The recent May collapse of silver, as well as the poor performance of gold, oil, and the broader commodity space over the past few weeks requires investors to exercise caution as well as rethink their strategies regarding the precious metals and commodities trade. As I've said on multiple occasions (See: The Impending Collapse of the Gold Bubble, 3 Ways to Play the Bursting Gold and Silver Bubble), there is tremendous risk involved in gold and commodity investment that many investors are not aware of or simply refuse to acknowledge. In my opinion, gold and commodities will see severe drops which come as a shock to many who failed to see or accept the warning signs. I will not rehash my arguments here since they require more room than this article will allow; but suffice it to say that even if gold and commodities continue to go up, there are plenty of investment opportunities out there that will outperform them. In my opinion, there are four possible scenarios that could play out:
- Gold, commodities, and markets continue to rise. In this case, since the markets continue to rise, there will be plenty of stocks that outperform gold and commodities.
- Markets fall, gold and commodities rise. If gold is truly a protection against stock market catastrophe, it will rise while markets fall and could outperform many individual stocks. But since I believe gold and commodities to be a bubble, I believe a drop in the markets will be accompanied by a drop in gold and commodities.
- Markets fall, gold and commodities fall. Since much of the market move over the past year has been accompanied by rising commodity and energy prices, a drop in stocks would likely be accompanied by a drop in gold and commodities as well.
- Markets rise, gold and commodities fall. If gold has been soaring because it stands as a protection against market drops and uncertainty, a sustained increase in stocks could put an end to the gold run. If markets continue to rise, gold interest could fade.
In other words, only a drop in markets and rise in gold and commodities would see gold outperform sound investment choices in stocks. Three out of four scenarios favor good stock picks over gold and silver.
And that's not to say I am bullish on stocks either. I see an extreme amount of cause for concern over the next few years in the stock market; so much so, that I am yet to be convinced that a double-dip recession is not upon us. BUT, even with the growing fear that the market may be setting up for a fall, I am almost certain that the potential for profits would be much better achieved through selective stock picking and avoidance of the precious metals and commodity trade.
My reasons for choosing stocks over gold and silver are as follows:
- Avoid the Bubble. Gold and silver are a bubble and pose tremendous risks.
- Stocks Offer Higher Returns. Even if gold and silver continue to rise, or even soar, I do not see them gaining more than 50 percent from here. Individual stocks on the other hand can see much higher returns if picked correctly.
- Limit Your Losses. With good stock picks near strong support levels, investors can limit their risk by selling out of positions if the trade goes against them. If they're right, they will likely outperform gold; if they're wrong, they'll cut their losses at defined support levels.
Stocks to Choose Over Gold and Silver
After underperforming the broader market over the past year and dropping over ten percent since February, the Financials are standing right at a support level. On the XLF, that support level is at $14.50-$15. If markets resume their uptrend, financials offer a great risk reward ratio.
JP Morgan (JPM) – With a P/E ratio of under 10, a 2.4% dividend yield, and nearby support at $40, JPM offers good value at a low risk.
Goldman Sachs (GS) – Though I still think Goldman is involved in shady business ranging from their fraudulent dealings with mortgage backed securities to their highly-involved dealings with venture capital and investments in companies like Facebook, it offers a good risk-reward opportunity here – having dropped from $175 in January to just over $130, and still near the $130 support level.
Corinthian Colleges (COCO) – A play on the beaten up student loan sector, COCO has plunged from a high of nearly $20 a little over a year ago to under $4 in late May. It has largely been stuck in a sideways range for nearly nine months and may be basing out before a move up. Moreover, with a short interest of over 30% and a favorable U.S. Department of Education ruling released on June 2nd, COCO looks like a great value/speculative play if it stays above $4.
Though a double-dip in housing has been confirmed by the S&P/Shiller Housing Price Index, I'd still rather invest in housing than in gold and silver. Housing has been so beaten up, that I believe the fear and avoidance of the sector by many is offering good investment opportunities for those who do so carefully. (See: Playing a Housing Recovery)
Beazer Homes (BZH) – High short interest of nearly 24% and a candlestick reversal pattern with a good technical support level at $3.
DR Horton (DHI) – Pays a dividend and near the $10.50 support level.
Lennar (LEN) – 23% short interest, 74% insider holding, pays a dividend, and near a $16.50 support level.
Apple (AAPL) – Though I do think Apple has its own troubles with its overly enthusiastic investment crowd, upcoming challenges in continuously meeting or exceeding expectations, growing at a consistent pace, fighting off the competition, and innovating, I still think Apple poses a much better investment choice than gold or silver. Though it has underperformed the market and moved sideways the whole year so far, it has decent support at $320-$325. It has an extremely attractive forward P/E ratio of under 12 and it is flush with nearly $30 billion in cash for acquisitions, expansion, or even a dividend. I am not a big fan of the stock in the long run, but with the price right near defined support I think it's a great risk-reward bet.
Google (GOOG) – Still the number one search engine, forward P/E of under 13, over $36 billion in cash, and near a soft support level of $500-$508.
Silicon Image (SIMG) – One of my favorite small-cap plays with big upside potential. Forward P/E of 11, lots of cash and no debt, and near support at $5.88-6.00.
Advanced Micro Devices (AMD) – With a P/E under 10 and a soft support level at $8.40, AMD is a great way to play the PC comeback – especially with the possibility that PC consumer demand has bottomed.
Kodak (EK) – Kodak won't be making it back to the heights of its prime, but it offers one of the best value/recovery plays if it stays above $3. Not only is sentiment almost as low as it can be; but the company could also be a buyout target for a larger company looking to get their hands on a nice book of patents and intellectual property. This company is worth more than what the market gives it credit for.
Retail ETFs recently bounced off their 150-day moving averages and offer decent risk-reward opportunities. Retail would require a stronger consumer or lower commodity and input prices, but the retailers have been able to push some of their input price increases onto the consumer – which has helped. Retailers stand to benefit if markets continue to rise.
Liz Claiborne (LIZ) – With nearly a 35% short interest, LIZ offers a good value, recovery, and short-squeeze play if it can stay above $5.
JC Penney (JCP) – Announcing this week that it has hired Apple's Ron Johnson as the new CEO, JCP could make a nice comeback in the retail space. Ron Johnson was instrumental in turning the Apple store into the success it is now, by introducing the Genius Bar and making the shopping for computers an experience rather than just a task. With a new CEO and a forward P/E of 13, JCP looks good over $30.
Sonic (SONC) – Their commercials have intrigued New Yorkers for a few years now, especially since they haven't had a store in the state for years until now. I think, even if unintentionally, their marketing campaign has increased their brand value in the area. With a reasonable P/E of around 16, improving financials, and room for expansion, SONC looks like it has bottomed out and ready to rise.
Dean Foods (DF) – My January pick over Chipotle (CMG), Dean Foods has done very well recently – nearly doubling since December 2010. With a forward P/E of under 14 and support levels at $11.50 and $12, Dean Foods is still the recovery play in the sector.
Biotechs have been one of the hottest plays this year with many possible mergers and acquisitions as well as new and innovative drugs. Small-cap biotechs offer tremendous opportunities since they can generate huge profits if successful; but they are generally hit or miss because of the difficult process of drug approval. Many of the small-caps I follow have seen some considerable price declines recently and may offer attractive entry points (See: Future Biotech Superstars).
Neurocrine Biosciences (NBIX) - Involved in neurological and endocrine-related diseases and disorders and sporting a market cap of $400 million, NBIX has been stuck in a range between $6.50 and $8.50. Momentum may be picking up, and a breakout above $8.50 would see large gains.
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