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Stock Love Is in the Air

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But don't be afraid to cut the wrong one loose.

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A friend asked: What do you make of this rally? Is this May 2003 (the beginning of a 4-year cyclical bull market), or May 2008 (the beginning of dramatic stock-market declines)?

The May 2003 rally turned into a cyclical bull because the economy started to recover, but more importantly, earnings growth started to outpace GDP growth (margins expanded). Today's rally is predicated on the fact that the US isn't going out of business - which is great news, but not good enough for this to turn into a sustained cyclical bull. Investors will soon realize that the growth prospects going forward aren't like they were from 2003-2007.

We're going through the consumer deleveraging that will depress the economic-growth rate for quite awhile. I'm not betting on much margin expansion for the corporate sector as a whole. Though cost-cutting helps, sales growth isn't there to exert economies of scale. In addition, investors are still looking at past earnings as a guide for stocks' earnings power. The cold shower of reality is that the past has passed. This should force investors to revalue their stocks.

A secular bull is out of the question, as overall stocks are still too expensive. Depending on what "E" you use in the P/E, S&P is around a P/E of 15-22 - not cheap.

This is a stock-picker's market. But owning stocks isn't good enough: You need to own the right stocks, the ones that meet quality, value and growth criteria. Though stock love is in the air, don't fall head over heels. We're in an environment where being a buy-and-sell investor is paramount. It's important to sell the stock when it reaches its fair-value level. Remember: The cyclical bull market giveth, and the cyclical bear market taketh away.

If you overpaid for a stock -- in most cases, because earnings power was overestimated, or the margin of safety required wasn't high enough, or both -- don't let "anchoring" drive your decision. Anchoring is something we all actively need to overcome (myself included); it's very natural, but it's the wrong thing to do.

When we lose money on a stock, we "anchor" our sell price, based on what we paid for the stock. We feel the need to at least break even on our purchase, as losses cause us pain. Thus, we don't want to sell the stock at any price below our purchase, even if our research leads us to believe that the company isn't worth the purchase price anymore. Instead, forget what you paid for your stocks, and revalue them again.

No positions in stocks mentioned.

The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

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