You are going to be in the stock market for the rest of your life, and stocks will go up and down. But you will not become rich by guessing that a stock isn't going to move higher because it's already made a good move. Great businesses grow over years, decades, in fact. What may look like the ninth inning to you is really just the second inning.
When the stock market came unglued in 2001, virtually every single publicly traded company saw its shares hammered, including brick-and-mortar businesses (i.e., businesses that you can actually touch and feel—for all the talk about Enron, how many times did anyone walk or drive into an Enron gas station?), businesses that figured to be around until the end of time. Case in point: Yum! Brands, the company that owns Kentucky Fried Chicken, Pizza Hut, and Taco Bell, to name just a few.
There are hundreds of businesses that we know will be around until the end of time, in part because we spend a lot of our money there. Sometimes investors consider this fact and think about buying the stock, only to talk themselves out of it because the stock is "too expensive." Still, these same people make that weekly, maybe even daily, visit and spend their money at these establishments. It simply makes sense to be a part owner of these establishments if you are willing to part with your hard-earned cash there.
When it comes to any investment, the thing you want to focus on is future value and not how much the value has already changed. Interestingly, people have come to grips with this concept when it comes to real estate. People always think their home is going to increase in value. Yet so many investors believe they missed the move, that a stock has already moved higher and therefore they're late to the party. That is a short-term mentality that makes the stock market the casino so many individual investors say they fear in the first place.
The fact of the matter is that you are going to build a portfolio of stocks and buy over time. Your goal is to own individual stocks that are going to trend higher and higher over time. There will be bumps in the road, but don't talk yourself out of prosperity by looking behind. Instead, look ahead.
There is no ceiling for how high a stock can go. If you and everyone you know are spending your money somewhere, then there is a great chance that that company's stock is going to go higher and higher.
Let's take a look at Yum! Brands. If I told you to buy this stock at the end of 2002, your first response may have been "The stock is up 43 percent in the last year, it's too late."
The stock meandered a bit in 2002, and you may have been angry that I had given you a bum stock tip that actually saw the share price pull back. But during the course of the year, you would have bought the stock (you should accumulate stocks in great companies over time) and had an average daily cost of $21. At the end of 2003 the stock was changing hands at $34.
By then I would have been back in your good graces, so you would have had a buddy call me to find the next hot winner, and I would have said to him, "Try some Yum!" His reaction would have been "You gave that to my buddy and the stock is up 48 percent in the past year alone—I missed it." Oh really?
Another year goes by and you keep eating at Taco Bell, but the food tastes even better since every time you pay for your food, you know that you are also paying yourself as a part owner of the company. By now a few more people learn about this notion of buying what you know and they want in, too.
They say there is no way they are going to chase the stock, but I ask them why not? Is the company any less attractive if the upside potential is actually greater than it was a year earlier? If you like the food, maybe the billions of people around the world who haven't had a chance to try it yet will, too. So they go ahead and buy the stock at $34 at the beginning of 2004, and by the end of the year they're up 35 percent.
By now I think you get the picture, literally. The message doesn't stop with Yum! Brands; we could go through this exercise with most of the publicly traded companies that you come in contact with in your daily life.
Okay, so you chase the stock at the beginning of 2005 at $46 and by November 2006 the shares are changing hands at $60, an increase of 30 percent in less than two years, the kind of move that generates real wealth in your portfolio.
Don't talk yourself out of owning stocks because they've made great moves. The fact is you want stocks that are moving higher rather than lower.
When is it okay to chase?
· It's okay to buy a stock that is higher if it's higher because the company is executing, improving the top line, and expanding the bottom line. You can chase a stock after a great earnings announcement and solid guidance.
· It's okay to chase stocks for a trade after a brokerage firm has issued an upgrade, but make sure the stock isn't already up big. Wall Street firms are often late to the party, and when they say buy at the top, it's time to consider selling into strength.
· It's okay to chase hype as long as you know it's only hype and you're willing to take a quick profit or quick loss.
· It's okay to buy the dip when it is unlikely the news that drove the stock lower will actually impact earnings.
· Don't buy the dip when the stock is down on really bad fundamental news. Fundamentals don't improve overnight.
At the end of the day, it's okay to chase if the stock isn't fully valued. You don't have to be the first investor in at the very bottom. There isn't an Admiral Perry Award, and the extra risk simply isn't worth trying to make an extra buck or two.
With respect to dips, take your time—the so-called dead cat bounce, where a stock bounces after a sharp decline, is also too risky a move for the effort.