It's one of the most frustrating things in investing: You find a company that you believe to be cheap. Really, really cheap. You buy it. This is the one -- this company is gonna make you rich. So why isn't it going up?
It's not so much that the stock is dropping. It's that it's just sitting there, like cement.
There are a number of reasons that a stock doesn't move the moment you hit the "buy" button. The first and most important of them is this: The market doesn't particularly care what you think. The market existed in a state of equilibrium before you made your brilliant purchase, and it will exist in that same equilibrium for a long, long time.
"What's wrong with people that they can't figure this out?!" you scream, watching your stock sit still in the same way that a litter of kittens doesn't.
Even for the most patient, assured investors, the waiting game can be interminable. How many times have you looked at a company and said, "Well, I'd buy it, but this stock hasn't done anything in years!"
Of course, stocks don't get to be cheap without reason. In fact, there are three main reasons they might be cheap:
- The company has operating or earnings problems.
- The company's industry is out of favor, boring, or confusing.
- The company is of low quality or is in decline.
Rewards for the patient
Although there are plenty of people out there who do fine by buying garbage companies because they are underpriced, let's throw out the third scenario. Instead, let's focus on the Philip Fisher special -- a company with rising sales and profits that is temporarily out of favor.
I'll give you some examples. In 1999, I watched people get "rich" on companies like Chemdex, Juniper Networks
The catch was that you had to be patient. Few people were. But great investors -- such as Bill Miller and Bruce Berkowitz -- had the opportunity to buy enormous positions in extremely profitable companies such as Berkshire Hathaway
What happened, as we all know, is that the neglected turned into multibaggers, while the anointed turned into half-baggers. Or worse.
The Foolish bottom line
This doesn't mean that waiting isn't excruciating. You can be right and way in the red. Stocks move for unknown reasons, and studies have shown that these reasons do not necessarily correlate with earnings growth, particularly over the short term. Over longer terms, they correlate highly with earnings and cash flows. Which is why at Motley Fool Hidden Gems, those are the criteria we look for. It's a simple, simple philosophy. Buy great; don't worry about the wait. The results continue to be very pleasing.
Hidden Gems recommendations are beating the market at large (as measured by the S&P 500) by more than 20 percentage points since the newsletter's inception in July 2003. You can view all of our picks (as well as everything ever published in our pages) for free with a 30-day trial. Did we mention it was free? Click here for the details.
This article was originally published on Jan. 5, 2006. It has been updated.