These Are the Market's Biggest Opportunities

Volatility equals opportunity.

It is perhaps THE fundamental investing lesson; it's what Ben Graham was talking about when he referred to the vagaries of Mr. Market, and it's what people really mean when they repeat the silly phrase "buy low, sell high."

Maybe you already get it, but most investors will never learn that lesson. I know I struggle with it.

Why? Because no matter how many bubbles and bursts we live through, we all get juiced on the way up and terrified on the way down. We confuse our buy opportunities with our sell opportunities.

But if we can keep our heads when all about us ...
Numbers are clearer than words. An easy way to gauge volatility is to compare 52-week highs and lows. The bigger the spread -- i.e., the percentage difference from the low to the high -- the greater the volatility.

Let's start with the most benign example. Here are three blue chips with no bankruptcy concerns, no subprime drama, and no bailout misery:

Stock

52-week low

52-week high

Spread

Procter & Gamble (NYSE: PG  )

$43.93

$73.57

67%

Wal-Mart (NYSE: WMT  )

$46.25

$63.85

38%

PepsiCo

$43.78

$75.25

72%

These spreads are all lower than the S&P 500's 97% 52-week spread, but it's amazing that a company like Pepsi, whose business model is so steady, has a high that is priced 72% higher than its low.

A greater opportunity
There's certainly been opportunities in the blue chip space, but let's take it up a notch or three. Check out the spreads on these companies that all faced speculation about possible bankruptcy or nationalization:

Stock

52-week low

52-week high

Spread

Bank of America (NYSE: BAC  )

$2.53

$39.50

1,461%

Citigroup (NYSE: C  )

$0.97

$23.50

2,323%

MGM (NYSE: MGM  )

$1.81

$38.49

2,027%

Las Vegas Sands (NYSE: LVS  )

$1.38

$59.17

4,188%

Sirius XM (Nasdaq: SIRI  )

$0.05

$1.49

2,880%

These spreads are cartoonish. To translate, in the last year, the investors who bought at the highs spent 14 times (Bank of America) to 42 times (Las Vegas Sands) what those who bought at the lows paid.

If groceries fluctuated like that, you'd see some people paying a quarter for a can of 7-UP while others paid more than $10.

But wait, it gets better ...
Now here's the kicker. I ran a screen to find the most volatile stocks (i.e., those that presented the best opportunities for outrageous profits) over the last year. None of these companies cracked the top 10!

Why?

Because my list was dominated by smaller companies -- even though I excluded the potentially fly by-night over-the-counter companies I've warned you in the past to avoid. Yes, a few large caps were sprinkled among the top 50 most volatile, but the vast majority were from small-cap land.

The market's biggest opportunities
To further test my hypothesis that smaller companies offer the market's biggest opportunities, I compared the spread volatility of large caps (via the S&P 500) with the spread volatility of small caps (via the Russell 2000) over the last year. By this measure, small caps were 50% more volatile!

So how does this help us? I believe the market will continue to be quite volatile over the next year as investors hem and haw about the state of our economy. Since volatility = opportunity, it's a great time to add some more small cap companies to our watch lists.

As the market continues to zig-zag, we'll have the ability to pick up some of our favorite companies at steep discounts. But only if we rise above the panic by identifying promising stocks early and patiently waiting for the market to deliver tasty prices.

If you want some help constructing your small cap watch list, I invite you to check out our Motley Fool Hidden Gems newsletter service. The team scours the small cap universe for watch-list candidates; current stocks that they're waiting for cheaper prices on include Granite Construction, Under Armour, and Jinpan International. Once a stock's price gets attractive enough, they buy it with The Motley Fool's own money. You can see their watch list and their entire real-money portfolio by clicking here for a free 30-day trial. There's no obligation to subscribe.

Anand Chokkavelu owns shares of Citigroup and Sirius XM. Wal-Mart Stores is a Motley Fool Inside Value selection. PepsiCo and Procter & Gamble are Motley Fool Income Investor recommendations. Granite Construction, Under Armour, and Jinpan International are Hidden Gems picks. The Fool owns shares of Procter & Gamble. The Fool has a disclosure policy.


Read/Post Comments (11) | Recommend This Article (109)

Comments from our Foolish Readers

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  • Report this Comment On August 14, 2009, at 4:27 PM, spokanimal wrote:

    In the markets, fear creates distortions that defy reality. Panic creates severe distortions.

    Subprime mortgages had a much lower non-performance record than the market gave them credit for when they were beaten down to 20-cents on the dollar... then there was no market at all.

    Fear of bankruptcy sent MGM and Las Vegas Sands down to ridicuously low valuations that were totally disconnected from the true risk of insolvency.

