I'm a contrarian investor at heart because I think going against the grain can be smart way to, as the saying goes, buy low and sell high. That said, merely throwing a dart at last year's losers is hardly a surefire way to rack up investing success.
Consider the likes of Genentech (NYSE:DNA) and Advanced Micro Devices (NYSE:AMD), both of which shed value in the double digits last year. More than halfway into 2007, those stocks' fortunes remain misfortunes, with both mired in negative territory on a year-to-date basis. Boston Scientific (NYSE:BSX) and Amgen (NASDAQ:AMGN) strike similar performance profiles.
Don't get me wrong
Even high-quality stocks suffer rough patches, of course, and folks with the time and inclination to cherry-pick winners from among the market's laggards can make out like bandits. A good way to begin is by gauging a company's price multiples (such as price-to-earnings) relative to both the broader market and industry peers. If those ratios are lower, it could be that downbeat expectations are already priced into the firm's stock.
And speaking of expectations, earnings-growth forecasts also provide important analytical inputs. Analysts are notoriously rosy, so you'll want to discount for that dynamic as you do your valuation work. Still, if a firm's five-year earnings forecast is higher than its industry average -- and its likeminded peers in particular -- that's a fine thing, too, particularly if its multiples clock in on the lower side.
The moral of the story
If you're reading this, it probably goes without typing, but I'll type it anyway: A couple of years of underperformance should hardly cause alarm for shrewd long-term types who have done their homework. That said, there is a broader lesson to bear in mind from the companies I've called out above: Even among high-quality stocks that seem priced to sell, there's always the potential for further markdowns.
That's particularly true if the firms fumble their fundamentals by, for example, scrambling after expansion-fueled growth past the point of market saturation. (See Wal-Mart (NYSE:WMT) for details.) Wild capital expenditure spending sprees can be another telltale sign.
On the other hand
If a firm that looks fine on the fundamental front gets caught up in an industry-specific downturn, that could be a smart time to buy. With that in mind, it's worth noting that, in relative terms, the technology sector has been on a nice run over the past 52 weeks, while the consumer staples sector -- home to the likes of Coca-Cola (NYSE:KO) and Anheuser-Busch (NYSE:BUD) -- has notched a far smaller gain.
Time to make a run on staples? Hardly. Fifty-two weeks does not a contrarian investment case make. Instead, a smarter way to play areas of the market that seem to have fallen from favor is to tilt into them in the context of a well-diversified portfolio -- which is what we aim to help members of the Fool's Champion Funds investing service design.
Here's why: When investors spread their bets intelligently across the market's various cap ranges and its valuation spectrum -- and lean toward unfavored areas of the market rather than falling headlong into them -- they can get the best of both worlds: Against-the-grain investing without the kind of rough edges that can come with a portfolio of just individual stocks.
The Foolish bottom line
And on the Champion Funds front, by the way, so far, so good: All of our recommendations have made money for shareholders since we gave 'em the nod, and our aggressive model lineup is beating the S&P by a healthy margin to boot.
In addition to our aggressive model, we've also built moderate and conservative lineups, and in the current issue of the newsletter, we roll out our Cranky Portfolio, an all-ETF model that, as an experiment in contrarianism, we plan to rebalance on a quarterly basis, paring back our relative winners and plowing the hypothetical proceeds back into comparatively unfavored areas of the market, all the better to, you know, buy low and sell high.
Want to join the fund fun? No problem. A risk-free Champion Funds spin -- not to mention our Cranky Portfolio -- is just a mouse-click away.
Take Champion Funds for a spin now and the Fool's latest premium report -- "The NEW Rule Makers: 5 Power Stocks You'll Never Want to Sell" -- is yours free. You'll also have access to our latest special reports: "The Challenge: ETFs vs. Mutual Funds" and "Add Kick to Your 401(k)!" Just click here to snag the reports (which are yours to keep) along with a risk-free Champion Funds membership.
Shannon Zimmerman runs point on the Fool's Champion Funds newsletter service and co-advises Motley Fool Green Light. At the time of publication, he didn't own any of the securities mentioned above. Wal-Mart, Coca-Cola, and Anheuser-Busch are Motley Fool Inside Value recommendations. You can check out the Fool's strict disclosure policy by clicking right here.
