Paul Price explores market insanity and how to avoid it when buying stocks. The method is quite simple, but often neglected. It was dismissed during the dot.com bubble because “this time it’s different.” Don’t do that.
To avoid market insanity, ask yourself these questions to avoid buying at crazy prices and find great values:
1) What is a rational, fair value for the company? What would you pay for the whole company? (Consider how much the company is earning, how much it is growing, whether it is paying dividends, what’s its P/E, etc.) Start there.
2) Is the stock is trading under or over that fair price? Pick stocks that are trading at valuations substantially lower than their fair values – buy bargains. (See also: When a Great Company is NOT a Good Stock)
Following this method, you may still occasionally get blindsided by information that was not available when you made your calculations; shit happens. But you won’t be cluelessly strolling through minefields, forever surprised by inevitable explosions.
Note: This video was made in 2011 and uses two examples, Lululemon and Dupont. While the stock prices are different now, the principles are spot on.
What is market insanity? Prices of stocks being in complete discordance with the underlying value of the company. Take advantage of underpricing, and avoid buying into over priced stocks.