets that you do not want to have.
Paying Too Much Attention to What the “Experts” Are Saying
The simple fact of the matter is that market newsletters, financial columnists, and guests on television financial news- casts tend to frequently contradict each other, frequently follow rather than lead the stock and bond markets in their outlooks, and tend to be wrong when, as a group, they are overwhelmingly either bullish or bearish relating to the stock market.
Relatively few stock market advisory letters have had histories of actually outperforming buy-and-hold strategies in real- time investing. For that matter, the majority of mutual funds have not succeeded in this regard as well.
You should keep in mind that the stock market tends to discount news, rising and/or falling not in response to news that has already been released but rather to news that savvy investors anticipate being released in the near or long-term future. By the time magazines, television, radio, and the web have already started to promote a particular issue or market sector—generally after large gains have already been achieved in these areas—it is too late to take safe positions.
Remember: The financial press is usually the most bearish at or near market bottoms and the most bullish at or near market tops.
Chasing After the Hottest Issues
The largest losses in the stock market are often seen in the hottest issues, and many investors take excess risks in un- diversified portfolios of such issues.
For example, many investors who loaded up on hot technology stocks during late 1998–1999, often on margin, incurred extreme losses as the NASDAQ Composite Index declined by more than 77% during the subsequent bear market.
This book offers some excellent strategies for assembling diversified portfolios of investments that are likely to outperform without involving the highest amount of risks. Greed is not necessarily good. Gain with a minimum of pain is very, very good.
Needing to Be in the Game All the Time
As they say among poker players, “there is a time to hold and a time to fold ’em.” Stocks show very nice rates of return about 50% of the time—definitely times to hold them.
Stocks show more indifferent rates of return about 30% of the time. You can probably hold some stronger industry groups or issues, but risks are generally too high to warrant remaining fully invested.
Stocks show losses about 20% of the time. Losses are not always severe, but risks can be very high. These are good periods to move into large or fully cash positions. You may miss the action, good or bad, but even if tracking the stock market is something you enjoy, wait until the market climate turns more positive.
Needing to Be “Right” All the Time
Investors hate to “feel wrong” and love to “feel right.”
As a result, many—probably most—market traders tend to sell profitable stocks too soon because it is fun to cash in profitable trades and to hold onto unprofitable stocks too long—and it is not fun to accept the fact that you have taken a loss (being “wrong”). Market traders often have problems selling stocks that have backed off from their highs because they feel that they cannot sell at a stock below a price that they might have secured in the past. (“I’ll sell when it gets back to its best price.”)
The fear of being wrong often blocks investors from taking any investment action at all.
You will learn totally objective stock market indicators that have had a history of producing profitable trades a high percentage of the time—not all the time, but a high percentage of the time.
If you follow these indicators, it does not mean that you have been “wrong” when losing trades do occur. You will have been right in following an approach that provides favorable probabilities, but not perfection. Some losses are to be expected. It does not mean that your investment strategies have been wrong. It simply means that even the best strategies do not always produce perfect performance.
You will have committed no crime in following an objective strategy, even if some losses are taken. If you can overcome the fears of losing and the fears of being “out” of it, should the stock market rise unexpectedly, and simply follow the timing models you will be learning, then you are likely to perform very well over the long run.
The Search for Something Simple, Useful, and Stable
Both as an individual investor and as an investor of client capital, I (and my research staff) have been actively involved in the search for ideal stock market timing tools. In the process, I have developed many timing models of my own, and I have learned much from other students of the stock market, who have been good enough to share their knowledge with the public—including competitors such as myself.
I have come to a number of conclusions over the years.
Simple Is Better
For one, the simpler the market timing tool, the more likely it is to be successful. For various reasons, the more complicated the timing device, the less it is readily interpreted and the less it remains consistent in its performance.
Changes in Market Behavior Take Place
The stock market has changed its behavior in many ways over the years, perhaps as a result of large increases in trading volume, increased communication of information to the invest- ing public, the greater computer power available for market analyses, and a higher level of investor sophistication. Market reactions to news events have become more immediate. Price movements that used to take days have become more intense and immediate. Market indicators have been modified again and again.
The task at hand is to identify useful stock market forecasting tools that have the ability to reliably, if not perfectly, identify those periods when stocks are relatively inexpensive, based upon their values compared to other forms of investment (good times to buy), and when stocks are relatively expensive compared to other forms of investments, such as bonds (good times to maintain smaller percentages of assets in stocks).
If stocks are the best-valued form of investment around, that’s where you want to put your money. If stocks are priced too high, risks increase, and your money is better placed elsewhere.
These relationships are the key to a set of excellent market timing indicators—indicators that are simple to maintain, that have functioned well (if not perfectly) for more than a quarter of a century, and whose premises are quite logical.
We recommend two variations of these indicators: the Bond- Stock Valuation Models.