Why These Stocks Are All Wrong for You

In the never-ending quest to put together the perfect portfolio, finding stock recommendations isn't a problem. Just about everywhere you look, you'll hear a cacophony of Wall Street stock peddlers pitching their latest and greatest ideas. Even once you clear out the noise and find analysts you can trust, you'll still quickly find yourself overwhelmed by the sheer number of strong stock picks out there.

The problem isn't finding stock recommendations. It's finding recommendations that are right for you.

Understanding risk
One of the most basic tenets of investing is also one of the hardest to put into practice: When you pick stocks, you should be aware of how much risk you should take on and choose stocks that combine to give you acceptable risk levels in your overall portfolio. Take on too much risk and you jeopardize your life savings unnecessarily. Don't take on enough risk, and you could miss out on reaching what should have been attainable financial goals.

But the problem with most stock recommendations is that they leave out this crucial risk-assessment step. By ignoring risk and focusing solely on a certain desirable metric -- whether it's growth potential, dividend yield, or cheap valuation -- you can end up with the wrong mix of stocks to achieve your goals.

When you need risk
To illustrate the point with a real-life situation, turn the clock back three years. In the depths of the financial crisis, the stock market had melted down. Companies of all sizes, from promising upstarts to well-established stalwarts of industry, found themselves on the edge of collapse.

Even among stocks that had held up reasonably well, investors were waiting for the other shoe to drop. Green Mountain Coffee Roasters (Nasdaq: GMCR  ) had more than doubled from the beginning of 2007 to the end of 2008, but a huge recession seemed to bode ill for expensive single-serve coffee makers. Similarly, with emerging-market growth suddenly in question, MercadoLibre (Nasdaq: MELI  ) raised fears of a reversal of fortune for booming Latin America and its hunger for auction-based retail options.

So what did investors do? A huge number jumped onto the sidelines despite having long investing time horizons. And even among those who stayed in stocks, many shifted to more defensive postures, choosing stalwart stocks like Warren Buffett's Berkshire Hathaway (NYSE: BRK-A  ) (NYSE: BRK-B  ) to provide them with some protection from further declines.

But as it turned out, most of those choices were dead wrong. Even though defensive stocks largely did well in the run-up after March 2009, their returns paled in comparison to what Green Mountain and MercadoLibre delivered. And if you were a growth investor who abandoned ship out of fear, you made a costly mistake.

When you need security
Fast-forward to the present day, and market psychology has almost completely reversed. With stocks having doubled in value, everyone's jumping into high-growth stocks -- stocks like MercadoLibre and Green Mountain, which have already seen huge jumps in their prices.

Meanwhile, companies that offer attractive value but not necessarily huge growth are going ignored. Berkshire has gone nowhere for the past two years, and just as they did in the late 1990s, investors are getting impatient and looking for faster profits elsewhere. Similarly, Corning (NYSE: GLW  ) has its glass products in some of the most popular smartphones and other electronic devices in the world, yet investors prefer chip makers and producers of sexier components, and the company has missed out on the recent run.

Obviously, I don't know if high-growth stocks are poised to plunge. But if you're a conservative investor and don't need the multibagger returns that those stocks can provide, then taking that risk rather than choosing more appropriate, lower-risk investments may be a bad move -- no matter what happens.

Know what you need
All of the stocks I mentioned above have one thing in common: They're picks from Motley Fool newsletter services. They're all smart stock picks. But in all likelihood, at least some of them are all wrong for you.

That's where our latest service, Motley Fool Supernova, comes in. Supernova goes a step beyond its peers by recognizing that different investors have different needs -- and recommending different stocks to meet those needs. Yet all of its picks will come from the investing genius of Fool Co-founder David Gardner -- who has a track record that speaks for itself. In fact, his lifetime annualized return is a remarkable 19.6%, versus just 8.1% for the S&P 500.

If you've floundered under a deluge of stock picks -- or just want to make your investing life simpler -- you owe it to yourself to learn more about Supernova. To get David Gardner's own take on the service along with much more, just enter your email address in the box below.

