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Rule #1 - Do not lose money! Rule #2 - Never forget rule number 1! ( by: Warren Buffet )For comments or questions please email: : admin@equityresearch.com |
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Investment BubblesThere have always been bubbles in the market. You can ride a trend and make tons of money in the process. However, you need to answer one very important question with utmost scrutiny and accuracy. When should I get out of the market? What is your exit strategy? If you are like most investors, the news or something else just looked good. Maybe your friend was making a killing in real estate and you decide to do the same. People think about the money they are making and find happiness in their greed and new wealth. The problem is that people often don't like to think of the bad times that will inevitably come. Also, people don't like to do their homework or they don't know how to do their homework. Because of this, most people have no exit strategy.What usually happens is that the smart money will exit first. Some other investors have a long term view and think they should just ride it out long term. Other, better investors, follow the smart money quickly. Lagging investors are those that didn't do their homework. When the crisis hits, they start doing their homework, but homework takes time. Because they are unprepared, they will be the last people to sell and that means they will lose the most money. These are the every day people. That is why one of the rules of investing is to do the exact opposite of the average small investor because they almost always get it wrong. Bubble WarningsThere are so many investment professionals out there. Did you know of any that warned about the bubbles before they happened? Some people know there is a bubble, but you never hear about it. Almost everything you will hear is that everything is great and to put your money into this or that. Don't be negative. That's what people say. The thing is that nobody wants to put themselves on the line. The few people that have developed a real exit strategy and understand the bubble economics are bound to make a fortune. You need to have a real exit strategy in place.Rule of ThumbIt's generally a rule of thumb to get out of something that drops 20% in value. The reason is that it is a lot to drop. If you are at least enough aware that your are riding a bubble trend, you can set your portfolio up to sell if it drops 20%. This could potentially save you 40% of your money.Bubbles Violate Investment PrinciplesInternet BubbleThe internet bubble was obvious. New internet companies would have almost no earnings, no track record, and huge valuations. People bought things because of an idea of what a company might do. The fundamentals of track records, earnings, and such were not followed. That is why Warren Buffet stayed out of the internet stocks. He said, “I don't understand the companies or how they are making money and for that reason I am staying out”. Valuations were seeing new highs every week. The PE ratios were way higher than normal. If you had done your homework, you would have noticed that most of the internet companies do not meet your fundamental investment criteria of stable earnings over a long period of time and you would have stayed away. If you decided to ride the trend, then it should be considered speculation and money that can be lost should be set aside. In any case, there must be an exit strategy.Real Estate BubbleHome prices have been relatively stable for a long long time and suddenly the values shoot up like crazy. Here is how the bubble violates investment principles. These types of investments haven't historically made anywhere near this kind of money. The historical earnings do not match the current trend. This is a clear warning sign that the trend is not going to continue.The other factor is that if you take the incomes of households and figure out what they can afford it was quite obvious people were lending way more money than people could pay back. You can't buy a $500,000.00 house with no money down and making $50,000.00 per year. Some of the stuff the mortgage people were doing was crazy. Lots of people thought it was crazy too, but many get blinded by greed. If you did your homework, you would have known the trend couldn't continue and you could then get out in a timely manner. However, keep in mind you are speculating when you go against sound investment principles. SummaryBubbles will occur again. It is likely that the next bubble will be in energy stocks. People are way focused right now on getting away from fossil fuel. In addition, the demand of oil is beginning to outstrip supply. Even though there was a recent oil bubble, you can expect oil companies to continue to make obscene amounts of money as demand more heavily outstrips supply. Then, alternative energy stocks are going to boom and become the next trend. If you want to invest, look for stable companies, a margin of safety, stable earnings, and an exit strategy. Don't go for the new obscure company that you think will make you a millionaire in one year. |
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