George Smith: ‘I was reading the latest Forbes and I came across an article by Jim Michaels in which he stated that leadership is more important than the product (over-simplifying). How can a person check on management to see if they are great or not? A stock will reflect it, but by then it is too late to invest.’
☞ All but impossible. You can sometimes spot the real stinkers, and weed them out – a prison record can be a useful tip-off, for example. And you may be able to find the 50-year-old Jack Welches and Warren Buffetts and Hank Greenbergs, and possibly ride their next 15 or 20 or 25 years. (I first wrote about Buffett around 1983. Can someone please tell me why I didn’t by 10 shares of his stock? Or just take me out and shoot me?) But it’s tough to make these calls. Very often ‘the most admired companies’ on Fortune‘s annual list wind up being rotten performers the following year. One more argument for index funds?
Tina Tolins, MD: ‘No, I don’t know “the old expression about bulls, bears and pigs.” Could you enlighten me?’
☞ The bulls make money and the bears make money, but the pigs get slaughtered. Actually, of course, the bears generally get slaughtered, too, both because the market has an upward bias over time and because, even if you’re 100% right, you can get totally wiped out in the meantime. I have a friend who lost, in two days, everything he had worked his whole life for. He shorted way-out-of-the-money Amazon calls, which was a license to print money. Amazon was wildly overpriced already, and there was no risk at all to collecting these call premiums unless the stock jumped, like, 100 points in a week. He was completely right about Amazon – but too early. The stock jumped 150 points that week (or whatever). Come to think of it, this sad experience may also be covered under the ‘pigs get slaughtered’ rubric.
Meanwhile, for every old saw that says one thing, there’s another famous old saw that cuts the other way – in this case, I guess it would be, ‘cut your losses and let your profits run.’ In other words, don’t sell just because something has gone way up. But if I had to choose one saw over another – especially in a retirement account where you don’t pay a tax penalty for selling – I’d chose the former. Because usually, if a stock goes up a lot, it becomes less of a tempting value. And I like tempting values.
Then again, to the extent Jim Michaels of Forbes is right – and Jim, dean of financial journalists, is about the wisest guy around – you might look at it a different way. Let your profits run, at least in some situations, because the management that’s smart enough to be a winner this year may well just keep being smart, and winning, year after year. I.e., to some extent, stock prices themselves can identify good managements. By the time I wrote about Buffett, his stock had climbed from $16 to $300. But still had (at today’s prices) $67,900 to go.
Unfortunately (well, witness Amazon at 250, now 15) it’s not this simple. One more argument for index funds?
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