If you need a hammer, don't buy a screwdriver

By DAVID MOON, Moon Capital Management, LLC
May 26, 2013

A little more than a week ago, famed CNBC commentator and animated investment analyst Jim Cramer said that managers who were taught never to chase stocks were getting killed in this current bull market. He argued that this market is more powerful than any he’s experienced in his 34 years in the investment business.

When the market gets bad news, prices go up. Bad news, prices go up.

It is a common refrain heard in investment circles these days. With bond yields near zero, stocks are the only game in town.

That is a terrible reason to buy stocks. It is a lot like going to the hardware store to buy a hammer, and when learning that the hammers are too expensive, deciding to buy a screwdriver instead.

You either need a screwdriver or you don’t. And while you may try to drive a nail with the handle end of a screwdriver, that’s not what the tool is designed for.

Thus is the logic of many of the new-to-the-party stock investors. Bond yields are so low that they buy a screwdriver.

Just as there’s nothing wrong with a screwdriver if that’s the appropriate tool, stocks serve a purpose. They are vehicles for growth. Some do provide income, but not without the risks of equity ownership. When investors indiscriminately run from bonds simply because they are overpriced, they also run the risk of being sadly disappointed.

It is much better to run to something than to simply run away from something.

Stocks are reasonably priced today. They aren’t cheap, nor are they ridiculously expensive. This isn’t 2000, when Wal-Mart was selling at 60 times earnings. But it doesn’t mean that stock prices can’t or won’t decline. Stock prices bounce around for all sorts of reasons, most of them – at least in the short term – pretty irrational.

And if an investor is taking the proceeds from his maturing CDs and buying three utility stocks or the Acme Safe Dividend Fund simply because he can’t figure out what else to do, he will soon learn that this year’s stock performance is neither normal nor sustainable.

The stock market does not perpetually increase almost one percent a week.

Five-year CDs paying 1.10 percent barely accommodate their very low risk of default, and offer no return for the time value of money.

Stocks are ownership in companies. While some businesses generate more distributable cash than others, the common use of a stock investment is to create growth.

I own stocks. All of my retirement plan and most of my personal money is invested in stocks.

But I didn’t move it there because bond yields are almost non-existent. And I haven’t indiscriminately purchased the entire stock market. With average PEs around 16, the market is full of both bargains and future busts.

There are parts of life that should be simply about enjoying the experience. Investing isn’t one of them. Successful investing requires intention – with both your inaction and your action.

David Moon is president of Moon Capital Management, a Knoxville-based investment management firm. This article originally appeared in the News Sentinel (Knoxville, TN).

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