It's that time when many of us enjoy reviewing predictions about the coming year, especially ones that might make us money. But just like Olympic dives or jumps, predictions have different degrees of difficulty. If you want to follow some predictions to profits, focus on the easier ones, as they're more reliable.
Let me define my terms a bit. A difficult prediction is, for example, foreseeing that the housing market will rebound in 2011. Sure, it could happen. Mortgage rates are still crazy low, after all, and some pent-up and postponed demand will eventually start buying more homes. But a rebound might not happen for a few more years, too. Unemployment is still high, and lending requirements are stricter.
Similarly, some predict that gold will keep surging, but that's a difficult prediction to make, too. It already reached $1,400 recently, rising around $300 an ounce this year, and analyst Tom Kendall expects it to pass $1,600 in 2011. But over the really long haul, gold has had trouble even keeping up with inflation. It's far from a sure thing.
These are the kinds of predictions that experts will disagree on frequently. Many experts make bad calls, so we should be wary of their predictions. (Even Warren Buffett has lamented some of his own decisions.)
Focus on easy predictions
Thus, if you really want to base your investment decisions on predictions, choose easy predictions that are likely to come true.
For example, if you like the idea of stability in your portfolio because wild price swings stress you out, consider adding some defensive companies to your mix. It's safe to predict that no matter the state of the economy, people will keep taking their medications as long as they can. That simple fact should keep drugmakers Abbott Labs
Similarly, we can fairly safely assume that despite inroads made by alternative energies, much of the world will continue to need oil and gas for the foreseeable future. Energy giants Petroleo Brasileiro
The companies above have also been solid dividend payers, which can add another bit of ballast to your portfolio, as they tend to keep paying you no matter what the economy is doing.
Follow the value
Another safe prediction is this: Over the long haul, you'll do well to focus on undervalued stocks as opposed to "growth" ones. A study of companies from 1927 to 2008 by famed researchers Eugene Fama and Kenneth French showed this:
|
Category |
Value |
Growth |
|---|---|---|
| Large cap | 10.9% | 8.9% |
| Small cap | 13.6% | 9% |
Source: Kenneth French. Categories are based on market capitalizations and price-to-book multiples.
Focusing on value doesn't mean that you have to give up the prospect of growth. Here are some companies with price-to-book ratios well below their five-year averages as well as robust recent growth rates:
|
Company |
Price-to-Book |
5-Yr. Avg. Price-to-Book |
3-Year Avg. Annual Rev. Growth |
|---|---|---|---|
|
Brocade Communications |
1.2 | 2.2 | 21% |
|
Activision Blizzard |
1.4 | 2.7 | 25% |
|
Transocean |
1.0 | 2.4 | 18% |
Data: Motley Fool CAPS, Morningstar.
Transocean is still suffering the effects of the Gulf oil spill but should rebound as demand for energy rises with an economic turnaround. Brocade will also benefit as companies start spending more on data storage as the economy recovers. Activision Blizzard has already been doing well, releasing successful video games such as Guitar Hero. Its Call of Duty: Black Ops has just set a record, generating more than $1 billion in sales in just six weeks. Once the recession is well behind us, people will be spending even more on entertainment -- that's another easy prediction!
The risky predictions out there may or may not reward you, but focusing on the safer ones will more reliably lead you to profits, whether in relatively stable companies, in undervalued growers, or both.
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