Almost always – in life, and in investing – action is viewed as uncompromisingly good. Act, move, change, jump, buy, BUY! – If you’re not doing something, you’re wasting time. And, of course, time is money… and thus the imperative to act, now and fast and frequently.
And taking action with your money is often the best thing to do. I’ve talked before about how sometimes doing nothing – if that’s the default option – is the worst thing you can do. And I’ve also shown how not being invested in shares during certain times can be lethal to your returns.
But sometimes, sitting still is better. As Jim Rogers says, there are times – like when you’re coming off a big market victory and are flush with confidence – when doing nothing in the market is the better option. These are five reasons to wait for the right time.
Five reasons to wait
Cash is good. Everyone would be smart to have more cash in their portfolio. Yes, it doesn’t pay much, its value erodes over time (due to inflation), and if you lose it (or put it through the washing machine), it’s gone forever. But, over the short term – like the next year or so – the value of your cash stays constant (as long as you’re not in Venezuela or, not long ago, Zimbabwe). And the value of your cash won’t change if markets crash.
Holding cash is one of the easiest ways to hedges your portfolio. Hedging helps reduce investment losses when your investmant strategy doesn’t work out as planned.
And cash represents buying potentioal. It’s there when you need to spend it. Plus, when markets fall, the buying power of cash increases. You can now buy more shares than you could the day or week before.
You can’t explain it with a crayon. Sometimes simple is best – especially in investing. When you buy stock in a company, you’re buying shares – or, literally, a portion of the company. You’re a partner in the company. Would you become a partner in a business that you didn’t understand?
“Never invest in any idea you can’t illustrate with a crayon”, legendary investor Peter Lynch said.
One way to tell if you’re in over your head is to see if you can explain the business of a company using a few crayons and a piece of paper. Most things worth understanding can be explained using the tools of the trade of a five-year-old. That’s why anything you should pass the crayon test.
And if it doesn’t? Wait until something that does come along.
You don’t see “money lying in the corner.” Jim Rogers once explained his approach to investing this way: “I just wait until there is money lying in the corner, and all I have to do is go over there and pick it up. I do nothing in the meantime.” What he means is that when obvious investment opportunities come up, he takes advantage of them – it’s like seeing money lying in the corner just waiting to be pciked up.
But if there are not obvious investment opportunities, you should follow Jim’s advice and “do nothing” in the meantime.
Otherwise, you have not any cash on hand when an obvious opportunity does come up… and it will just stay there for someone else to pick up.
You think it might be a value trap. The perfect stock to buy is one that’s very cheap – and which appreciates steadily over time as the valuation becomes less cheap, and/or as the company grows. That’s not as straightforward as it might sound.
(A cheap stock is one that trades at a value level – for example, a price-to-earnings ratio or price-to-book value – that is low, compared to the market as a whole, the sector, or a stock’s historical levels. Whether or not a stock is cheap has nothing to do with the absolute price of stock. Shares that trade for hundreds of dollars can be very cheap – and a $3 share could be very expensive.)
There are a lot of ingredients to a stock’s valuation – and reasons why a cheap stock might be a value trap, and not be as cheap as its valuation suggests. Bad management, poor use of investment capital, assets that are delievering lower returns and a company operating in a sector that’s in a long-term decline are just a few of these reasons.
A value trap can stop being a value trap – and become an attractive, under-valued investment – if there’s a trigger for change. A change in management, a big change in the industry, higher commodity prices, r regulatory change – all of these things can turn a value trap into a great investment. But until there is, they’ll continue to be value traps and you should … just wait.
Waiting unlocks the power of compounding. Some investments are fast and fun. You buy an exciting tech stock and it rockets higher in a few months. But most profitbale investment are slow…steady and dull … and require a lot of waiting – not to make the investment, but instead, once you’ve made it.
And that’s all right, because time is the key ingredient of the most powerful force in finance: compound interest.
Here’s how compounding works …you invest a sum of money that generates a steady return. But instead of taking that return and spending it, you reinvested it by buying more of the orginal investment. The next year both the original investment and the reinvested interest will earn interest, which you again reinvest.
With compounding, your original investment is growing in size due to repeated reinvestment, and every year you are getting a larger and larger sum of interest. It likes a snowball rolling downhill, growing bigger in size as it picks up more snow on the way.
When it comes to compounding … time is the secrect to success. Starting as soon as possible and reinvesting interest over several decades can build life-changing wealth.
In short, when it comes to your money, it’s nearly always fine to wait a bit.