Here's the best way to invest, whatever the state of the stock market.
When the market bottomed out in March, what did you do?
Did you treat it like a fire sale and buy everything you could? Or did you join the wave upon wave of panic selling?
If you were aggressively buying as the rest of the world was panicking, congratulations. You can count yourself among the fiercest trading sharks in the City. If, on the other hand, you cashed out near what turned out to be the bottom, well, consider yourself dog food.
How About Neither
While no one wants to be the one eaten (much less admit to selling at the bottom), being a shark, especially during times of market volatility, isn't as easy -- or as profitable -- as you might think. For one thing, you need nerves of steel and an absolute conviction that things will work out, despite the rest of the market panicking around you.
For another, you need a significant bankroll. In this recent market meltdown, that was far easier said than done. After all, not only was the stock market tanking, but the debt market was collapsing right along with it. As the debt market evaporated, so did the most aggressive investors' primary source of funding.
In other words, even if you had had the clairvoyance and internal fortitude to buy during the market's panic, you likely would have lacked the capital to truly strike it rich.
And finally, have you seen the junk that's led the rally? Royal Bank of Scotland (LSE: RBS) for instance, still a money-losing ward of the state, is up around 240% from its January low point. Even if you had both the capital and the nerves to aggressively invest, would you really want to tie yourself to that company? I don't.
In fact, between the capital crunch at the market's bottom, the junk that led the rebound rally, and the insane volatility, I'd be surprised if more than a few lucky souls truly did well by buying aggressively.
Doing It Differently
But there are investors who neither panicked and sold nor tried to time the market and figure out which shares would rally the highest. Who were these lucky people? Investors who bought the shares of great companies for a price somewhere below what they calculated was the fair value of the company.
Sure, they suffered during the market's tremendous drop, like everyone else did, but because they based their investing on underlying businesses, the simple fact of stock market volatility -- even really dramatic stock market volatility -- didn't necessarily change their thesis.
After all, would you feel the need to sell the shares you owned based only on a tanking market price if the companies behind those share prices had:
- solid balance sheets;
- decent cash flows;
- products that were still in demand even as the economy tanked; and
- significant moats against competition?
If anything, you would have been in a much better position to both hold onto what you already had and to invest your dividends and new capital back into buying even more shares -- thus capitalising on the volatility.
Panic-free Investing
While the market is less volatile than it was, the short term is still unpredictable -- as it always is. Rather than trying to aggressively time buys and sells to top the market, it's always better to buy excellent companies for great prices and hold on regardless of what the market does in the short term.
Take a look at these companies, for instance:
| Company | Recent share price | Forward P/E ratio | Forward dividend yield |
|---|
| BP (LSE: BP) | 585p | 9.7 | 6.1% |
| Vodafone Group (LSE: VOD) | 142p | 9.6 | 5.8% |
| British American Tobacco (LSE: BATS) | 1938p | 11.8 | 5.6% |
| Tesco (LSE: TSCO) | 433p | 13.6 | 3.1% |
| WPP (LSE: WPP) | 586p | 11.6 | 2.6% |
These are big, solid, stable FTSE 100 companies. They're clearly generating the cold, hard cash necessary to sustain themselves through a rough economy. Perhaps best of all, with their shares fetching around 10-14 times next year's expected earnings, their prices appear to be reasonable.
The Right Mind-set For Success
Our analysts at Champion Shares PRO are constantly on the hunt for great companies, selling below their true value, and paying high and increasing dividends. If you're ready to swim loops around those sharks by buying parts of solid businesses at reasonable prices, click here to be alerted the instant the PRO service re-opens to new members.
More on the economy and the markets:
> This article was originally published on Fool.com. It has been updated by Bruce Jackson, who doesn't have an interest in any of the companies mentioned in this article.