Fool contributor Dan Caplinger knows all too well that one size rarely fits all. You can follow him on Twitter here. He owns shares of Berkshire Hathaway. The Motley Fool owns shares of Corning and Berkshire Hathaway. Motley Fool newsletter services have recommended buying shares of Berkshire Hathaway, Green Mountain Coffee Roasters, Corning, and MercadoLibre, as well as creating a lurking gator position in Green Mountain Coffee Roasters. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool's disclosure policy works for everyone.


Read/Post Comments (5) | Recommend This Article (16)

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 March 19, 2012, at 5:44 PM, investspec wrote:

    Good article except for a few things. The author does not explain or define the concept of risk either from a qualitative or quantitative perspective. The article does not attempt to state why Green Mountain Coffee Roasters and Mercado Libre were more risky than a Berkshire or a Corning three years ago. The author does not recommend any parameters for investors to use in order to judge risk as it pertains to stock selection.

    From 9/93 to 2/00 GMCR did not move up in value. In fact, the stock decreased in value about 20%. Was the stock "more defensive" then?

    In the same time period, GLW increased in value from 8.92 to 62.67. What made the stock "riskier" then? Berkshire appreciated from 16,675 to 44,000. Was Berkshire riskier to hold back in the 90's then it is now? So...if I would have invested $$$ into GMCR from late '93 to early '00 my return would have been negative. However, if I would have invested in Berkshire and Corning during the same period the returns would have been more than 300%

    Another question is how should a potential investor look at the expectations for future sales and earnings growth? Expectations for growth should drive a stock price. In the past three years why haven't Berkshire or Corning keeping up with GMCR or MELI? Back in the mid nineties, both BRK and GLW were outpacing GMCR with regards to stock price. Which kinds of anlysis should be used in order better understand risk? and future growth prospects for companies?

    Will growth be enhanced by government deregulation, low interest rates, a growing economy, industry supply/demand, new products, a dominent position in the marketplace, outstanding expectations in sales/earnings, international opportunities, and etc,etc,etc?

    An investor should look at their asset allocation as well. Some people may need a more conservative or aggressive allocation. And...looking at investing goals, timeline, risk, expectations of return, and etc plays a role in allocation. Investing in GMCR or MELI to meet a short term goal may not be prudent. The market could head south and take GMCR and MELI along for the ride.

  • Report this Comment On March 19, 2012, at 6:20 PM, xetn wrote:

    The presumption that "these stocks are all wrong for you" is based on what? Do you presume to know what is right for everyone? Are you the government?

  • Report this Comment On March 19, 2012, at 6:25 PM, investspec wrote:

    ....and sometimes so called defensive or safer investments can turn out to be risky via:

    1.incorrect credit ratings (example: CDO market)

    2.illiquidity (example: money market '08 crisis)

    3. investor psychology: repricing risk (example: market crashes, sector rotation, and etc)

    4. questionable growth forecasts

    5. unexpected terrible quarterly results

    6. competition

    7. etc, etc, etc

  • Report this Comment On March 19, 2012, at 9:42 PM, TMFGalagan wrote:

    @xetn -

    You actually made my point exactly.

    Most financial advisors just throw stocks at you and assume that they're right for you. My point is that even solid stocks might not be *your* best choice, given your own risk tolerance and time horizon.

    best,

    dan (TMF Galagan)

  • Report this Comment On March 19, 2012, at 9:48 PM, TMFGalagan wrote:

    @investspec -

    You raise excellent points and trying to answer them completely would make for at least a whole other article. To oversimplify, though, the stocks I referred to as higher-growth and higher-risk were recommendations from the Fool's Rule Breakers newsletter, which focuses on stocks with the potential for multibagger returns but with the risk of huge losses when things go wrong. The more defensive names were picks from the Fool's Stock Advisor newsletter, which has a broader, more all-inclusive set of selection criteria.

    Supernova gives you both in one service, and most importantly, tells you which stocks are best for different purposes. That to me is the most valuable part of the service.

    best,

    dan (TMF Galagan)

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