This Year's Hot Stocks

I always love the "What's Hot, What's Not" profiles that adorn the pop culture rags each year. I mean, what's more exciting than knowing Johnny Depp's bed-head hairdo is now chic and perfectly acceptable in public?

Many popular investing publications and analysts like to offer predictions for hot stocks and funds for the coming year as well. But unlike a swanky Angelina Jolie outfit, much of what's labeled "hot" in the stock world couldn't light a flame in a furnace.

In fact, many "hot stock" predictions turn out to be worse than average -- or outright duds.

What was hot yesterday ...
Of course, nobody's perfect at picking stocks -- we all have our winners, and plenty of losers. And picking stocks for performance within an arbitrary period of one year is hardly the best way to invest. Holding great companies for decades is a much better way to achieve market-beating returns. But can anything be learned from these yearly prognostications?

I think so. In reviewing a few analysts' picks for the top stocks of 2006, some very interesting lessons come through. For instance, two of AOL Money analyst Hilary Kramer's best picks for 2006 (out of 10) were PetroChina and Compass Minerals, which returned 75.8% and 32.2%, respectively, in 2006, far greater than the S&P return of 15.2%. But the list also included Google -- up only 9% -- and Sirius Satellite Radio -- actually down 48%.

Zacks' Dirk van Dijk also did well with Companhia Vale do Rio Doce and UBS, which returned 41.4% and 26.8%, respectively. But another selection, eBay (Nasdaq: EBAY) was down 31.2% for the year.

Measure the madness
Overall, both analysts picked several solid performers. But look at which stocks beat the S&P. They weren't the high-growth tech darlings of the past such as Google and eBay, which, given their consumer appeal and analyst coverage, should probably be considered among the hot and chic of the stock universe.

Instead, the hot returns often came from companies that are otherwise boring or unknown -- like oil and gas exploration, or rock salt. Why? Because the hot and chic are often valued above and beyond the rate at which they can grow -- hence their disappointing returns.

Take it to the next level
Consider some little-known stocks that didn't even make the hot lists:

Company	2006 Return
Spartan Motors	125%
Rostelecom OAO (NYSE: ROS)	239%
The Knot (Nasdaq: KNOT)	129%

So investors in companies as diverse as a truck chassis maker, a Russian telecom, and an online wedding planner blew away even the best of the popular hot stocks? If there were ever a real-world example of the high school nerd growing up to be Brad Pitt, this is it.

Like the stodgy, faceless lineman doing the dirty job of protecting the star quarterback on a football team, these companies deal with, and often compete with, their popular counterparts -- so they're not really all that invisible. But they often have more to gain from their obscurity. For instance, being a fixed-line communications company in Russia means that Rostelecom doesn't stir the same excitement as wireless stars VimpelCom (NYSE: VIP) and Mobile Telesystems (NYSE: MBT). In fact, other communications players such as Golden Telecom (Nasdaq: GLDN) have largely stayed out of the limelight as well, partly because of their smaller size. But like their much larger counterparts, these companies hold similar potential in the growing Russian economy. 

The Foolish bottom line
So if you want to be really hot, what should you look for in the coming years? For starters, look beyond the headliners -- these are usually stories buffeted by stock surges in the past, and some don't even have solid fundamentals to stand on. Then look for the few simple traits the best investments have in common -- undervalued and underappreciated cash-producing companies in drab industries that few investors follow.

If you're looking to shed yesterday's fashion and get hot in the coming year, the Motley Fool Hidden Gems service can help you warm up. Lead analysts and fashion trendsetters Tom Gardner and Bill Mann wrote the book on massive returns from sleepy, boring companies. You can click here for a free 30-day trial to see their hot stocks for 2007 and beyond, all dressed up and ready for the cameras.

This article was originally published as "Hot Stocks for 2007" on March 12, 2007. It has been updated.

Fool contributor Dave Mock is so hot he looks forward to the return of Dolphin shorts, tube socks, and V-neck tees to go with his new bedhead hairstyle. He's so hip he owns no shares of companies mentioned here. The longtime Fool is also so suave he's the author of The Qualcomm Equation. eBay is a Stock Advisor recommendation. The Knot is a Rule Breakers recommendation. The Motley Fool's disclosure policy is hotter than Angelina Jolie in a parka in the middle of Death Valley.