Stocks at 52-Week Lows... Should You Buy?
(Oct 19, 2015)
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In this issue:
» Are FII flows a good indicator of stock market trends?
» Are low crude oil prices truly a boon for India?
» ...and more!
We love to interact with subscribers through their queries and feedback. Their feedback provides great insight into investing behaviours and sheds light on prevalent investing myths. One of the more common queries is why we recommended XYZ stock when it is trading at a 52-week high.
It's easy to find out a stock's 52-week highs and lows. And unfortunately, it's easy to misuse this information.
Here is a question for you: Do you care more about a company's 52-week highs and lows than its valuations and prospects? Do you use 52-week stats as buy and sell signals? If so, you are among the majority. And most likely, on the wrong side.
Let me give you an example. When we recommended Astral Polytechnik in Hidden Treasure a few years back, it was trading close to its 52-week high. Some of our subscribers were worried about the high recommendation price and even wondered if we had made a mistake.
Well, the stock has been a multibagger. In fact, the recommendation price - the then 52-week high - is the lowest the stock has traded since the recommendation.
Successful long-term investing isn't determined by 52-week highs and lows. Yet, this data is among the most researched by investors. What's worse, investors use 52-week reference points to make investment decisions. They are confusing this strategy with value investing.
A stock at a 52-week low is not necessarily cheap or undervalued.
And a stock at a 52-week high is not necessarily expensive. Investors often react irrationally to stocks at 52-week highs and lows because of anchoring bias.
The market price does not determine if a stock is cheap or expensive. Buying a stock solely because it is at a 52-week low is like indulging in any other purchase just because you'd get a discount. Would you buy a pair of shoes just because they were on sale? Wouldn't you also take into account the quality of the shoes? If you could determine the shoes wouldn't last a month, would you still indulge in the discount?
The fundamentals - business potential, management quality, growth prospects, stability, etc - versus the price should be the guiding criteria. Unfortunately, many investors just focus on price. This leads to value traps.
If a stock is trading at 52 week lows or highs, there's probably a reason.
A stock's market price is nothing but an indication of what major participants perceive its value to be. For a stock trading at a 52-week high, perhaps the market expects it to move higher on the back of better business prospects. And if a stock is trading at a 52-week low, it could be because the majority of investors expect business prospects to worsen.
Of course, markets aren't always right. But unless you have a specific insight that contradicts market expectations, you are unlikely to benefit just by having a contrary opinion.
Avoid bottom fishing. Use a bottom-up approach.
A 52-week low does not mean the stock has bottomed out. It does not make the risk-reward ratio better. For all you know, it might be on its way to fresh lows.
Those who follow 52-week high-low strategies may have examples where the strategy seems to have worked. But more likely, any gains they saw were because of improving or better-than-expected fundamentals.
Your focus should be on the fundamentals and valuations, not price. If there is enough gap in the intrinsic value and current price, along with a margin of safety, invest. Do not confuse buying at 52-week lows with value investing. A stock at 52-week low could be a falling knife. If you try to catch it, you may get sliced.
Have you used 52-week stats as a buy or sell signal? Did the strategy work in the long term? Let us know your comments or share your views in the Equitymaster Club.
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Which way are the Indian stock markets headed now? Will we see the BSE Sensex crossing the 30,000 mark anytime soon? Many traders and investors are perpetually on the lookout for the right signals that would give them a sense of where the markets will move. It appears that there is one indicator that tends to reflect the short to medium term market outlook. That indicator is none other than FII flows.
Today's chart of the day shows net annual foreign institutional investors (FIIs) flows over the last few years and the corresponding Sensex returns in those particular years. As you can see, there seems to be a strong correlation between FII flows and the direction of the market. In 2011, the net FII flows were negative. The markets tanked nearly 25% that year. In the years when FII flows were strong, the annual Sensex returns were positive.
Do FII Flows Foretell Stock Market Trends?
What does this relationship between FII flows and the direction of Sensex indicate now? In the year 2015, while FII flows have been positive so far, they are significantly lower than the flows witnessed in the preceding three years. Does this mean that the outlook for the Sensex is bearish? Should you stay away from the markets now?
The answer is no. It is important to put the FII flows in the right perspective.
First, given the lack of volume depth in the Indian stock markets, FIIs tend to be the biggest market movers. As such, they do affect short to medium term market trends. If you are a short-term trader, then it might make sense for you to follow FII flow trends.
Second, FII flows are driven by a slew of factors other than economic fundamentals. Global macro economic factors, interest rates, currency exchange rates, relative attractiveness of other markets, etc. play a key role in determining FII activity in the medium term. For serious long-term Indian investors who are focussed on business fundamentals, these factors may not be quite relevant. For them, a panic FII sell-off may, in fact, throw up great long-term investing opportunities.
Since over a year, crude oil prices have been on a downward spiral. Weakening global economic prospects coupled with a slowing Chinese economy have been the key reasons for this decline. While the ongoing global economic turmoil has rocked the economic prospects of several export-oriented emerging economies, India has been tagged as an unusual bright spot. Low crude prices are a big boon for India given its heavy dependence on crude imports. And though Indian exports have been hit, the economy is primarily a consumption-driven domestic market with the largest youth population in the world.
But have low crude oil prices really been a boon for India? An article in the Business Line poses this question. Apparently, the benefits so far appear modest. And based on historical data analysis, India's economic growth tends to be higher when oil prices are higher.
Does this mean that lower crude prices will result in lower Indian GDP growth? We don't think so. As you may have noticed, lower commodity prices have brought inflation lower, a challenge that was wrecking India's growth prospects. This, in turn, prompted the central bank to lower interest rates, often a precursor to economic revival. In our view, the impact on economic growth may not be immediate since we have serious supply side constraints as well as high level of bad loans in the banking sector. We continue to maintain our view that low crude oil prices will be a big boost for the Indian economy. But the effects may take time to materialize.
In the meanwhile, Indian stock markets continued to trade firm after opening the day in the green. At the time of writing, the BSE-Sensex was trading up by around 123 points (+0.45%).
"Identifying bubbles is fairly easy. You don't know how big they will get and you don't know when they will pop. You don't know when midnight will hit, but when it does, it turns carriages to pumpkins and mice. What markets will do is pretty easy. When they will do it is more difficult. Some people want to stick around for the last dance, and they thought that a bigger fool would be just around the corner tomorrow." - Warren Buffett
|| Today's investing mantra
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