Melvin: When and What to Buy

There are those who maintain that if you are buying quality stocks, it does not matter when you buy, due to the long-term upwardly drift of the market. There are also those who think that you should buy stocks as they move to new highs. As for me, I wait until prices have fallen, when no one else is buying and stocks are cheap, and then I buy.

In an interview with the Ladies' Home Journal, Benjamin Graham once said that investors should buy stocks the way they buy groceries, not the way they buy perfume. Too many investors buy the most popular darlings of the day at or close to new highs, which is more of a traders' shopping playground than it is one for investors. To buy and prosper as a momentum buyer, you have to be a very nimble and adept trader. You also have to be in front of the screen full time and not working another career to pay the bills and build wealth.

Robert Rodriguez said that his shopping list was the new-low list, not the new-high list. I apply the new-low philosophy to individual stocks as well as sectors. I start shopping in the unloved sectors that are lagging the market. (I utilized this approach at the end of 2011 to select three homebuilders, all of which have since rebounded by more than 20% in just six months.)

When looking at underperforming sectors, the first question that should come to mind is whether the industry is viable. At some point in time, typewriter manufacturers and buggy-whip retailers dominated the new-lows list, but these sectors were beaten up for a good reason -- they were no longer viable. On the current new-lows list, the for-profit education business model appears broken, and without a substantial overhaul, I do not think these companies are viable. Solar is also underperforming, and I think this industry is a decade or so away from real viability. As a result, I have no interest in these companies.

Plenty of lagging industries, however, offer valid opportunities for long-term value-oriented investors:

  • Coal and aluminum stocks have been crushed over the past year, but neither industry is going to disappear.
  • Energy stocks are down on weaker global demand and excess supply concerns, but our need for energy is not going to go away in the near future.
  • I can't find anyone who likes the battered European or Latin American banks right now, but the survivors in these two groups are going to make investors a lot of money over the next decade.
  • Waste-management stocks are lagging the market on both one- and three-year bases, but I am fairly sure that we will make more, not less, trash in the future.

I don't just blindly buy anything, but the stocks in these sectors are under my valuation and credit microscopes right now. They may not be popular, but they should be profitable.
Tim Melvin is a writer from Stevensville, Maryland, who spent 20 years a stockbroker, the last 15 as a Vice President of Investments with a regional firm in the Mid Atlantic area. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Melvin appreciates your feedback; click here to send him an email.