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STRATEGY

Why "Contrarian"?

Some of the stock picks I am going to write about will probably look rather mainstream at first sight while others will be more obviously "against the grain". The emphasis on the word contrarian should point to the core strategic idea that, whatever you actually do in the market, it has to be based on thoughts that contain at least a bit about what market is missing (or overestimating). No investment makes sense without that bit. Even a "trend follower" investor has to be contrarian in this sense to some extent: if you decide to follow the trend at the moment when everyone else is seeing the trend and the opportunity, you are probably picking the top, no more trend will be there the next day.
Having a university degree in psychology and having worked as an (online) journalist for years I think my competitive advantage in the stock market (if I have any) is to be better than the average investor at understanding what "the herd" is thinking and why, so is what I will focus on when writing my articles here. So I hope my thoughts might have some value for others.

Of course, everything I write is only my opinion and should not replace your own research. I do not know the future either.

Other Basic Investment Principles


There are countless pieces of widespread investing wisdom and i'm sure you know all of them. Some are contradictory, some are stupid - most are actually wise but we still tend to make every mistake in market ourselves although we have been warned by everyone. So in this section I will include what I think I do differently than most and what I am actually capable of consistently following myself (after, of course, having been burnt when doing the opposite in almost each case of what i write below).

This is work in progress, I will add more here over time.

Stop Diversifying on Margin!


Diversification is necessary when you want to avoid heavy losses in short time and it's great when the broader market is in an uptrend.

But there are also downsides, like:

  • An obvious one is, diversification often makes you invest in more stocks than you are capable of researching in detail. You can as well buy a mutual fund or an ETF in this case (ETFs are better, because they usually beat mutual funds, in part because fund managers also have to diversify so much that they have no advantage in the market; also, high management fees often are eating up fund managers' performance).
  • If the market goes sideways your chances to get rich on a highly diversified portfolio are extremely low (except you are basically rich already when you start trading), even if you pick a few winners, when it goes down, being diversified won't stop you from losing a big chunk of your fortune.
  • Diversifying usually makes you have less cash (or even buy stocks on margin), because that diversification gives you the feeling of safety. It makes you much more likely to buy stocks on margin.
At the moment I would take a slightly contrarian stance (i think i never heard anybody saying "do not diversify!") on this topic, too, because I do not think this 10 years lasting bull market will continue forever: I do not diversify much, because in my opinion, it's better to have a big cash position and focus on a few high potential stocks at the moment (September 2018). For the same reasons I would not buy ETF or mutual funds.


Have Tight Conditions for Short Selling


You always have to be very careful before selling a stock short. Remember: The amount you might lose is theoretically unlimited (to actually limit losses, first rule is to always have a stop order as an insurance!). Still, especially in a market environment where all stocks trade at high valuations, obviously it often makes sense to sell some stocks short.

For me, after having been burnt more than once, a candidate stock to sell short has to meet the following criteria:

1. Large caps

Even if you are totally right and the stock eventually goes to zero, you can lose a lot if you are trading small cap stocks that potentially gap up 50% or more one a day and you are stopped out (worst case: by a margin call) at a far higher price than you imagined. I do not short companies with market caps of at least a few billion dollars and I would prefer at least $50b.

2. High debt (or fast cash burning)

Companies without significant debt often remain overvalued for a long period of time, because (even though that is not true, of course) people tend to think if there is no debt, the company can impossibly go bankrupt and so it will "grow into it's valuation" at some point in the future.

3. Low growth

I don't short companies with high growth (expected). Those can, like small caps, go up very fast and make you lose your bet even if your correct in the long run.
I'm looking for companies that used to grow fast but have stopped to (and the company or environment have changed in a way that made me assume there is no way back to fast growth).

4. No extremely low multiples

I look at P/S and EV/Sales, P/E, P/B and compare them to the stock's history and competitors' valuations. For the same reasons as 1. and 3., I avoid stock with extreme valuations (like P/S or P/B below 0.5, P/E far below 10): Even if they are wrong, "bottom fishers" may come in and push the stock significantly higher for a period that is longer than you can afford.


Disclaimer
Of course, everything I write is only my opinion and should not replace your own research. (It's not even a recommendation, it's only a documentation of and an explanation for my own trading.) I do not know the future either.

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