Caution is boring.
No guy ever rushed into a bar to wow his buddies with “crazy” stories about extreme acts of risk-avoidance.
No one ever boasted, “Hey guys! Did I ever tell you about the time I refused to ride a motorcycle?… or what about that time I boosted the coverage on my pet insurance?… pretty crazy, right!”
But ironically, caution is often the prerequisite to thrills. Without cautiously packing a parachute, for example, no one ever seizes the thrill of jumping from an airplane (and surviving).
And without cautiously squirreling away cash from time to time, no one ever captures the excitement of investing in a high-flying stock.
In this month’s issue, we’ll examine a few aspects of caution that contribute to the thrill of successful investing.
It’s not as boring as it sounds!
Now that stocks are trading at record-high valuations, some subscribers have been asking, “What’s the best way to hedge against a possible sell-off or bear market?”
I’ll offer a two-part answer to that age-old question.
- Part I of my response is a simple and unimaginative one: Hold cash.
- Part II is less simple: Concentrate most of your investments in “megatrend” opportunities.
At first blush, Part II of my response may seem to conflict with Part I. But I see these two parts as complementary components of a disciplined long-term strategy.
Let’s begin by examining cash.
Nothing Beats Cash
Cash is the one and only reliable vaccine against capital loss.
Like all effective vaccines, it provides no visible therapeutic benefit. It doesn’t make your hair grow, improve your eyesight… or lower your golf handicap. It simply repels harm and preserves your financial health.
Cash is the one and only infallible hedge against loss. It is risk-free and inert — just hanging out waiting for an opportunity, like a baseball pinch-hitter.
And importantly, cash is the starting point of every successful investment. Without cash, every opportunity is a non-starter.
I remember an old conversation with my dad when I was a cocksure and naïve 25-year-old. He and I were discussing prospective investments, and he mentioned one particular investment that would have required an initial $20,000 commitment.
I replied brashly, “Just $20,000? That’s not a lot of money.”
He glared back at me and said, “It is if it’s your last $20,000.”
I felt like an idiot, as well I should have, and I’ve never forgotten those words. Cash occupies a very unique and essential place in the world of investing; there’s nothing like it. Cash is both the repository of accumulated wealth and the seed of future wealth creation.
If you don’t have any, you won’t ever achieve investment success. That’s a cold, hard FACT. And yet, most investors fail to appreciate the value of cash. They tend to think of it as “dead money” that yields nothing.
But that’s not true.
Cash is everything. You can’t buy a great stock with cash you don’t have.
Investors who commit all their cash to a random hodgepodge of investments will not have enough capital available when the truly exciting opportunities come along.
For this simple reason, I recommend maintaining significant cash levels at all times.
While true that cash will “underperform” stocks most of the time, cash “outperforms” stocks when you need it most… when stocks are falling. For this reason, cash is a helpful sleep aid… and also the fuel of future gains.
Theory and Practice
Cash is like stored kinetic energy — like the water behind a dam, just waiting for the moment to cascade into the opportunity that can power major investment gains.
Ideally, you want to deploy that cash when a given stock is cheap. But sometimes “perfect is the enemy of good,” as Voltaire once said.
No one ever knows for certain when a cheap stock has become “cheap enough”… or when a modestly valued stock has fallen as low as it’s going to go, before making a new, major move higher.
The best we can do is to buy in the vicinity of low valuation, without being excessively fastidious about it. Some of the greatest stocks never become classically “cheap.”
From the moment Amazon (NASDAQ:AMZN) became a public company 24 years ago, its stock has never traded for less than three times the valuation of the S&P 500 index. And its valuation has averaged 36 times earnings during that time span.
In other words, Amazon shares have never been classically cheap during their entire trading history. Never.
And yet, any investor who has ever paid 36 times earnings for Amazon shares would be sitting on a big, fat profit today. Even more incredibly, any investor who purchased Amazon in early 2016, when the stock was trading for a stratospheric 500 times earnings, would be enjoying a gain today of more than 400%!
Obviously, buying low is better than buying high, but buying great stocks matters more than valuation.
This Amazon case study brings me to the second part of my answer to the question, “What’s the best way to hedge against a stock market sell-off?”
I’ll elaborate more on that on Thursday — stay tuned.
P.S. Louis Navellier’s initiative, Project Mastermind, is programmed to find a unique set of stocks that could go up faster than any others — AND with minimal risk. Just one or two could help you see incredible gains. Get the full details on Project Mastermind here.
On the date of publication, Eric Fry did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Eric Fry is an award-winning stock picker with numerous “10-bagger” calls — in good markets AND bad. How? By finding potent global megatrends… before they take off. In fact, Eric has recommended 41 different 1,000%+ stock market winners in his career. Plus, he beat 650 of the world’s most famous investors (including Bill Ackman and David Einhorn) in a contest. And today he’s revealing his next potential 1,000% winner for free, right here.