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Losing with the winners
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February 2, 1999: 9:39 a.m. ET
Experts say investments that succeed in the past might not pay off in the future
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NEW YORK (CNNfn) - Like moths swarming around a light, some investors are buying the biggest winners on Wall Street. And that strategy could make them the biggest losers of all, financial advisers say.
While it might be tempting to buy the latest hot stocks and mutual funds, market pros say the worst thing you can do is invest by looking in the "rear-view mirror."
"What you really want to buy is whatever is in the dumps," said Larry Johnson, president of Sterling Financial Advisory Services in Itasca, Ill. "Whoever said 'Buy low, sell high,' was not an idiot.' "
Why avoid hot stocks? Conventional wisdom tells us that whatever worked in the past isn't necessarily going to work in the future. While some winners, like Microsoft (MSFT), will likely continue to rule Wall Street, other leaders, like some Internet stocks, may fizzle out.
Another factor with winning stocks is that at some point, investors have to weigh sky-high valuations against their desire to see those names in their portfolios.
"The danger in buying a hot stock is our emotions get very involved in our purchase decisions and that typically spells disaster in investing," said Debra Morrison, managing partner at Debra L. Morrison & Associates in Fairfield, NJ. "Inevitably, a hot stock is going to fall off its perch."
How much risk can you stomach?
Morrison says whenever clients ask her about a hot stock, she asks them what they would think if there were a "minus" in front of those starry returns. She worries that some people use money they've set aside for retirement in safer holdings to buy hot stocks, she said.
Johnson has another good comeback when his clients want to own the flashy names. He tells them they already do -- in mutual funds. For example, while they might not own 200 shares of high-flying Amazon.com (AMZN), one of their stock funds may have a 2 percent stake.
If they can't resist Internet stocks, he recommends a solid, well-researched technology fund.
"Internet stocks are just as unforgiving on the down side as they're forgiving on the upside," Johnson said.
What to buy?
Morrison said investors might want to consider out-of favor sectors like healthcare or even beaten-down energy stocks.
Small- and mid-cap stocks have also been on the sidelines, she said.
Assessing the "hot" factor of funds is a little different, however. If a fund is outperforming its peers within a category by a wide margin, then you might want to consider it for your portfolio, said Scott Kahan, president of Financial Asset Management Corp. in New York.
"In sector plays, you should buy after a down period, when the numbers look terrible," Kahan said. "But when you look at a fund, if similar funds have done well and one fund has done poorly, you don't use that logic."
Since large cap growth funds and index funds have done so well in the past few years, some investors might be "overweighted" in those sectors, Kahan said. He suggests trimming back large cap growth funds and trying funds that haven't performed as well, such as small cap value funds. He recommended Royce Total Return Fund (RYTRX).
"When people buy the hottest stocks or the hottest funds, they end up having less and less diversification," Kahan said.
Joel Isaacson, president of Joel Isaacson & Co. in New York, said some of his clients are reevaluating the importance of diversification because the market last year was dominated by about 25 big names, including Microsoft, Cisco Systems (CSCO), General Electric (GE) or IBM (IBM).
The Janus 20 Fund (JAVLX), for example, has been popular because it holds so many big names, such as America Online (AOL) and Dell Computer Corp. (DELL).
"They think you don't have to have exposure to certain areas -- you just have to buy the big names," Isaacson said.
Isaacson recommends value funds, such as Oakmark Fund (OAKMX).
"The question is when value will get back in favor."
-- by staff writer Martine Costello
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