One of my favorite paintings is a satire by Jan Bruegel the Younger of the 1630s Dutch tulip craze. It's an oft-evoked investing metaphor. In a nutshell, tulip bulb prices inflated to incredible heights, reaching sums equivalent to a palace on the best canal in Amsterdam. Everyone was an expert, and only chumps sat on the sidelines.
The painter's opinion of the trade could not be clearer. Monkeys play the part of the country's well-dressed business class. They bid on tulips, examine tulips, read about tulips, talk about tulips, fight over tulips, waste their fleeting tulip gains on expensive food and booze, and cry over lost tulip fortunes. And in one corner, one little monkey sums up the painter's opinion of the entire craze.
All alone, the only monkey with the guts to admit the truth unceremoniously drops trou and whizzes on a pile of tulips.
The moral of the story: Don't invest where the monkeys whiz.
No craziness in value
That's a philosophy that stock cheapskates like those of us at Motley Fool Inside Value take seriously. And it's an important concept to keep in mind, because as ludicrous as it sounds, even the most disciplined among us sometimes get an irresistible urge to invest where the monkeys whiz.
In that respect, we're a lot like the 17th-century Dutch. They rank among the greatest businessmen in the history of the world. How did this incredibly sophisticated commercial society get caught up in such a frenzy? By ignoring some simple, time-proven rules on purchasing investments. What's the real value of this thing I'm buying? Am I sure? OK, now how much should I pay for it?
These are the same questions investors must face today every time they click that buy button. So, if you're unsure whether your new investment idea is on the wrong side of that anxious-looking monkey, here are a few ways to find out.
If you buy a stock based solely on your love for the product, you might be investing where the monkeys whiz.
Betamax? Satellite telephone? Pet rock? Boston Chicken? TiVo? Krispy Kreme Do I need to say more? A product, no matter how great, is not an investment case. The bottom line for you as a shareholder is, "What do I stand to gain?" It doesn't matter how much product a company can move if there's no trickle-down for shareholders. Unfortunately, many people are so addled by their love of the goods that they don't do the math. There were skeptics pointing out the flawed numbers at Krispy Kreme long before the average, doughnut-blinded stock speculator saw the harsh truth. Investors lost millions as a result.
If you buy or sell stocks based on peer pressure, you're definitely investing where the monkeys whiz.
For some reason, the Wise on Wall Street insist on telling us that the best time to buy stocks is when they're heading up. Ridiculous. For every gravity-defying Intuitive Surgical
By contrast, value investing means ignoring the popular crowd, enduring the barbs, and then hanging out with the geeks. Huge potential profits await those of us who are clever enough -- and brave enough -- to buy what everyone hates. My portfolio has seen its biggest gains on just such calls. Nokia in the summer of 2004. Chico's FAS that fall. PetroKazakhstan
Over the past two years, the time to buy one of my favorite companies, flash-memory leader SanDisk
The list goes on and on. Last fall, Omnicare Financial
Decades of outperformance by value investors prove that the time to buy is when no one else wants to and the stock price plummets. But how do you know whether a market spanking is justified or not?
If you're unaware of the potential difference between a firm's present street value and its real "intrinsic" value, you might be investing where the monkeys whiz.
Unfortunately, the value of a company is not well represented by its market cap. Its underlying worth to you as an investor is a concept sometimes referred to as its "intrinsic value." This is what we believe the company to be actually worth, based on expectations of revenues, earnings, or other factors. At any time, a company may be trading for more or less than what investors consider its true intrinsic value. As value investors, our goal is to find companies that sell for less -- a lot less -- than we consider to be their true or intrinsic values.
For example, Microsoft
If you trust mass media's earnings headlines and company PR, you might be investing where the monkeys whiz.
As we've said here many times before, earnings are an accounting opinion, and they're open to major manipulations, all of it perfectly legal. The earnings-release problem is exacerbated by the fact that the news drones rarely do anything more than regurgitate the press releases that come from the companies themselves.
The continuing "pro forma" parade at Cisco and the old "hide the obsolete inventory" game we saw last year at Intel
But fear not. If you're new to reading corporate financials, there are plenty of savvy, friendly skinflints on the Inside Value discussion boards to help you hone your skills. To see what stocks they're following and what lead analyst Philip Durell is recommending, take a free 30-day trial to Inside Value. Unlike those pricey growth stocks out there, this offer's risk-free.
Foolish bottom line
Value investing is never easy. We rarely call the bottom, so when we buy discounted goods, we usually have to endure a period of even bigger discounts. But if it were simple, everyone would be doing it and, well, there wouldn't be any bargains out there. Personally, I think you can gather the guts to stop investing where the monkeys whiz, make the gutsy calls, do the math, and beat the market with value.
For related Foolishness:
- Learn how to put a price on tomorrow's dollar.
- Find out why value beats growth.
- Take a look at Intel's inventory games from this time last year.
This article was originally published on Jan. 28, 2005. It has been updated.
Seth Jayson shops the bargain aisles in every endeavor. At the time of publication, he had shares of SanDisk. View his stock holdings and Fool profile here . TiVo and Krispy Kreme are Motley Fool Stock Advisor picks. Taser and Intuitive Surgical are Motley Fool Rule Breakers picks. Fool rules arehere.