A Sure Sign That Now's the Time to Buy

As I was flipping through the news earlier this week, I was stopped dead in my tracks by the hook at the beginning of a Bloomberg article. It was short, sweet, and pulled me in like a Death Star tractor beam. It read: "Wall Street's hottest new product is fear."

I had no choice but to read on.

The article discussed the new fund that bond giant Pimco is planning to offer. The fund will in essence be a giant hedge that theoretically will protect investors from a market plunge of 15% or more.

The idea of such a fund isn't all that new. Nassim Taleb, author of The Black Swan, started a fund to hedge so-called "tail risk" back in 1999 and Mark Spitznagel, a partner on that original fund, continues to carry that torch today. Nor is Pimco alone in chasing this strategy right now. Deutsche Bank (NYSE: DB) and Citigroup (NYSE: C) are among larger firms trying to get in the game, while smaller hedge funds pile in as well.

So what does it mean for all of us Fools when fear is the new hot item on Wall Street?

This is what happens without fear
Let's first examine the flip side of a fearful market. Let's rewind to February 2000. Here's a snippet from a New York Times article that paints a pretty good picture of where we were:

'I am having a hard time getting anyone to listen to anything but technology,' said Philip S. Dow, a managing director in equity research at Dain Rauscher Wessels in Minneapolis. 'Our clients want to be in the right stocks, and they want to be in the ones that are moving.'

That was just as the Nasdaq was breaking over 4,400, only to launch a month later into a long plunge. The Nasdaq wouldn't see that 4,400 level again until ... well, I don't really know because it hasn't seen that level again.

Or how about if we go to May 2005, when The New York Times reported:

Over all, home prices have never fallen by a significant amount, and Alan Greenspan, the chairman of the Federal Reserve Board, said last Friday that a national drop in price remained unlikely.

And backtracking just a bit, here's a little something from then Fed governor Ben Bernanke in February 2004:

One of the most striking features of the economic landscape over the past twenty years or so has been a substantial decline in macroeconomic volatility. ... Several writers on the topic have dubbed this remarkable decline in the variability of both output and inflation "the Great Moderation." ... Reduced macroeconomic volatility has numerous benefits. Lower volatility of inflation improves market functioning, makes economic planning easier, and reduces the resources devoted to hedging inflation risks. Lower volatility of output tends to imply more stable employment and a reduction in the extent of economic uncertainty confronting households and firms. The reduction in the volatility of output is also closely associated with the fact that recessions have become less frequent and less severe.

What's my point? That people can be spectacularly (and very publicly) wrong? That's part of it, but it's more so that when these excerpts were put in print the views were not fringe views espoused by a vocal minority. These were commonly held views that were propelling markets.

In other words, fear was a commodity in short supply.

This is your market on fear
Fear and skepticism aren't bad things. From an investor's point of view, they're actually really good things. In overdose levels -- as we saw early last year -- they can create tremendous values. Even in more moderate levels, they keep investors vigilant to risks and keep a lid on the so-called animal spirits that can cause markets to get carried away.

With new funds like Pimco's popping up to try and cash in on investors' discomfort, I can't help but think that there's still a more-than-healthy amount of fear permeating the markets. That's further underscored by very buyable valuations on many attractive stocks.

Source: Capital IQ, a Standard & Poor's company.

What's particularly interesting about the attractive stocks out there right now is that they're not concentrated in one particular corner of the market.

In this list we have a few stocks -- Teva, Visa, and Altria -- that don't need a searing economic rebound to keep up their growth pace. Teva sells generic pharmaceuticals, which will only become more popular as countries around the world look to contain medical spending. On a different side of the coin, Altria sells cigarettes -- one of the most addicting products out there and certainly a business that laughs in the face of recession.

Visa would certainly benefit from a robust economic recovery, but the company has been riding the global secular shift to electronic payments, a shift that's set to continue whether or not we have a strong economic bounce-back.

Ford and Boeing, on the other hand, are more hitched to the economic recovery. Ford will need to see a continued rebound in both consumer spending and confidence in order to move more of its cars, while Boeing needs a rebound in both commercial and military demand. But there should be more-than-ample returns for investors willing to bet on the outcome.

In short, a liberal sprinkling of fear over the stock market has created a pretty compelling environment for buyers.

Fear fades
But this environment won't last. Bloomberg quoted Taleb reacting skeptically to the me-too funds like Pimco's:

If you looked at numbers over a period of time -- six, seven, eight years -- there's much higher return ... But if you watch a trader in any given year, he looks like an idiot. No trader wants to feel like he's an idiot.

In other words, investors, traders, or both will get fed up with waiting for the next big disaster and these funds will most likely quietly shut down a few years from now.

Hypervigilance and skepticism about the market won't last either. It may help constrain the markets for a while, but investors will eventually get bored waiting for the next black swan and start to once again get comfortable with stocks and other investments.

But don't wait until then to start investing again, because it's then that you have to start getting concerned.

Berkshire Hathaway didn't make the list above, but my fellow Fool Alex Dumortier thinks it is extremely cheap.