Don't Believe Your Eyes

Practically every day, I get junk mail trying to sell me a magazine subscription, a "breakthrough" trading system, or some other unsolicited form of investing advice. After years of just throwing these solicitations away, I decided I'd give them a look. I'm curious to see just how these materials get customers to pay hundreds or thousands of dollars for a supposed "sure thing."

I tried to go in with an open mind, although reining in my inherent skepticism of get-rich-quick schemes is always a challenge. Surprisingly, just a little bit of digging beneath the surface of these sales pitches can often give you abundant evidence that their "perfect" systems don't work.

Stocks that never go down
One offer claimed that its proprietary stock-screening tool could find unusually stable stocks that were unlikely to decline in price, even when the rest of the market fell. The offer admitted that the companies it recommended might not be exciting, and wouldn't make you rich overnight, but would protect your investment, giving you steadily rising prices without volatile adverse movements. Its current recommendations: Titanium Metals (NYSE: TIE  ) and NVIDIA (Nasdaq: NVDA  ) . An accompanying chart showed that over a 12-month period, the two stocks enjoyed a steady climb in price while never falling below their 40-day moving averages, an indicator of their lack of volatility.

But I quickly noticed a catch: Though the offer was dated 2007, its charts ended in May 2006. Sure enough, both Titanium Metals and NVIDIA fell by more than 40% between May and July, just when the charts stopped tracking the stocks.

Perfect timing
Another offer suggested using a strategy involving covered call options, where you buy shares, then sell call options against them. Again, although the offer was dated in early 2007, the example used was based on the performance of a particular stock, Forest Labs (NYSE: FRX  ) , during the last half of 2001. According to the offer, you could have bought the stock for $75 in June, then sold a December call option with a strike price of $85 for $8. By December, the stock had risen to $81. In addition to making $6 from the stock price rise, you'd also get to keep every bit of the $8 you'd received for the now-worthless call option. The offer suggests you could do that over and over again, and keep making money.

Unfortunately, if you'd continued using the covered call strategy with Forest Labs, you might have missed out on a large move. By the end of 2003, the value of the stock had doubled. Unless you had predicted the price move perfectly, most people using a covered call strategy would have had their stock bought from them immediately before the price rose, missing out on a more substantial profit.

Be a cynic
Look beyond the hype of any financial product you're considering. Any investing strategy has certain situations in which it's done really well. However, the true test of a good investing strategy is how it handles unexpected troubles or setbacks. There's no point in reading about a particular method if the people selling it don't explain how it makes money in good times and avoids losing money in bad times.

As a side note, that's part of what distinguishes the Motley Fool's newsletter offers from many others in the industry. The Fool offers free 30-day trials that let you take a look beyond the newsletters' biggest successes, to see not only the things they did well, but also the mistakes they made. Rather than covering up missteps or conveniently adjusting charts and graphs to make them less visible, you'll read frank commentary from the Fool's analysts explaining what went wrong, and what they recommend investors do after the damage has been done. It's a good reminder that any time you're paying for a service, you should do everything you can to hold the people you're paying accountable for the service they're providing.

When considering offers to sell you financial advice, it pays to be careful. Before spending your money for gimmicks and hype, make sure to thoroughly analyze any offer you're considering. If you can't get all the information you need to feel comfortable about it, you're probably better off giving it a pass.

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NVIDIA is a Motley Fool Stock Advisor pick. Whatever your investing style, from bold risk-taker to shrewd bargain-hunter, the Fool has a newsletter for you. See all our triumphs and mistakes when you try any of them free for 30 days.

Fool contributor Dan Caplinger gets a kick out of reading outlandish promises. He doesn't own shares of any of the companies mentioned in this article. The Fool's disclosure policy is no gimmick.


Read/Post Comments (2) | Recommend This Article (28)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 18, 2008, at 2:02 AM, JFrazer1 wrote:

    I always keep a watchlist of stock i'm interested in purchasing in the event one of my calls is exercised. If I consider the stock that is exercised a good enough value, I may immediately buy back into it. I also only sell calls that have a month or less till they expire. Considering that I sell at price that lowers my cost basis by 5 to 10% every time, I'm not overly concerned about the risk of it doubling within the month. It's never happened to me. Maybe I'm just bad at picking stock. It didn't know that it was normal to pick stocks that double quickly. Besides, if that strategy had continued and you sold an $8 call every 6 months for the last half of 2001, both halfs of 2002, and the first half of 2003, you would have lowerd your cost basis by $32 to $43. At an $85 strike that would be almost double. Also you could sell 1 month at a time like I do and keep raising your strike as the price of the equity increases.

  • Report this Comment On December 22, 2008, at 12:03 PM, mamerten wrote:

    The comment about covered calls is a little misleading - covered calls are only good for bear and sideways markets. Now the newsletters won't say this - but I will.

    Also, any covered call trader will need some sort of tool to help him make decisions on when to manipulate his positions. A great tool can be downloaded at www.coveredcallcalculator.net

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