A Crucial Factor for Investment Success
Andrés is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
A long term mentality is one of the most determinant factors for investment success. The main reason why many investors make big mistakes in this area is not necessarily due to the complexity of the business or difficulties faced when trying to understand how it works. Long term thinking is hard to implement in a world of immediate information and hyperactive buy or sell decisions.
In other areas of the business world, being able to make fast decisions in a context of uncertainty may be a very valuable asset. But when it comes to investing, it’s the ability to focus on the long term, both analytically and in regards to trading decisions, that makes a world of difference.
Many investors believe that reacting to the latest news and the hottest rumor may be the way to achieve the highest returns, an idea which is sometimes promoted from the media and many commentators. It may sound reasonable to assume that the next 6 months are easier to forecast than the next 6 years, but that's not really the case when it comes to investing over time.
The Eurozone and all the problems coming from the old continent are a clear example about how difficult it can be to make forecasts about economic variables and the most likely evolution of financial markets based on those forecasts. It’s almost impossible to tell when that crisis will be finally backstopped for good, or what kind of consequences it could have on stock prices over the short term.
Fortunately for investors, it’s not really necessary to know how the negotiations among sovereign leaders will develop to make money from these kinds of situations, especially if you are focusing on the long term. Things could certainly keep getting worse before they get any better in terms of the economic data coming out of these countries, and over the following months the evolution of their stock markets will be tremendously hard to predict.
But applying a long term perspective, over the following years many Eurozone companies will keep growing their earnings and cash flows, increasing their value regardless of the volatility coming from economic conditions. Investors in these businesses will likely be rewarded for having the discipline to slowly add to their positions in times of attractively low valuations.
A good strategy could be buying a diversified ETF to invest in Eurozone stocks, like the iShares MSCI EMU Index (NYSEMKT: EZU), which has a portfolio comprised of more than 240 stocks among the biggest and most important companies from the Eurozone region. Companies like Total, Sanofy, Siemens and BASF are included in the portfolio, and they are globally diversified businesses with very strong fundamentals.
Banks make nearly 18% of the fund, this sector is very exposed to financial jitters, and there is a possibility of permanent loss of value in Eurozone banks if things keep getting worse. If we see more bank runs, sovereign defaults or bank nationalizations, shares of Eurozone Financials could really hurt investors in a permanent way.
At the same time, however, this sector provides big upside potential if things don't get more out of control in Europe. Even in a pessimistic scenario for banks, there is a more than 80% of this ETF which will not go broke due to macroeconomic conditions, so investors in EZU should achieve superior long term returns if they apply a long term strategy to capitalize investment opportunities in the Eurozone.
Just like diversification works to control risks over the long term, focusing on high quality companies can be another powerful strategy to mitigate the worries about transitory earnings setbacks. Shares of Nike (NYSE: NKE) fell by a whopping 9.4% when the company disappointed investors in its earnings report last Friday.
Earnings per share of $1.17 where materially below the $1.37 expected by Wall Street analysts due the negative influence of the economic slowdown in Europe and China, combined with gross margin pressure due to high inventory levels. These factors may continue weighing on the company and its share price over the following quarters, but that doesn't change the fact that Nike is a global powerhouse with a tremendously strong brand and an enviable market position.
This is not the first time that Nike faces inventory problems or slowing sales due to economic conditions, and the company has successfully overcome those situations in the past. As long as Nike doesn't lose any of its fundamental qualities, the short term weakness in its earnings and share price will most likely be a buying opportunity for long term investors with a strategic mindset.
Another high quality business susceptible to temporary earnings setbacks and likely offering opportunities for long term investors is IBM (NYSE: IBM). The company actually reported better than expected earnings figures in April, but sales were lower than expectations and the stock fell more than 3% after the announcement.
Corporate spending can be fickle, and economic conditions may certainly have an effect on IBM over the following months. But the company owns one of the most valuable brands in the world, and management has shown its quality in the past by focusing on software and services, adding value to shareholders and producing higher profit margins for the company. At a P/E near 14.5, shares of IBM look well positioned for superior long term returns in the upcoming years, irrespective of macroeconomic headwinds over the middle term.
Having a long term mentality towards investing is not complicated at all, but it can be hard for those who lack the discipline and experience of seeing how powerful the strategy can be over time. As with most challenging skills in life, practice is important; and the sooner you start using this approach, the better your results will be over time.
acardenal owns shares of IBM. The Motley Fool owns shares of International Business Machines. Motley Fool newsletter services recommend Nike. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.