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Should You Quit Buying Stocks?

More than 2 million people saw Jon Stewart clobber CNBC's Jim Cramer during his now-famous appearance on The Daily Show.

Stewart the comedian became Stewart the commentator -- and he sounded a lot like former presidential candidate John Edwards, who talked about "two Americas," one for the rich and one for the poor. Stewart said:

One [market] has been sold to us as long-term. Put your money in 401(k)s. Put your money in pensions and just leave it there. Don't worry about it. It's all doing fine. Then, there's this other market -- this real market that is occurring in the back room, where giant piles of money are going in and out and people are trading them, and it's transactional and it's fast. But it's dangerous, it's ethically dubious, and it hurts that long-term market.

Stewart and his righteous outrage were speaking for a lot of people that night. Most of us lost money in the market recently, and nearly every day brings new tales of outright deception, monetary malfeasance, and just plain unethical behavior.

It's enough to make you wonder whether you should just get out.

How about an Ethics 101 course?
Cramer is better than most. At least the guy admits he's bent (but not broken, he says) the rules for personal gain. Many of the Wall Street players at the heart of this mess still want to claim a measure of innocence.

Ethics have never seemed to matter on the Street; apparently, they still don't. How else do you explain Goldman Sachs' deciding it's OK to calendar-shift December into 2009 in reporting results? Sure, it's legal, but it feels like a shell game.

Stupid really is as stupid does
Mind-numbing stupidity really does appear to be the coin of the realm when it comes to banking, brokering, and regulating. Consider the FDIC. Created to protect depositors after earlier meltdowns, we're now learning that the agency failed to collect premiums from KeyCorp (NYSE: KEY  ) , PNC Financial (NYSE: PNC  ) , and their peers for a decade.

So Stewart is right to at least question the fairness of the financial system as we know it. But is there really a stock market for those "in the know" and another for the suckers who aren't?

Ignorance is, in fact, bliss
Only the insiders can say for sure, but history paints a reassuring picture for those of us not "in the know" -- at least if you're committed to long-term investing:

Year

Index Return

Market Beaters*

Winners As a % of All Stocks

2008

(38.49%)

1,501

43.2%

2007

3.53%

1,223

36.2%

2006

13.62%

1,417

46.9%

2005

3.51%

1,340

47.2%

2004

9.13%

1,347

53.9%

2003

26.10%

1,107

57.7%

2002

(23.75%)

1,225

61.5%

2001

(12.36%)

1,175

64.1%

Source: Capital IQ, a division of Standard & Poor's.
* Includes only those stock trading on major U.S. exchanges that began the year worth at least $250 million in market cap.

Notice the pattern. In most years, those who held individual stocks saw an average of 40% of their picks beat the market. In two of the three worst years, six out of 10 were market-beaters.

Sometimes, the gains were huge. IntercontinentalExchange (NYSE: ICE  ) tripled in 2006. China Life Insurance (NYSE: LFC  ) quadrupled that same year. And, in 2001, McAfee (NYSE: MFE  ) was a six-bagger. You needn't have been an insider to get those gains. You needed only to be brave enough to buy, and then hold.

There are risks to buying and holding, of course. Consider Rambus (Nasdaq: RMBS  ) . Had you bought at the dawn of 2003 and sold at year's end, you'd have more than quadrupled your investment. Had you held until today, you'd still have doubled your money, but no more. Either way, though, you'd have won.

Kick the market when it's down
Even so, the way to beat a broken market -- the one that Stewart so viscerally fears -- is still to bet on the best businesses over the very long term; businesses that resemble the best stock idea I've ever seen. These are companies that:

  • Produce abundant free cash flow.
  • Sustain high rates of revenue growth.
  • Demonstrate sustainable advantages by maintaining high gross margins.

Omniture (Nasdaq: OMTR  ) is a good example. That's why Fool co-founder David Gardner has made this website performance specialist one of his recommendations for Motley Fool Stock Advisor. Combined, he and brother Tom's picks are up more than 40 percentage points on the market as of this writing.

Care to learn more? Click here to join Stock Advisor free for 30 days. You'll get access to all of David's and Tom's picks, special reports, and custom stock research. And, as with all of our services, there's never an obligation to subscribe.

This article was originally published March 28, 2009. It has been updated.

Fool contributor Tim Beyers didn't own shares in any of the companies mentioned in this article at the time of publication. He's also a member of the Rule Breakers growth stock picking team. Omniture is a Stock Advisor selection. The Motley Fool's disclosure policy won't quit on your portfolio.


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