I want to pose a hypothetical.
The consumption of apples has been steadily rising (at least in this hypothetical). Countries like China, Japan and South Korea have made the apple their national fruit.
The most sought after apples are those from Australia and New Zealand.
You have a bunch of cash sitting in your bank account ready to invest.
It’s a no-brainer, you go out and buy an apple farm.
Investing in stocks like you’d invest in apples
Now, the demand for apples isn’t always going up. Some months you sell less and others you sell far more than the average. While your short-term earnings are lumpy, your books say long-term earnings are rising.
Now imagine you’re in a short-term slump. China, Japan and South Korea are cutting their apple imports. Farmers who’ve tried to use borrowed money to increase returns go bust.
This forces many to sell their farms at prices less than what they paid.
The slump continues. It’s now gone on for 12 months.
Some farmers are getting nervous. You find out more farms are sold, at still lower prices than you purchased your farm.
What I’d like to know is your reaction…would you also cut your losses and tell the agent to sell your farm at the next best price?
Of course not!
Yet investors in the stock market do this all the time. Even if they bought a stock and think it’s worth X, they’re more than willing to sell just because someone offers them X-1.
Your golden ticket for bargains
You can never be 100% sure a stock is worth X. Even if you are, you won’t be right for long. Like the seasons, business values steadily change over time.
But if you’re confident a business is worth at least X, accounting for a margin of safety, why would you sell the next day or in the following months because the stock price has dropped?
I should probably mention the role uncertainty plays.
There are two types of stocks you come across. The first type has massive potential. These stocks trade for pennies not dollars. Most investors might not even follow some of these companies.
Second are the stocks that also have bright futures and trade on sky-high multiples. Some of these stocks might even trade for triple digits. Every man and his dog own a piece of it.
Free Report: Discover four red hot ASX profit plays for 2018. Read Now.
The difference between these two types is certainty. The first stock has massive potential, but the future is very cloudy. The second also has great potential but its earnings and growth trajectory is pretty certain.
Investors like certainty. They like to buy stocks which have a high chance of climbing each year.
You can make money on both kinds of stocks. But with one you’re taking a risk and with the other you’re betting that growth will supersede the high price.
The great thing about a lot of uncertainty in the market is that everything goes on sale, both the speculative punts and the wonderful companies.
Take a look at what Reuters wrote last week:
‘A renewed slump in Chinese shares and a sobering set of global factory surveys sucked world markets lower yesterday, while the euro and Mexican peso were both jolted by political developments.
‘…Shanghai’s bear market lurch had continued overnight, with losses of up to 3pc as firms await some $34bn (€29bn) of US tariffs this week and new business surveys showed some worrying signs of deterioration.
‘Europe suffered a thud too, with the Stoxx 600 share index dropping as much as 1pc and the euro down 0.5pc against the dollar as differences over immigration threatened Angela Merkel’s German coalition government.
‘The trade strains meanwhile were compounded by an EU threat to hit the United States with almost $300bn in retaliatory tariffs, lingering concerns over US President Donald Trump’s dislike for the World Trade Organisation and by data showing the weakest Eurozone manufacturing sector growth in 18 months. “There are a lot of uncertainties out there,” said Rabobank’s Head of Macro Strategy Elwin de Groot.’
I love it when a market is uncertain. And if you like buying apple farms for X-1, you’ll love it too.
Editor, Money Morning
PS: He predicted Japan’s 1989 economic collapse, the dotcom AND subprime busts, as well as the populist wave that brought Brexit and Donald Trump…all well before the mainstream media.
Now controversial economist and bestselling author Harry Dent returns with a chilling warning for Australia…In Dent’s new must read book Zero Hour, he lays it all out. You can pick up your copy here.
PS: Aussie finance expert reveals four Aussie stocks he believes could be top performers in 2018. Get your free report now.