2 Ways to Fish at the Bottom of the Market - KoamNewsNow.com

Summary

2 Ways to Fish at the Bottom of the Market

newsfeedback@fool.com (Taylor Carmichael)

2 Ways to Fish at the Bottom of the Market

newsfeedback@fool.com (Taylor Carmichael)

Bottom-fishing can be incredibly profitable. My single best investment over the last several years has been Novavax (NASDAQ: NVAX), and it remains my best performer in Motley Fool CAPS.

In the fall of 2019, I bought shares of Novavax at $7. By the end of the year, the darn thing had dropped to $4. I added some more shares. (I had to ignore the voice in my head that said, “This is really stupid.”). In February 2021, the stock hit $330 a share. That was a lot of fun.

Can I do it again?

Of course, I want to replicate my Novavax success. So I’ve been buying stocks that are way down in the cheap seats and have the potential for a big upside.

My family has recently bought shares of a $2 micro cap, Velo3D (NYSE: VLD), because SpaceX is a major customer. And when Carvana (NYSE: CVNA) dropped 90%, we doubled our share count. When the top dog in the iBuyer space, Opendoor (NASDAQ: OPEN), fell into the single digits, my family opened a position. Shopify (NYSE: SHOP), my favorite stock, is down about 80% off its highs (and it’s still expensive!)

In fact, the best stocks in the market are usually pricey on a price-to-earnings (P/E) and price-to-sales (P/S) basis. The market, in the aggregate, thinks Shopify is an amazing company and has priced it accordingly. Shopify’s P/E ratio is 282, and that’s after the 80% drop in the stock price.

My goal as an investor is to own shares in the companies that are going to be monster stocks in the future. The price of a stock only tells you what the market, in the aggregate, thinks about a stock. So a dramatic fall in a stock price says that other investors are becoming more negative about a company. Investing in that negative environment can be scary. What if the market is right?

To use Carvana as an example, the market thought it was worth $375 a share a year ago. Now the market says it’s worth $22 a share. To me, that’s actually exciting as an investor because I see a huge discrepancy in those prices. I do not have the view that the market was an idiot last year, and now it’s brilliant. Instead, my view is that the market doesn’t know how to value this stock.

How do you buy stocks that have been killed?

You have to be philosophical. Remember, almost all the billionaires made their money in the stock market. Elon Musk is the richest man in the world because of the stock market. Jeff Bezos, Warren Buffett, Bill Gates — these are all people who made billions of dollars owning shares of the finest companies in the world.

The first thing to remember is that a stock market crash, like many of us have seen in 2022, hits all the optimists who are building wealth through stock ownership. The richest people in the world have lost billions from their net worth in 2022, while the multimillionaires have lost millions. And the rest of us have lost thousands.

It’s just on paper. It’s just valuations. And a crash in valuations doesn’t count as a loss unless you’re actually selling your stocks for money.

Last year my car died, and I needed to buy a new car. Luckily for me, in 2021, Carvana’s stock was a lot closer to $375 a share than $22 a share. So I sold some shares to buy a used car on Carvana. (Great customer service, by the way — they fixed my brakes for free.)

It was pretty exciting to be able to repurchase shares at a far lower price. I’m bullish on Carvana. The company had a bad first quarter. But management has a plan, and my investment thesis remains intact. My investment thesis in one sentence: Used car sales are shifting to the internet, and Carvana — as top dog and first mover — will be the major beneficiary of this trend.

That’s one way to bottom-fish. Start with the stocks in your own portfolio! These are the stocks you ought to know best. Your investments are where your money is, so I hope you know something about your investments. Don’t just blindly add money to stocks that have dropped 90%. As a general rule, I would assume that most stocks that drop 90% are horrible investments. Over time, great stocks go up, and bad stocks go down.

In the short term, amazing price shifts can occur. This year the market has gotten really negative based on macro criteria (inflation, war in Ukraine, and recession). Remember, a falling stock market makes people scared, and many bail, often taking a loss. And hedge funds are shorting everybody.

When the sky is falling across the market, even amazing companies can see massive drops in stock prices. That, in my opinion, is what happened to Carvana and Shopify. For those with a long-term outlook, this short-term devastation can be an opportunity.

The other way to fish at the bottom of the market

It can be really scary buying a stock that is at its all-time lows, and all the investors are underwater (except maybe the founder and other insiders). My initial Novavax investment was like that. Recently I’ve been buying shares of Velo3D and Opendoor. There is no beautiful mountain in these stock charts. It’s downhill all the way.

One of the best ways to deal with fears is to limit the size of your first purchase. If you’re buying a new stock, and it’s way down off its highs, you might put less than 1% of your assets in it. So if your net worth is $100,000, following this rule you’d only buy $1,000 of a high-risk stock.

Another method is to pretend you’re buying at the all-time high. Suppose you normally invest $3,000 in a stock when you’re feeling confident. Velo3D, at its all-time high, was $13 a share. You could get 230 shares for $3,000 at that share price. Instead of using the dollar amount ($3,000), use the share amount. Buy 230 shares of Velo3D at $2 a share. That would cost you less than $500.

You can always add more if the company outperforms and the stock is going up. The key is to make a lot of different investments, be patient, and let your winners run.

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Taylor Carmichael has positions in Carvana Co., Novavax, Opendoor Technologies Inc., Shopify, and Velo3D, Inc. The Motley Fool has positions in and recommends Opendoor Technologies Inc. and Shopify. The Motley Fool recommends Velo3D, Inc. and recommends the following options: long January 2023 $1,140 calls on Shopify and short January 2023 $1,160 calls on Shopify. The Motley Fool has a disclosure policy.

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