2017 has been a relatively calm year for global stock markets. We haven’t seen the same levels of market volatility that we saw in 2016. As a result, most investors have probably achieved solid returns this year.
However, despite the general market tranquility, there are still important lessons that we can take away from 2017. That’s the thing about investing, no matter how experienced you are, there is always more to learn. With that in mind, here are three lessons from 2017.
Watch the shorts
Investors who go ‘short’ on a stock, are betting on its price to fall. Those shorting are usually hedge funds, institutions and other sophisticated investors. Whereas regular ‘long’ investors make money when share prices rise, shorters benefit when prices fall.
The market is full of ‘weak longs’ – those that own a company because everyone else does, however, it’s rare to find a ‘weak short.’ Those shorting a company are usually convinced its share price will fall. When you get many investors shorting the same company, it’s time to be careful.
Just look at what happened to Carillion this year. The stock had consistently been one of the most shorted stocks in the UK (you can find the full list here). At one stage, 30% of its stock was being shorted. The shorters called it perfectly. Carillion released a profit warning in July and its share price collapsed 70%. The shares have continued to fall since, losing over 90% of their value this year.
Lesson learnt – keep a close eye on the shorts. Avoid any stock that is heavily shorted.
Don’t blindly follow the pros
While it’s worth keeping an eye on what the pros are doing, it’s also important to remember that these guys don’t always get it right. Therefore, you shouldn’t just blindly follow fund managers’ purchases or sales.
Take Neil Woodford for example. As the UK’s most celebrated portfolio manager, many investors (myself included) regularly monitor his holdings. However, this year, Woodford has had some absolute stinkers. Provident Financial has lost 70% of its value. Saga recently fell 30%.
Lesson learnt – fund managers get it wrong too. Don’t blindly follow them.
High valuations are ok in a bull market
Lastly, another lesson from this year is that during a bull market, stocks trading at moderately high valuations should not necessarily be avoided. Many growth stocks with P/E ratios in the 20-30 market have performed very well this year.
For example, a holding of mine, DotDigital Group usually trades with a P/E of around 25-30. This year the stock has risen from 60p to 95p.
But a low valuation on a growth stock can signal trouble. For instance, Telit Communications, despite the attractive Internet of Things growth story, was trading on a P/E of around 12-13 at the start of the year. This suggested investors had suspicions about the stock. They were right to be suspicious as CEO Oozi Cats was accused of fraud during the year, and the stock lost 40% of its value.
Of course, very high P/E ratios introduce an element of danger too. Look at Boohoo.Com. Its share price has fallen 30% in the last few months. However, a P/E in the 20-30s can indicate that the market acknowledges the growth story but has not got too carried away with the valuation.
Lesson learnt – in a bull market, expensive stocks can perform well.
