‘U.S. stocks rose, sending the Standard & Poor’s 500 Index (SPX) higher for a second day, as China’s cash crunch eased and slower-than-forecast economic growth fueled speculation the Federal Reserve will maintain stimulus.’ – Bloomberg News
That’s good news for stocks. The S&P 500 gained 0.96% and the Dow Jones Industrial Average gained 1.02%.
It’s good news for Aussie stocks too. As we write, the Aussie S&P/ASX 200 index is up 1.5%.
Normally, talk of stimulus would be good news for another financial asset too — gold.
Not this time. Gold is in a funk. It’s down to its lowest level since 2010…it’s also down 25% this year at USD$1,230.
We know what some folks will say; ‘This is crazy, bad news is good news? How is it possible that stocks can go up?’
Seriously, if you haven’t figured out the investing world has changed…if you haven’t figured out that you need to adjust to the current environment…well, we’ve got some bad news for you. Get used to it.
The recent volatility proves that this is the way it is, and it’s not about to change anytime soon…
Now, we’re not about to go feral on gold. We just take a simple view. Don’t think about it too much. Don’t hem and haw about whether you should buy it.
Just buy small amounts at regular intervals as an investment insurance policy. It really is that simple.
And as history reveals, there are much better ways to build wealth than gold…
How the Billionaires Make Their Money
An argument we’ve made to readers over at Money Morning is that if you want to build real and sustainable long-term wealth, the best place to do that is to invest in businesses.
And the best and simplest way to invest in businesses is through the stock market.
How do we know the stock market beats all other forms of investment when it comes to building wealth? Well, we can go from experience and anecdotal evidence for starters.
But we can also look at hard facts too.
Our chosen reference point is the Bloomberg Billionaires Index. The index is a list of the world’s top 100 billionaires.
It provides an interesting insight into how the mega-rich build their wealth.
Now, you can hold any view you like on the people in the list: Bill Gates, Warren Buffett, Carlos Slim, the Koch brothers, Larry Ellison, and the Walton family.
Almost every one of them has built or maintains their wealth by investing in businesses. If you include the three that built their wealth through real estate (which is still a business) then 100% of the mega-rich built wealth by investing in businesses.
Or take Gina Rinehart. Gina Rinehart didn’t build wealth by investing in commodities. She built wealth by investing in a business that sells commodities.
That’s a big difference. And it’s an important difference. The fact is there isn’t a single person on the billionaires list who has made their wealth by holding just gold or just cash.
These people built wealth by investing in businesses. However, we will admit one thing. The investing environment has changed in recent years. The following illustrations explain what we mean…
You Must Avoid This Vicious Circle
This is how investing used to work:
Source: Port Phillip Publishing
OK. That’s a bit of a simplification. But that was pretty much everything in a nutshell.
Yes, you still had to consider interest rates. After all, the two things that move share prices are earnings and interest rates.
But the actions of the central bank really were a secondary thought. Over the past 15 years, and especially the past five years, that has changed.
Now investing looks more like this:
Source: Port Phillip Publishing
Now it’s not just forecasting earnings, you need to think about the impact that will have on the market…and what impact that will have on the central banks…and what impact that will have on the market…and the impact that will have on earnings.
It’s a vicious circle and a huge bind for investors. The natural reaction is to think, ‘Why bother? It’s all too hard.’
We take the opposite view. But rather than trying to make sense of the ridiculous, we’re simply turning back the investing clock. We know it’s impossible to guess with any degree of accuracy exactly how the markets will react to a Fed statement or an economic release.
So instead, we’ve gone old school…we’re bucking the trend by going back to analysing individual companies…
Going Old School With Your Investing
If you ask most financial advisors they’ll tell you the best place to put your money during market volatility is in the biggest and best blue-chip stocks.
To some extent we can’t argue with that. We’ve long said that you should have around 20% of your investments in dividend-paying stocks.
That’s great because it means the dividend stocks will pay you to hold them even if you aren’t getting capital growth.
