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Was I right for the right reason?

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February 29, 2012 – Comments (7) | RELATED TICKERS: UEC , MHS.DL , CCJ

Just a quick thought.

Something that is kind of a mind(expletive) with investing is you could be right but it is very hard to tell if you were right for the right reason, at least with a trade.

Sometimes you make a bet on a stock, and then surprise news comes out and you make a ton of money.  You were right about the stock, but your thesis was probably incorrect and you got lucky...so will you be right again?

Sometimes it is hard when there is NO news.  Like a few weeks back when the ESRX and MHS deal fell through, I told my mom and  a friend to buy a ton of MHS.  The stock dropped big, to like $60.  I know MHS is a good company.  My thesis for the trade was, if ESRX is trying to buy them out for about $75 a share, and they know more about PBM value than pretty much anybody else on the planet, the market price is wrong.  $75 is an overshoot because buyouts are always expensive, and the company is worth more to ESRX due to synergy than to an average investor.  But even with that factored in, ESRX must think the stock itself is worth at least $67.

So, they did nothing, and ESRX rose to $68 within a week or 2. So you could have made about 13% in 2 weeks, which is a fantastic gain.  However, how do I know if my thesis was right, and it wasnt just general bullishness of the market that lead the stock up high? I will never know.  These plays tend to be my favorite kind though.

 

The one I am wondering about the most though is UEC.  I picked it on caps when the chart looked like it was bottoming, and CCJ said that long term nothing would really change for Uranium.  That was my entry, but my thesis was that, and actually at this point I cant even remember the name or term of the deal, but uranium should go up a lot after 2013.  This is because a lot of current uranium is scrapped from old nuclear weapons.  That program is set to expire in 2013.  After that, my thoguht was uranium miners would have to ramp up production, which was bullish.  I don't know much about the energy sector.  Hell, when I picked the stock, I barely even knew how nuclear power worked. I spent about 4 hours reading about how it worked, and why people preferred it over other types of energy. In about 8 months, my pick outperformed the market by 25%.  That is huge for 8 months!  But was my thesis right...is it starting to be priced in?  Or was the stock just really cheap, or was the economic upturn lifting energy fast, or did it have to do with oil and gas?  I won't really know, so I barely learned from it.

Anybody else ever think about this?  This applies more to trading than investing, but in reality it applies to both.

7 Comments – Post Your Own

#1) On February 29, 2012 at 8:37 PM, RallyCry (< 20) wrote:

What if you thought about it this way:

In a rising market it is easier to be right with a stock that you strongly believe is undervalued because you should reasonably assume you are going to be awarded a greater than average chance it will participate in a move higher based on its own merit alone. If it doesn't happen to move higher with the general market, then look at it as an investment and hold onto your conviction; it should eventually gain traction.

In this scenario, if it doesn't advance as much as, if not more than the market as a whole, this could be viewed as an extended buying opportunity to invest.

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#2) On February 29, 2012 at 9:16 PM, Valyooo (99.47) wrote:

That is one way to look at it.  But what if you have no opinion on the general direction of the market?  And what if it is lagging for a reason?  I will have to wait years to find out, and in those years a number of managerial moves can convolute my thesis.

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#3) On March 01, 2012 at 12:34 AM, RallyCry (< 20) wrote:

Personally, I like picking stocks mostly based on conservative earnings projections and then I reassess when:

A.) The price target is hit

see my pitches and comments on V and AAPL

B.) The price moves 20% in the wrong direction.

see my pitch on MERC

Under these circumstances, I would then need to either change my price target or close my position. 

If you were bearish or had no opinion on the market's performance you should still hold your investment for what could be a better than average chance to should ride out the downturn better than the general market. Some reasons for lagging may include the company being new, small, listed on an OTC exchange, poor brand messaging, bad reputation, an unglamorous product or service, poor stock performance, or other general misconceptions. etc.

Behaviorial economics gives us some more hints why stocks are undervalued. We like to believe things we have seen come true will come true again (confirmation bias). That explains why people who win a horse race will bet more on same horse the next time its races despite better competition- because they have seen the horse win before. Confirmation bias also explains why stocks that underperform are not favored to recover and outperform in the future. People will say things like That stock is a dog or that stock hasn't gone anywhere for 10 years while ignoring the current fundamentals.

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#4) On March 01, 2012 at 1:15 AM, Mega (99.96) wrote:

http://en.wikipedia.org/wiki/Confirmation_bias

does not mean quite what you think it means. 

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#5) On March 01, 2012 at 1:53 AM, Valyooo (99.47) wrote:

That kinda isn't what I was talking about.  Whether or not the stock turns out to be a good investment, it is hard to judge if my thesis was correct; it was easy to judge my performance.

 

Also, I think the term you are looking for is recency effect.

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#6) On March 01, 2012 at 9:23 AM, RallyCry (< 20) wrote:

@MegaShort Yes. And recency effect dictates no more midnight psychology from me.

@Valyooo   If you are using the same disciplined approach toward individual stock selection you could apply it in a vacuum and ignore market performance. Maybe instead of comparing your stocks returns to an index, you could compare it to another stock you picked say over a 1, 3, 5 or 10 year time horizon. If you wanted to compare trades I would use a time horizon of somewhere between 30 days, 1 mo, 3, mo, 6 mo or a year at most.

In case you are interested I have an interesting short term trading thesis outlined here:

http://caps.fool.com/Blogs/bears-gone-wild/691525 

and here:

http://caps.fool.com/Blogs/revisiting-a-recent/692967

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#7) On March 01, 2012 at 2:35 PM, MP7886 (< 20) wrote:

Valyooo

This is a little offsubject, but uranium I feel is a great investment going forward.  The program you were referring to is the Megatons for Megawatts program which dismantle Russian nuclear missiles for use in reactors.  The program does end in 2013 but is only about 16% of the current supply.  This is a fair amount and this is further compounded by the events that occured last year at Fukishima.  Because the spot price of uranium dropped so far after March, many mining companies have reduced or delayed production simply because it is no longer as cost effective.

 Add to that, countries like China and India are RAMPING up their nuclear capacity.  Currently, 80% of China's energy comes from coal, and they are very worried about continued pollution.  The easy solution to this...nuclear.  Currently China has about 16 nuclear reactors in use but are the process of building 26 more!  Here in the U.S. we also approved the first new nuclear reactors since 1976. 

To me all the signs are bullish.  You have increased demand going forward with decreased supply.  This is a good combination for strong earnings.  Most nuclear stocks still trade 50% below their 52-week highs.  No promises they will get back there anytime soon but outlook sure does look good. 

Long CCJ, URA and CXZ

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