A few years ago, I was sledding with my wife in her hometown of Virginia Beach when I heard someone yell "Whooooooo, Mount Trashmore!" as he soared down the snowy hill. Thoroughly confused, I turned to my wife and asked, "Mount Trashmore -- what the heck is that?"
A dirty trick
I soon found out that Mount Trashmore is a landfill being put to new uses. In winter, covered in snow, it just looked like a great place to go sledding! In the spring, it becomes a park crowded with residents using basketball and volleyball courts, enjoying the rolling green hills, and climbing the hiking trails that surround a beautiful lake.
But underneath it all -- it's just 3 miles of trash!
Why should you care?
If you think about that situation, it seems eerily similar to the stock market.
Consider this: How many times do you see a share price shoot up and think to yourself, "Wow, that must be a great company"? Then, after doing some research, you find out the business is drowning in debt and hasn't made money in years.
Look at Lincoln National (NYSE:LNC) or Freddie Mac (NYSE:FRE). Both companies have experienced price increases of at least 30% over the past six months. Those are incredible returns!
But what's more incredible is that, combined, both were recipients of more than $50 billion in taxpayer bailout money and both are expected to grow by less than 10% over the next five years. Freddie Mac is anticipating annual losses for the next two years! Rising prices can make companies look good on the surface -- just like Mount Trashmore looked good to me -- but when you take a closer look, they're simply trash!
Take a look at some of this junk:
|
Company |
6-Month |
Total |
3-Year Annualized Revenue Decline |
Forward |
|---|---|---|---|---|
|
Avis Budget (NYSE:CAR) |
162% |
2,795% |
(3%) |
59 |
|
Media General |
225% |
545% |
(9%) |
64 |
|
Modine Manufacturing |
115% |
49% |
(13%) |
59 |
|
Office Depot (NYSE:ODP) |
111% |
61% |
(6%) |
24 |
Data from Google Finance and Capital IQ, a division of Standard & Poor's.
These stocks have seen astronomical gains in the past six months, but they're trading at ridiculously high valuations, they're riddled with debt, and their businesses are struggling during the recession. But after huge run-ups, they're valued as if they are about to enjoy tremendous earnings growth for several years.
Some of these companies may have been smart picks once upon a time, but if you have them in your portfolio right now, I'd take your gains and toss the stocks in the incinerator as fast as you can.
Don't be fooled
In actuality, Mount Trashmore isn't such a bad thing. It employs the best possible use of urban land by combining recreation with waste management.
But stocks like the ones above don't serve a purpose anymore. They are deceptive because of their extraordinary returns and often push you along with a herd of other investors who are concerned only about short-term price movements. That hardly sounds like a practical investing strategy.
Instead of following the pack or keeping stocks in your portfolio that clearly don't belong, why not try a simpler, more levelheaded approach? Look for companies that have clean balance sheets and limited debt, that have strong positions in their competitive landscape, and that are trading at favorable valuations.
That's what Motley Fool co-founders David and Tom Gardner do at Motley Fool Stock Advisor. They recommend companies like National Oilwell Varco (NYSE:NOV), Costco Wholesale (NASDAQ:COST), and Atwood Oceanics (NASDAQ:ATW).
Each of these has negligible debt; all three have substantially increased revenues over the past five years. Costco, under the leadership of CEO Jim Sinegal (who was listed as one of the most influential people in business ethics in 2008), has become one of the most successful warehouse discount retailers in the world.
Atwood Oceanics has been in business for more than 40 years and specializes in the niche segment of offshore drilling and the completion of exploratory oil and gas wells. It does business across North America, Africa, and Southeast Asia.
Lastly, National Oilwell Varco acts as a one-stop shop for oil and gas drillers. It has more than 60% of the rig equipment market, and also offers services and systems for the global upstream industry. It is easily the largest and most prestigious company in its segment.
Want to learn more about these companies, or any of the stocks that David or Tom are suggesting you buy right now? If so, you can click here for a 30-day free trial. There's no obligation to subscribe.
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Fool editor Jordan DiPietro doesn't own shares of any of the companies mentioned above. Atwood Oceanics, Costco, and National Oilwell Varco are Motley Fool Stock Advisor picks. Costco is an Inside Value selection. The Fool owns shares of Costco and has a competitive but prudent disclosure policy.
