Monday, May 9, 2011

Stock Analysis Just Like Sports

Welcome back! Actually, that was a message for me.

Truthfully, I didn't think anyone was reading I stopped spending my time writing posts to this blog. (Plus, I've been working on other projects.)

A thought occurred to me last night.

As I read or listen to sports predictions, it amazes me how often things replay themselves--including people's analysis of sports events as they unfold.

For basketball and hockey, it's playoff season. So there is all sorts of analysis. A lot of this analysis tends to be extreme.

Every year, teams will play best-of-seven series. The format (usually) is that the higher ranked seed gets to play their first two (2) games at home. The next two games are played at the other team's (lower seeded team's) home arena.

At some point during the playoffs, the home team wins the first two games.

To me, that seems pretty logical. They were ranked to be the "better" team, and they had the more favorable conditions of playing at their home stadium in front of friendly fans.

However, every year, you see sportswriters doom the lower seeded team, even though they have not played a home game, yet. A lot of the fans follow in the jubilation or panic--depending which team they want to win.

There are plenty of times when a team loses the first two away (non-home) games, but they eventually win the playoff series. You'd never guess that by the headlines that people write.

What do sports playoffs have to do with the stock market?

I notice the same type of wishy-washy panic or celebration with stocks in the market.

If a company has a bad quarter, often people--in mass--will start to dump (sell) the stock. The stock price takes a dip.

Sometimes, a bad quarter is a sign of bad things to come. However, people often forget to look more closely. They read the headlines or decide to panic without being "told."

It could be a good company that is in a struggling industry like Ford (F) in 2008 when the American auto industry was hurting. It could be a company that had a one-time bad situation like British Petroleum (BP) and their oil spill. It might just be a traditionally bad time of year for all companies within a particular industry like Wal-mart (WMT) following the Christmas season.

By the way, this works the other way, too.

Don't get ready to pay top dollar just because the headlines are good. For a while, people were paying top dollar for Baidu (BIDU), the Chinese version of Google (GOOG). It is a great situation, but it is already priced that way. In fact, its stock price keeps going up a lot more quickly than the company's actual growth--by a lot.

People are buying the hype. The company is good. That is not my point. The company's stock is a rip-off right now, but people keep buying it because of its fanfare. China is heading for a similar problem that we had here in the US with real estate a few years ago.

The prices keep rising because the demand keeps getting crazier. Once people can no longer afford to keep paying higher prices, the demand will weaken. That means there will be fewer people buying--fewer people will be able to afford it. Then the price will drop--dramatically.

My overall point is that don't buy into the extreme doom or celebration just because of extremely bad or good news.

Ask yourself, can this current outcome be explained? Did the team lose the first two games that it was designed to lose, anyway?

Don't buy a stock just because it won its first two home games.

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