Short run you're dead too
Markets can remain irrational longer than you can remain solvent.
It's a truth that many investors seem unable to internalize, especially as stocks hit new highs or new lows -- which is, of course, exactly when this truism has, in some ways, the most value of all.
We were reminded of this the last couple of days, as Netflix surged to new highs... and then, kept going higher.
Some investors, I know, wonder at such a time if it isn't exactly the kind of time they shouldn't buy. "What goes up must come down." And of course, "Buy low, sell high." So much of what we've learned tells us we've already missed the boat -- or even, if anything, it's time to sell.
It may help us to rethink this approach if we take an example that's less immediate, and more historical.
Let's suppose you considered buying Microsoft stock in 1986 or 1987 -- not long after the IPO -- but didn't. Assume further that you watched the stock in the coming years as it doubled, then tripled, then doubled again, and so on, on up into 1995, by which time, you're kicking yourself.
So as 1995 opens, you're watching the stock break up to a new high. Should you buy? It sure seems daunting. But if you had bought into Microsoft even then, you could easily have sold it 3-5 years later for 5 times, even 7-8 times your entry price.
It's an old saw that we should buy low, sell high -- but you should never be afraid to buy high if you think a stock is going higher. The way to do this is to look for a "base on base." A stock breaks to a new high -- closes above it, and then maintains it.
The market confirms this action, and the stock forms a base at the new highs. It digests the new price level, processes the information, and consolidates.
Indeed, trying to buy low and sell high means you're periodically re-stocking your portfolio with weakness.... counting on companies that have not earned any kind of support from the market lately to turn it around and become market outperformers.
On the short side, meanwhile, your profits face a ceiling -- your maximum gain is 100 percent, and is normally less. We go short occasionally, and, indeed, at some strategic times, have been significantly short. But we always do so with the knowledge that one can only gain so much.
By contrast, the upside on the long side approaches infinity -- 100 percent, 1,000 percent, 10,000 percent. More. No matter how high the price goes, it is always possible it could go up more. Think Microsoft 1995.
In the case of Netflix, we keep seeing new highs, just as one does with SalesForce.com (CRM). We own both. And we lend our encouragement to those who seek to buy high and sell higher.
To those who are suffering on the short side on either of these stocks, we would be happy to offer some reassurance, but it is difficult right now. The price may seem crazy high. But the market can remain irrational longer than you can remain solvent.
Ownership disclosure: At the time this product was published or posted, Damon Vickers & Co. and Nine Points Capital Partners owned shares of Netflix (NFLX) and SalesForce.com (CRM), and had no position in Microsoft (MSFT).
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