Stock picking is hard. Most institutional and retail stock pickers underperform the indexes. But every investor could improve the likelihood they beat the market by following one rule:
Avoid high profile, controversial companies where an adverse news event could produce an overnight price collapse.
Three stocks have proven the utility of this investing rule in spades: Valeant Pharma, Wells Fargo, and Mylan Labs. All three have been scrutinized for behavior labeled unethical by some and illegal by others, and all three have cost their investors in a big way because of it.
With yesterday’s 300-point collapse, the Dow is now down 7.3 percent since January 1st. Other indexes have cratered as well. The smaller company Russell 2000 has shed over 11 percent. In the midst of this carnage, investors are understandably searching for “safe haven” stocks that generate dividends, are inexpensive, and offer less volatility than the overall market. Unfortunately, these ports in the storm are few and far between at the moment. People are looking for any excuse to sell stocks right now, which means anyone looking to buy has to be particularly sensitive to headline risk.
Today no sector faces greater headline risk than the biotechnology and pharmaceutical space, especially companies that have engaged in price gouging. In this toxic environment, names like Valeant, Shire, Vertex, BioMarin, and others are the financial equivalent of the Zika virus.
The sky has been falling an awful lot lately. Every couple of days, something spooks investors into short-lived selloffs. First, everybody freaked out about Ebola. This week, the shooting in Canada’s capital tanked the Dow by two percent.
I can’t count how many temporary, news-driven declines like these I’ve lived through in my career. But I don’t know if I’ve ever witnessed such widespread “Headline Risk.” There are so many Chicken Littles out there with fingers poised nervously over panic buttons, I’m starting to think a better name for the phenomenon might be “Headline Opportunity.”
I rarely do anything when the markets veer over one percent in either direction in a single session. Most of the time, I wait to see if the movement carries over to the next day or the next week. But if I was inclined to act, I’d be a buyer during these downswings.