Editor's Note: Jim Cramer's column runs exclusively on RealMoney.com; this is a special free look at his column. For a free trial subscription to RealMoney.com, click here. This article was published Jan. 7 on RealMoney. We are at the point that my colleague Herb Greenberg just hates. He hates it because it is one of the least rigorous moments in the investing process. It has to do with the relative valuation game.
Here's how it is played. Today,
announced good news. The stock is running up. In fact, it is going up so high that it, relatively, leaves
in the dust.
So, tomorrow, at every hedge fund in the country worth its salt, the following discussion goes on: "Wait a minute, Compaq is selling for X? If Compaq is selling for X, that means Dell must be worth its current price plus a couple of points more because everyone knows that if business is good at Compaq, it must be great at Dell."
Why does Herb hate this period? I am thinking back to when I first purchased Dell in my personal portfolio. Immediately Herb was on my radio show talking about how he felt that Dell couldn't possibly go up more because it is already fully valued. "What gets it to go higher?" he kept asking, rightfully.
I didn't have an answer then, other than a weak "I think Dell's doing well and I want to be in
share-takers, not share-fakers."
Now that Compaq has moved, I have my reason why Dell can go up: relative valuation!
Relative valuation is a suspect game. It is based on nothing other than casual observance of where some stocks are vs. where others are.
Justin Mamis, my old technical guru and the teacher of
Helene Meisler, used to rail against it as a version of the Greater Fool theory. I used to joke with him that Greater Fool might be a good name for my fund!
Anyway, I always played this game to the hilt, which is in part why I outperformed for 15 years of hedge fund management.
Nothing's changed. This game always works, short term. Of course, its undoing long term is that the web of overvaluation that can be bred from this relative thinking produced the 1999-2000 bubble that almost brought the house down.
How can I advocate a technique that almost brought the house down? Because I also espouse the doctrine of selling. If you play buy-and-hold with the relative valuation game, you will be crushed. If you trade, though, it's short-term unbeatable.
James J. Cramer is a director and co-founder of TheStreet.com. He contributes daily market commentary for TheStreet.com's sites and serves as an adviser to the company's CEO. Outside contributing columnists for TheStreet.com and RealMoney.com, including Cramer, may, from time to time, write about stocks in which they have a position. In such cases, appropriate disclosure is made. At the time of publication, Cramer was long Dell.
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