Buy Low Sell High

Last week I discussed the age old doctrine of buy low and sell high in the realm of politics and I want to expand on that somewhat but in its natural realm of investing. I do not profess to be an expert in economics or investing but I guess I have an interest in the world of money and I do a lot of watching, reading and listening. It seems to me that the best strategy when it comes to investing is to find the class that is most out of favor and buy quality within that class and then wait. I know this sounds very simplistic but in practice is very difficult to implement.

The natural tendency of people is to invest in the class that is running up or that already had its run-up resulting in buying at or near the top or missing a significant segment of the run up. It is inherently difficult to invest in a class that nobody else wants and seems to be decreasing but that is exactly the time to buy it. It amazes me the degree to which herd psychology plays a tremendous force in the world of investing and that is why it is difficult as one has to go against the herd. This scenario plays out over and over again.

So when should one buy into a class that is out of favor as it is impossible to detect the ultimate bottom. Since it is not possible then one should buy the out of favor class with the knowledge that if that class continues to decline then the opportunity presents itself to buy even more at a greater sale price. Thus, one should only invest gradually into this class. If it starts to rise then one could start looking at other investment classes that me be newly out of favor to invest in. The advantage of the individual investor is that he does not have to show an above market return every quarter. He can continue to amass more out of favor investments and sit tight and wait. At some point all investment classes eventually rise. The question of when to sell is also difficult but should also be done gradually as it is not possible to detect the top.

A strategy that would implement these ideas is to have a portfolio with each class comprising a specific percentage. The portfolio is adjusted yearly or quarterly to maintain the pre-determined percentage. In this scenario classes of investments that have declined would be bought to bring them up to the correct level and vice-versa for appreciating classes. This removes the psychological aspects and forces one to buy losing classes and sell winners.

Looking at today’s market then, which assets should be bought and which should be sold. The market which seems to be most overbought and bubble-like is the US treasury market. The upside is highly limited and those that are using these instruments as a hiding place to protect their money are going to experience significant losses when the market turns and interest rates rise (resulting in a depreciation of their principal). Currently, stocks and commodities are somewhere in the middle, neither overbought nor oversold.

The market which seems to be most out of favor is the one related to housing. Which mechanism to use to purchase within this class is difficult to say. Maybe certain REITs, or housing stocks, or buying foreclosed properties. If I could get my hands on certain distressed debt such as collateralized mortgage obligations at significant discounts I think would be a terrific play. Anyway, just to reiterate my disclaimer that I am an armchair investor but if you look historically every class eventually has its day it just takes courage to go against the herd and be patient.