If Investors Would Only Follow This One Time-Proven Rule

“Profit Confidential” Column, by Michael Lombardi, CFP, MBA

Oh my, how quickly the years pass us by. And how investors never learn the easy lesson of how simple it is to keep their investments away from the greed and fear of Wall Street, so their money grows instead of disappearing.

The year 1999 doesn’t sound like it was too long ago; in fact, only a decade has passed since. Remember the tech bubble? I do. In fact, I remember sitting at a real estate closing and a realtor friend of mine was there on his cell phone telling his broker to buy large quantities of tech stocks (at over $100.00) each.

When I asked the realtor what these companies do, because I had never heard of them, the reply came, “What do I care what they do, don’t you know all the Internet stocks are going up?” The NASDAQ hit 5,000 in the year 2000. Today, it sits at 2,165.

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By the mid-2000 decade, investors were out of the stock market and heading for real estate. Who could blame them? Interest rates fell to ridiculously low levels in the summer of 2004. It was easy to get a loan for a bigger and better home, because these loans called “non-income verification loans” became ever so popular. And who could
forget those mortgages with adjustable rates where the borrower paid no interest for the first couple of years?

I remember riding in a taxi in 2005 and being told by the driver that he had just bought his third investment rental. “Does the rent cover the mortgages and expenses?” I asked. “Of course not,” came the reply, followed by, “Don’t you know property just keeps going up? IT WILL NEVER GO DOWN.” So much for that cab ride!

Those that upgraded their homes, or bought second or third homes, during the realty boom years of 2005 and 2006, will likely never see their home prices go back to their 2005 price level in their lifetime. But consumers had no reason to fear. Back in November of 2006, the National Association of Realtors ran full-page ads in major American newspapers claiming, “Right now may actually be one of the best times to buy a home.” (By the way, how come no one ever sued them?)

Then came 2007. Investors flocked to the stock market, sending the Dow Jones Industrial Average to a record high of 14,164 in October 2007. When it became obvious in 2008 that the real estate crash would kill the economy (even though our Fed Chairman at the time, Alan Greenspan, said that the real estate contraction would be contained), stocks started to tank. Investors froze in 2008 and 2009 and, by March 9, 2009, the Dow Jones had posted a loss of 53%, falling to 6,440.08.

And what happened as the year 2009 developed? Well, investors were too scared to do anything. They pulled their money out of mutual funds in the spring of 2009 (at record rates) and never got back into the stock market, tech stocks or real estate. The great majority of retail investors missed the boat this year when it came to the stock market…a year that will go down as a great year to be in stocks.

But investors should have no fear. By 2010, they’ll be feeling good about the economy again. And that’s when they’ll get back into stocks, maybe at Dow Jones 11,000 or maybe at Dow Jones 12,000. And just when they jump back in, that’s when interest rates will rise again, taking the “oomph” back out of the stock market.

So what’s that time-proven rule investors should follow? Be a contrarian investor and go against the most popular investor trend prevalent at any given time. When people are getting into tech stocks at ridiculous price levels, get out. When people are involved in bidding wars for homes, get out. When the stock market crashes, people are scared and are taking money out of mutual funds at a record pace, buy stocks.

My contrarian prediction for 2010: Next year will be an excellent year to exit the stock market, because so many people will be getting back into it.

Michael’s Personal Notes:

Still too much negativity out there! I get calls from business
associates daily: (1) telling me they can’t believe that stocks continue to rise in price; and (2) asking me when the market will come down again. After talking to these people, I realize that the calls come from investors who missed the stock market rally of 2009 and are waiting for the stock market to go back down again so they can get in.
Wishful thinking, at least for now.

All I know is that, when stocks collapse, like they did into March of this year, there is always a rally of at least 50%, and that’s what we have experienced so far. Add in unprecedented government stimulus, interest rates that are historically low and trillions of dollars of cash on the sidelines, and you have a truly explosive stock market situation.

I’m still very bullish in the immediate term, and very bearish in the long term, as eventually interest rates will rise and bring the stock market back down.

Where the Market Stands:

Not much you can say about the stock market except…wow! This baby doesn’t want to go down. The Dow Jones Industrial Average is up 56% from its March 2009 low and up 15% from where the market started 2009. Last night, Amazon.com, Inc. (NASDAQ/AMZN) came out with third-quarter earnings significantly higher than what analysts had expected. I’m sure this will add fuel to the market’s continued advance this morning.

What He Said:

“Any way you look at it, the U.S. housing market is in for a real beating. As I have written before, in the late 1920s, the real estate market crashed first, the stock market second and the economy third. This is the exact sequence of events I believe we are witnessing 80 years later.” Michael Lombardi, in PROFIT CONFIDENTIAL, August 27, 2007.

“As for the stock market, it continues along its merry way oblivious to what is happening to homebuyers’ wealth. (Since 2005, I have been writing about how the real estate bust would be bigger than the boom.) In 1927, the real estate market crashed and the stock market, even back then, carried along its merry way for two more years until it eventually crashed. History has a way of repeating itself.” Michael Lombardi in PROFIT CONFIDENTIAL, November 21, 2007.

Above: Two dire predictions that came true.