By Kris Sayce, editor, Casey Daily Dispatch
Two things move markets.
Earnings and interest rates.
As many times as we say it, some refuse to accept it.
Other things may seem to move the markets.
But that effect is always fleeting.
And right now, we can see if our claim is true.
It’s earnings season. So let’s see if earnings are moving stocks.
Short answer: they are. And it exposes one of the major problems with buying big, supposedly “safe” large-cap stocks…
If this is your first time reading the Dispatch, welcome. If you’ve been here before, welcome back.
At the Dispatch we have two goals:
To introduce you to the most important investing themes of the day, and
To show you how to profit from them.
We do this by showcasing ideas from our in-house investing experts: Nick Giambruno and Dave Forest. And from the founder of our business, Doug Casey.
What Happens When Growth Stops?
The biggest earnings story yesterday was Amazon (AMZN).
The stock fell more than 7% in yesterday’s after-hours trading. Why? Because earnings were less than the company expected.
According to MarketWatch, the company had second-quarter earnings of $7.8 billion, about $15.12 per share, which is up from $10.30 per share a year ago. But sales only grew 27% to $113.1 billion from $88.9 billion a year ago. That missed expectations after previous quarters saw as much as 40% growth.
Analysts blamed the results on brick-and-mortar stores reopening across the U.S., taking away from Amazon’s e-commerce business. And what’s more, Amazon forecast that earnings for the current quarter would be less than expected, too.
That’s the trouble with a $1.8 trillion stock that’s still trading with a price-to-earnings (PE) ratio of nearly 70 times earnings.
Investors are paying for growth… and so they want growth. If the company doesn’t deliver enough growth, investors punish the stock.
And it’s one of the problems with buying big, “safe” stocks…
Big Doesn’t Always Mean Safe
Look, we’re not taking anything away from Amazon as a business. The growth of the company and the stock has been incredible.
And we don’t mind saying that over the years, we’ve doubted it could keep growing. But it has. And who’s to say it won’t keep growing?
Even with a market cap of $1.8 trillion, it’s not the biggest company out there. Microsoft (MSFT) has a $2.2 trillion market cap. Apple (AAPL) has a $2.4 trillion market cap.
(By the way, do you remember when Apple became the first $1 trillion company? CNBC ran coverage of it showing each tick towards that level. These days, a trillion isn’t a big deal. Facebook (FB) hit that level earlier this month and pretty much nobody cared!)
The point we’re making here is that many investors fall into the trap of thinking big means safe. And when investors put money into “safe” stocks, they tend to invest more than they would for a smaller or “less safe” stock.
Of course, when the stock is going up, it’s not a problem. Investors who bought Amazon at $800, $1,000, or even $2,000 are still doing very well, with the stock trading around $3,350 at time of writing.
But if investors bought Amazon for growth, what will they do if the growth stops? The answer is, they may not hang around for long. This is why we prefer a different approach to investing.
A Different (and Better) Approach
That approach is the Casey “10 x 10” Approach. We’ve introduced this idea before.
Instead of making big bets on several big stocks, we prefer to make small bets on many small (or at least, smaller) stocks.
There are benefits for doing that.
One major benefit is that if one or two of them don’t pan out, it’s no big deal. In fact, maybe three or four won’t pan out. Again, no big deal.
That’s because when you’re backing small stocks, or stocks with built-in leverage (we’re talking about warrants here, which we’ve mentioned previously), you only need a handful of them to pay off in a big way to erase all your losers and make a profit.
Take one of the open positions in Dave Forest’s advisory Strategic Trader. To protect the integrity of Dave’s service, we won’t reveal the name of the stock. The warrant that he recommended to his readers last July is up an amazing 1,326%.
By contrast, the stock associated with that warrant is only up around 150%. You can see the comparative returns on the chart below:
In normal circumstances, 150% is a great return. But if you could switch a 150% gain for a 1,326% gain, you’d want that, right?
Now, we wouldn’t be telling you the full story if we didn’t acknowledge that warrants have different risks from plain old stocks. For a start, because they have built-in leverage, it means they can fall further if the market goes south.
But that’s where you can use the built-in leverage to your advantage. Instead of putting $5,000 into a stock and making a 150% gain, you could put $1,000 into the warrant and get a 1,326% gain (using this example).
If the stock and warrant both go up, you’ve made a similar dollar return. But, if the stock and warrant both fall, you’ve got much less at risk with the warrant… with the same (maybe even higher) potential upside.
See how this works?
In short, we’re not saying investors should dump all their big and “safe” large-cap stocks to invest in smaller plays. But we are saying that it makes sense to re-evaluate the risks you may be taking with those large-caps today.
Part of that re-evaluation could involve moving exposure away from some large-caps… putting most of the proceeds in cash or gold… and then allocating a small amount of that to warrant plays.
At least that way, if the market continues to move higher, you’ll still have exposure to it, but you’ll have much less of your money at risk.
Bottom line: If you even have the smallest fear that stocks could fall, now is the perfect time to take action… while stock prices are still high.
Editor, Casey Daily Dispatch
P.S. On that subject, make sure you check out Dave’s special presentation on his favorite “alternative” investment – warrants.
You can find it here. As we mentioned above, this warrants strategy has helped many of our readers collect high triple-digit and even quadruple-digit percentage gains.
In one case, investors could have bagged a 4,942% return. A result that would have turned just $500 into $25,210.
These are incredible returns. Check out the full details here now.