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Motley Fool: Beware get-rich-quick shares

The Motley Fool started as an irreverent investment newsletter and has grown to become America's most popular personal finance and investment website. Anyone who follows its philosophy is called a "Foolish investor".

WARNING: shares can go down as well as up. We're not trying to make people panic here, but in these go-get-'em days of ever-rising stock markets, it is well worth keeping that in the back of your minds.

This is in the week that the London share market hit yet another new high, but rising on a relatively narrow front. Telecommunications companies still lead the way, and this week saw yet another surge in their share prices. Investors are expecting the fixed line companies to continue to benefit from the explosion in internet usage, and are pushing the share prices ever higher. The mobile phone penetration rate is still rising.

If you've recently had a second phone line installed at home or work specifically for internet use, you'll know why the share prices are on the rise. If you've just become mobile, apart from now having faster reflexes (a recent Bristol University study showed), you'll know why the mobile phone companies are popular investments. The money you are spending is making shareholders quite happy.

While telecommunication and internet companies are riding the crest of the stock market wave, at the other end of the scale things are not looking too rosy. The troubles at Marks & Spencer have been well documented, and although the share price was given a much-needed boost this week, it is still well off the 1997 high of 665p. J Sainsbury, once the undisputed supermarket leader, has seen almost 20 per cent wiped from its share price in the first three months of this year. This followed a downbeat post- Christmas trading statement, and confirmation of a continuing of the tough competitive environment. Investors in these great high-street names will know all about the potential pitfalls of stock market investing.

Many so-called "value investors" are finding it difficult to match the returns of the overall stock market. Many of the telecom/internet shares are seemingly defying valuation models, and the value investor has been forced to watch the excitement from the sidelines.

However, all should not be lost for the patient long-term investor. While telecom/internet stocks are providing a lot of quick gains, remember that the true measure of success in the stock market is performance over an extended period of time. Grabbing 50 per cent in a month means nothing if the stock you are investing in tumbles 75 per cent or more over the next three years.

While the temptation to put a substantial portion of your portfolio into what appear to be the new stars is strong, as a long-term investor you should be cautious and diligent. Make sure that you understand the business model and the prospects for the company. Consider competitive threats. Think of all the new entrants that will try to gain market share by offering better prices or better service. Can the company's management team withstand these challenges? After considering these factors, place your money only in companies that you expect to generate more earnings (or better yet, free cash flow) than you are investing.

In the short term, higher and higher stock prices aren't necessarily indicators of value creation, as investor sentiment and high hopes sometimes override rationality. Over longer periods of time, however, aberrational pricing usually isn't sustained as prospects and opportunities become better defined. Many of what look like dynamic growth opportunities trading at unheard-of multiples of revenues will flounder and create substantial losses.

At the same time, some less-well-known companies with regular 10 per cent -15 per cent earnings growth at low earnings multiples will turn out to be the true stars for investors.

The UK Motley Fool is at www.fool.co.uk


I want to make some money on the stock market in the next six months. What's the best way to go about it?

KB, London

Stop right there. Do not pass Go, do not collect pounds 200. The stock market is not some get-quick-rich scheme. Six months is far too short a time- scale to be considering investing in the market. The Fool recommends that you should have a minimum investment period of three to five years, the longer the better. Luck will be too much of a factor over anything less. Remember that when you are buying shares, you are taking a part ownership in a company, and not playing some short-term share price game.

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This Anglo-Norwegian engineering and shipbuilding company has suffered huge losses. The CEO had to go in the end of 1998. Much of the trouble can be traced to the acquisition of Trafalgar House in 1996. What is it?

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In February 1996, I bought shares in Powerscreen International at 387p. They rose to 763p, and I fell in love with the shares. In early 1998, the firm announced a shock profit warning and the shares lost 50 per cent of their value in a day. I sold out in February 1998 at 218p.

BJ, London

Never fall in love with a company. You should check its progress by looking at its interim and annual reports. In the case of Powerscreen, a look at their cash generation for 1996 (or lack of it) may have alerted you that their earnings were not all they were made out to be.