November 5th, 2009

Another Basket of Speculative Low-Priced Stocks

I don’t know how many of you were readers back in the depths of November 2008 and February 2009 but I floated the idea of assembling a basket of low-priced stocks, something I called “Perpetual Call Options”. Well, it seems that there’s a lot of truth in the saying “timing is everything” (or “don’t fight the tape” or any others of the many sayings around Wall Street).

Back then my thought was that there were just too many stocks that had been beaten down by the extreme general pessimism everywhere in the air and that while one or two of those companies might fail (ala Lehman, GM or CIT), they wouldn’t all disapper; some would eventual recovery and their prices would rise sufficiently to offset the ones with losses. Here is a recap of the results of both lists (click on image to enlarge):

The market is up 19.8% since February 9, the day I wrote about both the second (coincidentally, the market was at approximately the same on both dates). Over the same period, both of the lists have appreciated over 60%. As expected, three of the stocks in the November lists declined since November but the gains on the others more than offset those losses. Likewise, three of the stocks in the February list underperformed the market but, here too, several others did significantly better that the market.

Others gave a pejorative label to the strategy, they dubbed it the “dash for trash” – the strategy of buying low priced, high volatility stocks, with barely any regard for the fundamentals in the hope that market momentum will cause them to appreciate. Well, guess what, if my sample of two is any example, it worked.

But I’m not like another blogger elsewhere who continually writes “I bought them (yesterday, last week, or whatever) and just sold ’em (yesterday before the close) and pocketed a huge profit” (sound familiar TK?). Unfortunately, I was too conservative myself and only bought and still have a couple of them. I wish I could say my picks were based on skill but it really wasn’t. The selection was made when the market was a very depressed and-remember-stock selection was like shooting fish in a barrel.

As the market moves into a new phase, will the “perpetual call” or “dash for trash” strategy still pay off? Are there any stocks left that are suitable for another highly speculative basket? Interestingly, there are still over 1400 stocks (about 30% of the total) under $5 and around 2400 (almost 50%) under $10. So why do we always chase after the likes of JPM, PG, AMGN, AAPL or AMZN.

With the economic productivity numbers coming in today better than anyone expected, some are now talking about a real burst in profits as volume begins to build faster than people costs across the economy. It’s the sort of environment where the stocks of survivor companies, those have been left behind for dead, can start shining again because they’re starting from a low profit base, low valuation and low stock price. The upside potential is great and the downside … well, they’re not far from zero now.

If you put an equal small dollar amount ($1000 for 625 shares of stock selling at 1.60, for example) in each of about 10 highly speculative stocks together a small basket you might wind up in 6-9 months with the basket having grown in size, much more than had you put that same money into SPY. You probably will get some duds or failures but you’ll also have one or two stars.

I trolled the charts of stocks under $2, stocks that look they’re making an effort to start heading up. I came up with a typical list of random stocks:

Stop! Before you go out and buy these stocks, memorize these caveats:

  • The stocks were selected randomly and not based on any fundamental analysis (or rigorous technical analysis either).
  • Success on the prior lists above are no guarantee that any other list of “perpetual call options” or “dash for trash” will produce equal results or positive results at all.
  • This discussion is more about a tactic rather than about specific stocks. There is a large universe of stocks to pick from and you should make your own selection.
  • You know your own tolerance for risk so, if you do something like this, you have to decide on how large the basket could be and how many stocks in that basket to spread the risk.
  • Many low-priced stocks are thinly traded so you should set the price you’re willing to pay and use limit orders.

Most importantly, the two “baskets” I described above were started at the beginning of one of the best bull market recoveries in stock market history (over 60% in 7 months). Basket 1 above actually took a large loss between November to February and only started appreciating as the market recovered. There’s no need to hurry and put something into place because the best time to launch a strategy like this is at the beginning of a bull market trend. It’s perhaps best to stick this in the back of your mind and pull it out after the consolidation.

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  • Anonymous

    GURU,are you still watching SOLR to buy in ?Thanks for any info

  • Joseph Meth

    Not only watching SOLR but bought some. Haven't seen anything to change my mind, yet. Looking for a move above 6:00 but takes patience given the market's current directionless swirling.