Several stocks have made impressive gains since the beginning of the year. For example, Tesla’s (NASDAQ: TSLA) share price has more than tripled this year, Amazon (NASDAQ: AMZN) is up 65% in 2020 and Apple (NASDAQ: AAPL) shares are currently trading at a 30% more so far this year.
Some investors may fear that more earnings will be lost to those stocks and other companies that have recently risen in price. This can lead them to buy stocks that have recently made exceptional profits without first conducting a thorough analysis of their long-term investment potential.
However, following the advice of the Berkshire Hathaway (NYSE: BRK.A) president (NYSE: BRK.B) Warren Buffett may represent a better approach. Buffett’s long-term vision and caution about overly optimistic forecasts could be key reasons for Berkshire’s 20% annualized return since 1965.
Some investors may see the rapid rise in stock prices as an opportunity to generate high returns in a short period of time. This can lead to a short-term view of the prospects for an action.
However, this strategy can end in disappointment. The performance of the stock market is impossible to predict accurately. Therefore, short-term investors, or speculators, can experience large losses in a short space of time in what remains a volatile market.
A better idea is to have a long-term view of any company you buy from. Past performance of the stock market shows that any stock can experience high volatility at any time, should its trading outlook change significantly compared to expectations. By taking a long-term perspective, you can more easily overcome the short-term disappointment that can be followed by a recovery in the stock price.
As Buffett once said, “If you are not thinking about owning a stock for 10 years, don’t even think about owning it for 10 minutes.”
The rapid rise in stock prices is often based on very optimistic financial forecasts. In some cases, they may prove to be correct. However, in many cases, unexpected events occur that make a company’s sales and profit prospects very different from previous estimates.
Therefore, investors should not pay too much attention to the generous growth rates that are estimated for any company. Instead, analyzing the fundamentals of a business can be a more productive use of your time. It can allow you to find wrongly priced stocks and allocate capital more productively.
This point is possibly more important now than ever. Due to the uncertain economic situation, companies with sound finances, rather than optimistic forecasts, may offer better long-term stock price prospects.
As Buffett once said, “Forecasts can tell you a lot about the forecaster; they tell you nothing about the future.”
It is tempting for any investor to overlook the high valuations of rapidly growing stocks. You may feel that a high valuation can be justified based on the growth potential of a specific business.
However, the stock market’s history suggests that overly generously priced stocks may be among the biggest failures during recessions and bear markets. Therefore, it may be prudent to demand a safety margin for any stock you buy due to the continuing uncertainty facing the economy.
This may mean that further growth in stock prices will be lost in the short term. However, taking a patient approach and expecting attractive prices for any stock you buy could create a portfolio with stronger foundations that can overcome a difficult economic outlook.
Buffett has always had a patient approach to investing, and has never been in a rush to buy stocks. As he once said: “You do things when opportunities arise. I have had periods in my life where I have had a lot of ideas and I have had long periods of drought. If I have an idea next week, I will do something. If not , I will not do anything “.
Disclosure: The author has no position in any of the actions mentioned.
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