Investors, Beware Fad Stocks

NEW YORK ( TheStreet) -- As a deep value investor, I am guilty of many things, including the tendency to become interested in companies that may be well past their prime. But if it's worth $1.00, and I can get it for 50 cents, it does not matter how ugly the company appears.

I am also guilty of shunning the highfliers that come to market, the purveyors of the most interesting products and services. There is often way too much hype surrounding these stocks, which tends to push their valuations into the stratosphere, at least for a while. Even though these companies may have long-term staying power, there is often a disconnect between what investors are willing to pay and the stocks' actual value.

Then there's a host of companies that I won't touch because in my view, their products -- even when they're exciting and innovative -- are fads. Consumer tastes change, and what is hot now may not stay that way for long. When the fad fades, these companies' stock prices fizzle.

I know many people who own Keurig coffee machines and rave about K cups, made famous by Green Mountain Coffee Roasters ( GMCR).

It may be a convenient way to brew a cup of coffee, but it's expensive, and I think it's a novelty that will ultimately wear thin. But I'm cheap, and would rather brew a whole pot of coffee for 50 cents then spend the same amount for a K cup.

Now, I may be wrong, and folks may still be using their K cups 20 years from now, but there was little to justify Green Mountain shares running up to $111. Expectations were too high, and some investors got burned with the hope of boundless growth. There was simply too much hype, (and some interesting accounting practices). The stock appears to be a lot cheaper now, but I'm still not convinced the product will continue to resonate with consumers. GMCR Chart GMCR data by YCharts

I view SodaStream ( SODA) as being a similar company, even though it reported better-than-expected second-quarter results Wednesday morning.

I've seen the product. It is indeed very interesting and innovative. I like that many of the company's syrups use sugar instead of corn syrup. I've tasted soda made with the machine, and it is excellent.

I'm just not sure I see the staying power. At the equivalent of 25 cents per can, it's no cheaper than buying a 12-pack on sale. I can't see consumers using these machines for very long. The novelty will wear off, and SodaStreams will end up as dust collectors on the kitchen counter next to the Keurig, or, on top of the fondue pot in the dining room closet. I may be wrong; it certainly would not be the first time. SODA Chart SODA data by YCharts

One of the ultimate fads, in my view, is Facebook ( FB). Millions of teenagers would no doubt disagree with that assessment. But I am personally growing a bit weary of the product itself, and I suspect that there are many others like me. I'm tired of seeing what little Jimmy accomplished today, or what Linda Lou has posted as the picture of the day.

I'm not taking away from the innovation, or the brilliance of the idea. I just don't see the staying power. Something else, some other social networking phenomenon will emerge, and Facebook will be yesterday's news.

Fads are fun. They can make life a little more interesting, and perhaps a bit easier for a time. But they wear off, and as an investor, I don't want to be left holding the bag. Innovative ideas or companies don't necessarily translate into great stocks, especially when valuations are out of whack, and expectations are sky-high.

If I'm wrong, and any of the above stocks have staying power and their valuations become cheap, there's always a possibility they might hit my radar in the future.

After all, I never thought I'd own eBay ( EBAY), but once the company passed through its high-multiple/high-expectation phase and then continued to deliver 20%-plus net margins while maintaining an excellent balance sheet, I took a position. Of course, it was trading at 8 times forward earnings and was long past fad status.

At the time of publication, Heller had no positions in stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.
Jonathan Heller, CFA, is president of KEJ Financial Advisors, his fee-only financial planning company. Jon spent 17 years at Bloomberg Financial Markets in various roles, from 1989 until 2005. He ran Bloomberg's Equity Fundamental Research Department from 1994 until 1998, when he assumed responsibility for Bloomberg's Equity Data Research Department. In 2001, he joined Bloomberg's Publishing group as senior markets editor and writer for Bloomberg Personal Finance Magazine, and an associate editor and contributor for Bloomberg Markets Magazine. In 2005, he joined SEI Investments as director of investment communications within SEI's Investment Management Unit.

Jon is also the founder of the Cheap Stocks Web site, a site dedicated to deep-value investing. He has an undergraduate degree from Grove City College and an MBA from Rider University, where he has also served on the adjunct faculty; he is also a CFA charter holder.