    Even today, most analysts and columnists prefer to protect their reputations by going the safe route and recommending Wynn over Sands even though the later company has assets that are much better positioned for future EBITDA performance.

    Fear creates opportunities. Panic creates fortunes.

    But you have to be willing to follow the sage words of Baron Rothschild who famously said:

    "Buy when there's blood in the streets"

    Spokanimal

  • Report this Comment On August 14, 2009, at 6:14 PM, DiscoFinance wrote:

    There is a DVD movie out about the whole Sirius XM/Mel K. story called: Stock Shock.

    Very good flick and explains stock market manipulation as well. Stock Shock is at amazon.com and stockshockmovie.com

  • Report this Comment On August 15, 2009, at 10:18 AM, TMFEditorsDesk wrote:

    @spokanimal:

    Interesting thoughts. I think something a lot of us forget to do is properly classify our holdings. As we've seen this past year, there's nothing worse than buying something you think is safe and finding out it isn't. On the flip side is buying something that is risky but has a lot of upside when it really doesn't b/c the upsdie's priced in is also a disaster.

    Thought question for the group...of these companies, which do you think has the highest upside for the risk taken:

    Bank of America

    Citigroup

    MGM

    Las Vegas Sands

    Sirius XM

    -Anand (TMFBomb)

    PS...a little tidbit...apparently, the original quote was a little longer and even more poignant: "Buy when there's blood in the streets, even if the blood is your own."

  • Report this Comment On August 15, 2009, at 1:02 PM, JibJabs wrote:

    Bank of America may have a very bright future, imo.

  • Report this Comment On August 16, 2009, at 7:59 AM, TMFEditorsDesk wrote:

    The opposite question may be useful, too...which has the most risk vs. upside?

    -Anand (TMFBomb)

  • Report this Comment On August 16, 2009, at 10:45 AM, plange01 wrote:

    the only stock her with upside now is c .it can easily double then double again in a year or less....

  • Report this Comment On August 16, 2009, at 1:36 PM, TMFEditorsDesk wrote:

    @plange01,

    Why Citi and not BAC? Is it a quality of assets vs. market value argument?

    -Anand (TMFBomb)

  • Report this Comment On August 16, 2009, at 11:32 PM, 8Lives wrote:

    What's wrong with betting on CIT, instead of C ??

    Can someone tell me why there seems to be such a distiction between these two investment opportunities?

  • Report this Comment On August 17, 2009, at 1:56 PM, BigVincent wrote:

    The company that has the greatest risk to upside (or reward), is definitely sirius/xm radio. You have a company that owes almost 8 billion not including interest. Annually the company needs roughly 1.7 billion just to function, and the rest goes to paying debt. The greatest risk to this company is it's subscribers. That happens to be what drives the greatest fear to this company is if it can hold on to it's subscribers during this recession. The company has proven that with strict discipline and consolidating the 2 synergies of sirius and xm, that the company can continually generate revenue, and in fact increase its revenue, even when there are subscriber losses. On AVG the company generates roughly 2.8 Billion annually so the company can function, but can the company pay for its debt on time without having to sell off its assets, or filing bankruptcy. I think after some restructuring,and paying less on programming contracts ( Howard Sterns contract is up in 1 year from now) this company will generate alot of cash after EBITDA.

    I have alot on the line with sirius/xm. I even gambled a few thousand shares at .6 cents in February. So far this company has not let me down or the majority of investors that have invested up to the last .50 cents.

    Management has definitely stepped up a much more aggressive approach to increasing revenue streams.The content offered isn't bad either. With some adjustments sirius/xm is going to possibly be a hot stock for 2010. We just have to see if cash for clunkers really helped this company through out 2009.

  • Report this Comment On August 18, 2009, at 1:40 PM, TMFEditorsDesk wrote:

    @8Lives,

    One distinction to note between C and CIT is that one was deemed too big to fail while the other was not. That doesn't necessarily make one a better investment than the other, but it's an important distinction.

    -Anand (TMFBomb)

  • Report this Comment On December 02, 2010, at 4:23 PM, barbil wrote:

    @ AlexisMachine

    On the date of your post, Aug 25th, 2009 - SIRI closed at 0.70

    IT reached a low of .57 cents on Dec 21, 2009

    Then began a steady climb bacto to its current price of 1.40 ( Dec 3, 2010)

    That is a 100% increase any way you look at it.

    You ranted pretty hard about this stock... I'm just wondering if you have the courage to admit you were so obviosly wrong...

    Granted, I am playing the part of Monday morning quarterback... it is so much easier to read history than it is to predict the future. But, your opinion was so definite and your words were so strong against the stock, that I am thinking you really ought to admit your call was incorrect.

    Just sayin...

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