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Strategy Two Arrows

by WealthEffect Staff


Buy the companies you want when their shares are out of favor
  Buy when the insiders are buying  
  Some practical suggestions  

The best time to buy shares in the companies you like is when others dislike them. Unpopularity creates opportunity.

At any given time, stocks will sell for whatever price the market will bear. The more negative the sentiment, the less people are willing to pay.

Fear is a powerful emotion (more powerful than its counterpart, greed). When the crowd is afraid to own a stock, those willing to be contrarian have two advantages: the price will be depressed and, with expectations low, the potential for positive surprises will be increased.


Another favorable time to buy shares is when those who run the company are buying themselves. These insiders — senior management and directors — have a better idea than most the attractiveness of their company's stock. And, fortunately, insiders are required to publicly disclose their trades.

Peter Lynch, the former manager of the Magellan Fund, has noted that insiders might sell their shares for any number of reasons, but they buy them for only one: they think the price will rise. Perhaps the best example of insider confidence was Steve Ballmer's purchase of $50 million of Microsoft stock in 1990, which subsequently grew in value to over $1 billion.


As a practical matter, you can get a measure of a stock's unpopularity by going to www.quicken.com and looking in the "Analyst Estimates" category for that stock. Under "Analyst Ratings," a consensus number is provided. This number will range between 1.0 if all analysts have a 'Strong Buy' on the stock to over 3.0 if analysts view the stock as a 'Hold' or worse. (Bear in mind that, on Wall Street, 'Hold' ratings are uncommon and 'Sell' ratings are as rare as black diamonds.)

For those companies you like, look to buy or add to positions when the consensus number is 2.2 or higher. Even if you are dollar-cost averaging, you can should be more aggressive when the number is high and more cautious when the number is low. (For example, in a year when the number is high, you might accelerate your dollar-cost averaging; when the number is low, however, you might postpone some of your dollar-cost averaging to a later time.)

Regarding insider buying, we recommend "The Insiders," which can be accessed at www.institute.com. Again, focus your attention on companies with sustainable competitive advantages and quality managements. When those companies are highlighted for significant insider buying, you should be more aggressive in your purchases.

A note of caution: most investment-grade companies have significant stock-option programs which allow senior managers to accumulate a great deal of stock without buying in the open market. Accordingly, don't necessarily view a lack of insider buying as a warning sign.

Suggestion: Go to Margin