The Stock Market is Overpriced So Why Am I Still Buying Stocks?

For the last year or so, I would consider myself to be in the camp that stocks are overpriced and have not reflected the fundamentals of a global and domestic economy that at best has been treading water and staying afloat. Since early 2013, I have shorted a small portion of my portfolio in the US S&P500. It hasn’t been a great trade as the market has rocketed to record highs. From a market psychology perspective where investors of all stripes have remained very optimistic as well as a Monetary Policy perspective where Central Banks have been doing everything to incentivize investors to buy stocks, it’s all been golden for equity investors. Despite my skepticism and a ridiculous amount of head scratching, I have still continued to buy stocks. The stock market is overpriced so why am I still buying stocks? Why am I doing this? Am I crazy? Am I selling out?

The answers are I am crazy right now and I don’t think I’m selling out because unlike what the CNBC’s and Fast Money’s and Jim Cramer’s and other infotainment media types of the world would have you believe, successful investing is a marathon. When you run a marathon there are some elements of your investing strategy that should remain consistent, methodical and kept in rhythm, no matter the circumstance. Below I’d like to share a couple that I try to abide by.

Stocks Win Over The Long Term
Over the past 100+ years the top performing investment vehicle has been common stocks. Stocks represent ownership in businesses and as long we live in a society and economic system that encourages innovation and enforces property rights under a rule of law, then stocks will always over the long term be the best performing investment opportunity. So even if the market thinks that stocks are overvalued and if the market believes it then it will adjust accordingly and at some point stocks will become affordable again, but you can’t time it for the moment where stocks will reach their low. You just have to be in it at some level and you have to be prepared to stomach periods where stock prices fall back because stocks, while rewarding, are also the riskiest investment.

Staying Disciplined To My First Principles
No matter the state of the market or economy or global events, I am always researching companies and my strategy for investing in stocks remain the same.

 

  • Identify well-run, well-managed businesses that have a durable competitive position in their market
  • Generate tangible wealth (i.e. generate returns on invested capital greater than its cost of capital)
  • Have clean (low goodwill/intangible assets), simple balance sheets that have minimal/manageable debt levels.
  • Find those companies and buy them when they are on sale (i.e. trading at a price lower than its long-term intrinsic value).
  • Buy these companies and hold them until they reach their intrinsic value or reach an internal rate of return that I am comfortable (which in my case is 20 percent).

 

Just because I think the market is overpriced or heading for a crash does not mean I stop evaluating investment opportunities. If anything, I want to identify these great businesses even if they are overpriced because at some point, the market will misprice them and they will become affordable for my liking. The hard part for investors is the market may enter periods of euphoria and malaise and can emotionally encourage you or dissuade you from doing the work or worse making decisions on a hunch or whim. Even in the last few years, I have tried to be true to my strategy and on occasions, especially on small corrections have been able to buy some stocks at a discounted price and profited from them as the market resumed its ascendency.

These principles are in effect for me at ALL times. They are non-negotiable.

The Human Touch: Emotion Begets Opportunity
As much as technology is running the show with programmed buy/sell orders and high frequency trading, at the core, there is still a human element involved. With the human element comes emotion and at the end of the day markets are created by difference of opinion and with it comes price volatility and just as importantly opportunity. So if you can keep a list somewhere in the back of your head or scratched out somewhere, of those great companies, it becomes a matter of instilling a discipline and picking them up when they are on sale (i.e. when the market decides it doesn’t want to own stocks and when sentiment turns negative). During the run-up the past few years there have been geo-political events (Europe, US Debt Ceiling, Central Bank tapering etc.) within the umbrella of a bull market that have created some buying opportunities and that’s why it is important to be engaged with evaluating and identifying those great companies because a moment or period could come where that great business goes on sale.

The last few years has been frustrating for me as an investor. I feel the market is overvalued, however I’ve learned that even though what you “feel” as an investor may not make sense, it is exactly at these times that for me it is vitally important to step back from the insanity, reset, and review these principles to re-establish my perspective and reinforce continuing to execute my strategy.