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When to Buy Stocks in a Hot Market

Castlepoint Blog: Kendall's Counsel, The Point
September 01, 2021

This month’s article was written by our portfolio manager—and newest addition to the team—Adam Lee.

Here at Castlepoint, we often hear these very reasonable questions: Why should I invest in the market now? Isn’t it at an all-time high? Should I wait for it to come down? Here’s the short version of the answer to those questions: you should invest now, right now. But, if you want to know more, there’s a longer answer too. Let’s start with the basics:

What is a stock?

This one is simple. A stock is a little-bitty piece of ownership in a company. This means that when a company makes lots of money, they will literally start sending some of that money to you. There’s some complexity in exactly how they get you the money (dividends, stock buybacks, etc.). But, the principle remains true; if you own stock, these total strangers will wake up every day and do their best to send you as much money as possible. It’s nice to be an owner, isn’t it?

And, if strangers sending you money wasn’t cool enough, it’s worth knowing that as a company grows and prospers, your stock will go up in value. But why? 

They might send you even more money in the future!

That’s right. It gets better. Many companies have a huge amount of future potential. They’re developing new medical technologies, building better cars, or literally landing spaceships on their rear-ends to reuse them. All that potential is worth something.

But, wait a second: as we know from living our lives, potential doesn’t always pan out. For example, storms ruin the last two days of your long-awaited beach vacation. First round draft picks end up riding the bench in the NFL. My half-kept promise to clean the garage last weekend dramatically underwhelms my patient and loving wife. As Yogi Berra once said, “It’s tough to make predictions, especially about the future.”

The value of potential is tough to measure.

When we’re in the midst of a recession, people kind of freak out. Companies aren’t making as much money as they were before, and people certainly don’t want to hear optimistic stories about the value of potential.  “Are you kidding me? The world is collapsing before our very eyes! Things will never be the same! The economy is toast! This time is different!”  So, as earnings shrink and rosy views about potential fade, stock prices fall.

Of course, the opposite can happen too. The late 90s hold countless examples of wildly overhyped internet companies. People were too excited about the potential. For example, in February 1999, pets.com sold $80M+ in stock to investors.  Less than 2 years later, they were out of business1.

So, why wouldn’t we try to time the market? How do we know the best time to invest is right now?

This is a very reasonable question. When we see people paying a lot for potential, why wouldn’t we sit on the sidelines and wait it out? Let things calm down a bit? Wait to buy in until the next “low”?

Because, we don’t have a crystal ball.

Around the same time pets.com was imploding in spectacular fashion, there was another late-90s tech start up that also had its back against the ropes. That company had never made a profit; its stock price had fallen by more than 90%2. By all accounts, this was yet another sad tale of an “overvalued” tech stock crashing back to reality. But, unlike pets.com, that company sold books. And, it survived.

That company is Amazon. They sell lots of stuff now, not just books. As of this writing, they are the fifth most valuable company in the world. I repeat: the fifth most valuable company in the world3. Sure, it would have been nice to wait to buy Amazon’s stock at its absolute low in 2000. But, there are a couple problems with this idea.

First, how do you know where the absolute low is? Even if you bought Amazon before its 90%+ “crash,” you’d have seen 17%+ annualized returns4. Alternatively, if you waited too long after the crash thinking Amazon might go even lower, you might still be waiting to this day (don’t hold your breath). 

But, even if you had a crystal ball, there’s another reason to invest now.

What happens while you’re waiting for stocks to get “cheap” again?

If you’ve ever been stuck in traffic during your morning commute, you’ll probably be skeptical of my claim that there is a silver-lining to highway congestion. I don’t care if you’ve read The Power of Positive Thinking a thousand times, even the Buddha himself would be frustrated sitting in traffic.

But, since you’re an investor, I’m giving you permission to jump for joy at the sign of traffic. That’s because, as an investor who owns stock, you can rest assured that all these people surrounding you on the highway are going to work for you. Every day, like clockwork, these total strangers are crowding the highways so that they can help other strangers send you money.  

But, even more importantly, they’re turning their potential into reality. And, in so doing, they’re working tirelessly to increase the value of the stocks in your portfolio. That’s what you’re missing out on while you’re waiting for the market to “cool down.” These strangers are fighting rush hour every day, hustling to send you more money. For heaven’s sake, let them!

Next time you’re stuck in traffic, feel free to let out a couple celebratory honks. You’re an investor! Thank you, traffic! Thank you, strangers! HONK!  HONK!  (Disclaimer: Castlepoint and its associates are not responsible for any misinterpretation of your celebration honks as road rage.)

Sources

  1. https://www.sec.gov/Archives/edgar/data/1100683/000089161802001559/f80264e10-k.htm
  2. https://castlepointwealth.com/wp-content/uploads/2021/09/For-Source-2.png
  3. https://castlepointwealth.com/wp-content/uploads/2021/09/For-Source-3.png
  4. https://castlepointwealth.com/wp-content/uploads/2021/09/For-Source-4.png

Disclosure:

Past performance does not guarantee future results. Since economic and market conditions change frequently, there can be no assurance that the trends described here will continue. It is not possible to invest directly in an index. Information provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. This content is provided for informational purposes and should not be construed as an offer, solicitation, recommendation or endorsement of any particular security, products, or services.