However, that’s the only blue-chip stocks we’d hold for the long-term during a volatile market. Because as the past year has shown you, blue-chip growth stocks aren’t immune from big falls.
It means that investors who invested for the perceived ‘safety’ of blue-chip stocks are nursing some big losses. The better approach is to look at the opposite end of the risk scale.
That means looking at speculative stocks. They could be small-cap, mid-cap or large-cap stocks, it doesn’t matter.
The idea is that you’re looking for the biggest bang for your buck. Think about it: what’s the best you can hope for with a blue-chip growth stock? 10%? 20%?
Look, it’s possible you could double your money with a blue-chip growth stock. But we’re prepared to bet against that in this environment.
That’s simply because big blue-chip stocks rely more on interest rates, central bank and government policies. They also have an established customer base they need to maintain. Even a slight economic downturn can turn a profit into a loss.
But at the other end of the scale, among the speculative stocks, it’s a different story. Most of these companies don’t have any revenue or profits to lose.
Or if they do they’re still at such an early stage of development that the growth potential far exceeds the risk of a loss.
We’re talking about companies that are researching a revolutionary medical breakthrough…or a technology company that’s working on revolutionising the entire business world.
Specifically we’re talking about a breakthrough in regenerative medicine that ‘turns back the clock’ on your body, or a company solving the problem of a shortage of data storage space.
Think about it this way. You could either have a bunch of your cash at risk by punting on a 20–30% gain on a blue-chip growth stock, or you could keep most of your cash (relatively) safe in the bank and just use a small part of it to punt on high-risk stocks that could bag you a gain of 100%, 200% or 500%.
Don’t Vegetate, Speculate
In short, it’s about risk versus reward and doing what you can to reduce your exposure to central bank influence.
The way we see it, if a medical or technology company breaks through with a revolutionary new idea it will have a big impact on the share price regardless of the broader macro-economic environment.
You can’t necessarily say the same thing about blue-chip growth stocks.
We admit this is a controversial view. We know that most financial advisors will disagree with this approach. But the reality is that investors can’t afford to invest in the conventional way in this volatile market. And neither can they afford to avoid the market completely.
The market volatility you see today will still be around in 10 years. Ask yourself, can you really afford to sit out of the stock market for that long? And as for the alternatives, a pile of cash or gold won’t build you a lasting retirement fortune.
You can be sure the folks on the Bloomberg Billionaires list won’t stop investing in businesses for the next 10 years, and neither should you.
The only point remaining is in which businesses should you invest?
We’ve stated our view. In a market dominated by central bankers and policy makers the best way to grow your wealth is to avoid the markets most influenced by them.
The best way we can put it is this: Don’t Vegetate, Speculate.
Editor, Revolutionary Tech Investor
PS. Check out the new technology investment advisory service, Revolutionary Tech Investor. The service is still open to new memberships. To find out how you can take part in the latest profit opportunities that we see coming in the ‘Sixth Revolution’, and to find out what we mean by that, click here…
From the Archives…
The Gold Bull is Dead. Long Live the Gold Bull!
21-06-13 – Greg Canavan
Marc Faber: People With Assets Are All Doomed
20-06-13 – Jason Farrell
The Holden Moment
19-06-13 – Greg Canavan
The Pressure is Building in China’s Economy
18-06-13 – Greg Canavan
3,000 Year Old Logic: Don’t Sell Your Gold
17-06-13 – Byron King
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- Think and Invest Like a Venture Capitalist
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About the Author
Kris Sayce began his financial career in the City of London as a broker specializing in small cap stocks listed on London's Alternative Investment Market (AIM). At one of Australia's leading wealth management firms, Kris was a fully accredited adviser in Shares, Options and Warrants, and Foreign Exchange. Kris was instrumental in helping to establish the Australian version of the Daily Reckoning e-newsletter in 2005. In late 2006, he joined the Melbourne team of the leading CFD provider in Australia.