This article is part of our Rising Star Portfolios Series.
In my Rising Star portfolio, I have deployed my available cash into gold-related investments: two miners, plus physical gold via the Sprott Physical Gold Trust (NYSE: PHYS). This isn't because I have a King Midas complex; I'm trying to protect capital and provide an acceptable return over time. I'd love to be in stocks, but aside from isolated cases and sectors, I see considerably more value in precious metals.
Yet looking at my results, you might be unimpressed. My gold position is down 3%, and my first pick, Northgate Minerals (AMEX: NXG), has fallen 10%. This week I purchased Rubicon Minerals (AMEX: RBY); so far, it has been volatile, but is up slightly. I'm in this for the long haul, and I'm not concerned with short-term price swings, but nevertheless, here's my take on what's happening.
Gold down, market up
In kitchen terminology, gold has come off the boil just as the stock market has flamed up. After a spectacular run to $1,433 per ounce in early December, gold has fallen back to $1,335, a drop of almost $100. That sounds like a lot, but it's only a 7% move. Apple coughed up 6% in just one week starting Jan. 14. So for all the drama you read about gold crumbling, this type of move doesn't give that impression. At the same time, the market is rallying, and since December the S&P 500 is up 9%, reaching pre-October 2008 levels as investors have become much more bullish.
"Relaxing the standards"
But clearly, price doesn't equal value, and there doesn't seem to be much value in the market. Just as clearly, the more it goes up, the less value there will be. You would think that investors would start to ratchet back their equity holdings, but more money keeps rolling into the market: $7.7 billion in the week of Jan. 12 alone.
This poses a dilemma for fund managers. Some would like to ease up, but are forced to continue to buy, both to put incoming flows to work and because they are afraid of lagging the indexes. For example, to keep fully invested, this manager said he has to "relax somewhat the undervalued standards."
This isn't dot com-era craziness, but it's still craziness. Why relax your standards for valuation, ever? To me, that's a recipe for either disaster or subpar returns, neither of which I'm keen to experience.
The endgame
I admire the investor's candor, but not his strategy. The endgame matters most, and funds that pile into an overvalued market will look good … until they suddenly don't. Buying overvalued stocks never works. The Wall Street aphorism isn't "buy high and sell higher," it's "buy low and sell high." Buying undervalued stocks is a proven strategy, and if there's nothing to buy, I prefer to sit tight and wait for opportunities. That's one reason why, as an individual investor, you have an edge over the institutions: You're not pressured to act.
I'll talk more in detail about my picks tomorrow, including a few I didn't pull the trigger on that have done well. But for now, I encourage you to stay the course and resist any pressure to be fully invested. Buying just to buy something could lead to poor outcomes.
