“The stock market can remain irrational longer than you can remain solvent.”
Famed economist John Maynard Keynes is right. There is much evidence to support claims that investors behave irrationally. They are more exposed to markets than ever before and their portfolio cash allocations ran at their fifth-lowest level on record in 2021.
At the same time, households are allocating more to equities than at any time since the 1950s. You can see that in the chart below.
(Click here to view larger image.)
So, despite the global pandemic and the recent tumble in share prices, investors are as bullish as ever judging by their holdings. Which brings me back to Keynes’ observation that irrational behavior can last a long time in the market. And we have herd mentality to thank for that.
Said another way, fear of missing out — FOMO — is still omnipresent in the markets today.
So now investors face a tough choice: get out of stocks or follow the pack?
Let me show you a few things I’ve learned in the last epic stock market bubble … and how to come out ahead without a second thought for the herd.
Lessons From a Bubble
Lesson No. 1: You can’t pinpoint the top.
Back in 1998, there were many signs of excessive speculation, but the herd kept on going. If you sold then, you missed out on incredible 21% gains in the S&P 500 the next year.
Lesson No. 2: Herd behavior can create tremendous buying opportunities in the areas they’re stampeding away from.
During the dot-com episode, there was a huge difference in valuations among different stock market segments. The real bubble was in tech initial public offerings, while shunned corners of the market became cheap … such as value stocks.
In fact, during the year the tech bubble burst, large-cap growth funds fell 34% while small-cap value funds gained 19%.
Here’s what those lessons hold for today’s market…
How to Profit From the Herd
Signs of irrational behavior are growing more ominous even after the recent downturn, as I described earlier. But the herd can keep this market going indefinitely.
So instead of trying to time the next bust by moving your stock portfolio to cash, consider segments of the market still offering great opportunities.
They’re hard to find, but there are stocks in industries trading at cheap valuations that have strong tailwinds to drive profit growth in the years to come.
In fact, the most recent issue of The Bauman Letter covered not one but five outstanding stocks that combine appealing valuations with serious growth stock potential.
Click here to find out more about our latest opportunity!
Research Analyst, The Bauman Letter