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2 Ways to Make Big Profits in Sideways Markets

2 Ways to Make Big Profits in Sideways Markets
(Dollar Photo Club)

By    |   Thursday, 06 July 2017 05:12 PM

Companies go in and out of favor with Wall Street all the time. It’s how they handle that situation that matters.

Consider the case of Polaroid. The company best known for its instant film and proprietary cameras was blindsided by the digital age. Employment peaked at 21,000 in 1978; revenue peaked at $3 billion in 1991. Rather than develop or acquire digital camera technology in the early 2000’s, however, they turned to a quick fix designed to bring in cash—but not to fix the fundamental problems.

What was the fix? A line of music.

No, literally. In 2003, the band OutKast released “Hey Ya,” an upbeat song crossing the funk, rock and hip hop markets. One line from the song, “Shake it like a Polaroid picture,” got the beleaguered film company involved to capitalize off the popularity of the song.

The company should have known better. Today’s hit is yesterday’s one-hit wonder. And shaking the Polaroid film didn’t do anything to make the instant photo develop more quickly. While the company still makes some products today thanks to the spending habits of vocally anti-capitalistic hipsters, it’s gone through bankruptcy a few times.

That’s the power of embracing the wrong road to change. Investors lost a fortune, and the company is a shell of its former self.

How can an investor profit from companies out of favor today? Aren’t the bargains gone after one the longest-running rallies on record? Hardly. There are always values out there. By buying companies out of favor for short-term reasons that are undertaking a proper course of action to turn things around.

In today’s market, which might continue grinding higher but could also trade sideways into the summer, finding out of favor companies that are fundamentally sound is a much safer path to profits than messing around with unfamiliar territory.

Specifically, I’ve found two strategies that can work well for companies facing these challenges.

The first strategy is one that’s a bread-and-butter way of locking in market-beating returns in the space of a few months. It can be even better if you use options. The strategy is buying alongside corporate insiders.

Remember, I’m talking about legal insider trades, that are fully disclosed to the SEC via the appropriate paperwork, specifically the Form 4. We’re not talking about secret, furtive calls from your broker or any corporate espionage to find out about a big fat merger before it takes place.

It’s a strategy I like so much, I use it for my own portfolio to whittle the investment universe down to a handful of investments in my trading service Insider Hotline. I’ve literally written the book on the subject, The Insider’s Dossier.

It’s based on pretty simple logic. Corporate officers and directors know the most about their company. When they buy, using their own money on the open market, they’re sending a signal that there’s a value there. Nearly all companies pay out stock options, and insiders largely sell as a rule. That’s why these buys on the open market are bigger than they appear at first glance.

Insider buying typically beats the market over time by a few percentage points a year. That isn’t much on the surface, but investors can use options to boost their returns. And sometimes the returns come much faster. One play in Insider Hotline shot up nearly 25 percent in two weeks. That’s the power of buying alongside corporate insiders. It’s also a strategy that’s held up over time—in up, down, or sideways markets.

Insiders buy when there’s huge value though, so it isn’t always a strategy for the faint of heart. We’re often talking about buying shares of companies after they’ve fallen out of favor with the market and are trading close to 52-week lows, not 52-week highs.

There are a variety of ways to screen for insider buys, from the SEC website to other Internet resources. It’s a powerful filter, and one that should continue to deliver results in the months ahead.

The second strategy is one with bigger risks—but far bigger rewards. It’s a strategy of buying shares of a company following bad news. That doesn’t mean buying on all bad news, just on news that leads to fears that, in turn, cause shares to fall far more than they should. Markets tend to price in new information, but if the new information is scary enough, it’ll overdo it.

One area that’s looked particularly attractive so far in 2017 is in the realm of frivolous legal claims. For instance, Apple (AAPL) launched a $1 billion lawsuit against Qualcomm (QCOM), sending shares of Qualcomm into a steep dive. The company lost over $12 billion in market cap by the time the shares bottomed, far in excess of Apple’s legal claims. And those claims look dubious at best. Apple is claiming they have to pay Qualcomm more for chips for their phones. But Qualcomm charges phone manufacturers a fixed percentage of the sales price—and iPhones don’t come cheap.

While the case hasn’t been resolved yet, there’s still some value there.

Another company facing legal woes earlier this year was Chicago Bridge & Iron (CBI). The infrastructure company was facing a lawsuit from Westinghouse over the nuclear business division CBI sold them a few years back. Westinghouse claimed that CBI should pay far more for cost overruns and fees related to the nuclear business. CBI argued that their liability should be capped since they disclosed the potential risks before selling the division to the eager buyers at Westinghouse.

Shares of CBI dropped from $35 at the start of the year to under $15 by the middle of June on fears the company would be on the hook for significant liabilities. Yet the Supreme Court of Delaware ruled that a contract is a contract is a contract, and Westinghouse has to bear most of the liabilities. CBI shares have soared over 40 percent since the ruling, but are still at depressed levels.

I’ll admit, corporate America usually doesn’t mess around with anything too risky or crazy. But sometimes they don’t know how to stick to the fundamentals of running a business. When things do go crazy, figure out if there’s a good solution in place. Look for insider buying and sound legal reasoning. That’s a path to sizable profits, even in sideways or down markets.

Andrew Packer is a Senior Financial Editor with Newsmax Media. He currently writes the Insider Hotline investment advisory, serves as investment director for the Financial Braintrust, and writes the monthly newsletter Crisis Point Investor.

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Companies go in and out of favor with Wall Street all the time. It's how they handle that situation that matters.
Profits, Sideways, Markets, Investors
Thursday, 06 July 2017 05:12 PM
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