Don't Fall in Love With Cult Stocks Like Sirius XM, Apple

Last week I began a sporadic series of columns on "things that stink on ice"--stock market peculiarities that regulators accept as unfixable, sort of like herpes, so they don't even try to do anything about them. Last week it was reverse stock splits. In that column I mentioned Sirius XM (SIRI), and that brings me to yet another installment in my sporadic series. The difference is that regulators are off the hook this time.

Sirius is a cult stock. Apple(AAPL), too. Cult stocks stink to high heaven. What makes them stink is not so much the companies themselves as something a good deal more important: the reasoning power, if any, of the shareholders buying and, above all, holding such stocks. They fall in love, and that's a dangerous thing to do when you're dealing with money. Just ask any divorcee.

Investopedia defines a cult stock as one with a "sizable investor following, despite the fact that the underlying company has somewhat insignificant fundamentals." One widely followed financial blog, 24/7 Wall Street, adheres to that definition, and recently listed a whole bunch of such stocks that have large short-seller followings. Apart from Sirius, its list included Alcatel-Lucent (ALU), Ambac Financial Group (ABK), Borders (BGP), Brocade Communications Systems(BRCD), Citigroup (C), DryShips(DRYS), Nokia(NOK) PMI Group(PMI), Popular(BPOP), Rite Aid(RAD), Sprint Nextel(S), United States Natural Gas Fund(UNG) and Vonage(VG).

I'm not sure about that definition. I think the distinguishing characteristic is shareholder behavior, not corporate attributes. After all, what is the difference between an old 1980s penny-stock bow-wow like Sequential Information Systems, which had 20,000 shareholders at one point, and its modern day cult counterparts? Today SIS would have a hard core of self-righteous shareholders, bound by the Internet, trying to find some extraneous factor to blame -- other than the company, the boiler room that pushed it, or their own poor judgment.

Not all cult stocks are penny stock sluggards. Apple has handily beaten the NASDAQ index for the past five years, and yet is squarely in Jonestown territory, as this essay Wrath of the Apple Cult lamented some years ago. What sets the Apple fanatics apart is their resolute rejection of criticism. As the essay writer correctly put it: "The biggest sign that a company has a cult following is the deluge of nasty emails we get when any of us writes anything, and I mean anything, that might question that company's strategy."

The cult stocks that I find most fascinating are the ones that ought to be traded in the recreation room of a mental hospital, not a stock exchange. For sheer craziness, nothing holds a candle to the naked shorting fruitcakes, especially when their companies are led by fellow naked shorting fruitcakes. This is a real cult, replete with catch phrases they recite by rote. The most eminent naked shorting thought-leader is, of course, Patrick Byrne of Overstock(OSTK), a tantrum-throwing bully who gained widespread attention for a 2005 conference call in which he said his company was under attack by the "Sith Lord." This kind of fantastic publicity has made Byrne the David Koresh of his own personal shareholder cult.