Rocket Stock or Dud?

"The bigger they are, the harder they fall." It's the worst nightmare of every investor in today's market -- buying a rocket stock just before it takes a nosedive.

Every day, WSJ.com publishes a list of stocks whose shares have just hit new 52-week highs. And every day, investors read the list and tremble -- some with greed, others with terror. On our Motley Fool CAPS investing community, these top stocks usually enjoy favorable ratings, since everyone loves a winner. But what should you do when some of CAPS' smartest investors pan one of these hot stocks?

For starters, consider using the "52 week high" list as a starting point for further research. Stocks can rise for many reasons, but a little help from Motley Fool CAPS can make it easier to figure out how worthy those reasons are. Let's see what the more than 120,000 stock gurus (and counting) in CAPS have to say about the list's latest contenders:

Five stars = highest possible CAPS rating; one star = lowest. Companies are selected from the "New Highs & Lows" lists published on WSJ.com on Saturday of last week. One-year-ago and recent prices from Yahoo! Finance as of 11/20/08. CAPS ratings from Motley Fool CAPS.

"Everybody loves a winner"
So people say -- but this week, winners are rarer than cowbells on housecats. Just one stock -- one! -- ended last week on a 52-week high note: mid-cap Pennsylvanian property insurer Philadelphia Consolidated.

So how is it that we even have a list of "52-week highs" -- plural -- this week? Because despite the name, stock exchanges don't trade just stocks; they also trade baskets of stocks that we call exchange-traded funds, and some of these baskets are of an unusual weave, including the five I've profiled for you above.

Each of these fab-five market crushers works as a short bet against various niches of the stock market. Whether it's real estate or banks, small caps or large, professional investors are betting against the U.S. stock market this week and raking in the winnings.

Big mistake. Huge.
Yet CAPS members think this an extremely risky strategy. In addition to representing short bets, these ETFs have another thing in common: below-average two-star ratings on CAPS. By massive majorities, Fools think it's foolish -- not Foolish -- to bet against a bounceback in the U.S. economy.

Sure, short-term (pun intended), this strategy seems to be working out. But remember: When you bet on a stock, your profits are potentially limitless. With the miracle of compounding, $1,000 can grow into $1 million in a matter of just a few decades -- because a stock that starts at "1" can eventually "go to 11" and beyond. In contrast, the best a short bet can ever yield is a 100% gain, as "1" plummets hopelessly to "0."

Need more convincing?
Say you had a crystal ball five years ago. Say you knew that over the course of five years, each of IBM (NYSE:IBM), Corning (NYSE:GLW), Goldman Sachs (NYSE:GS), and Pfizer (NYSE:PFE) was destined to lose value -- and so you shorted them. Want to guess how much money you would have made?

If you shorted $1,000 worth of stock in each, then five years' of pessimism would have netted you a combined profit of $1,175, as IBM lost 10% of its value, Corning dropped by 25%, Goldman fell by 40%, and Pfizer plummeted by 43%.

But what if, on the other hand, rather than shorting these four stocks, you had bought just one great stock back then -- say, Activision (NASDAQ:ATVI), pre-merger-with-Blizzard? In that case, Activision's 260% increase in value would have more than doubled your take from guessing right on the short side four times in a row.

Foolish takeaway
The bears are hungry these days, and the shorts are rampant. But there's a reason Fools look askance at the short ETFs so popular this week: We know that in over the long term, buying great businesses with strong growth prospects is the surest path to profit.

Time to chime in
Of course, the aim of this column isn't just to tell you what I think about investing, ETFs, or shorting. We also want to hear your thoughts. If you think now's the time to bet against the market, come on over to Motley Fool CAPS and tell us why.