How I Evaluate Stock Picks From Others

Some ideas are so far outside my comfort zone that acting on them would surely give me a stomachache.

When you write a column about picking stocks, you get plenty of advice about what you should buy. I often find these suggestions wise and enlightening. One of my best-performing stocks, Seagate Technology (symbol STX (opens in new tab)), was suggested by my editor, for example. Another, KKR Financial (KFN (opens in new tab)), was a favorite of my son.

Readers have come up with some great calls, too. About a year ago, one reader asked me to look at Eaton Corp. (ETN (opens in new tab)), an Ireland-based capital-goods maker. At the time, the company was growing nicely, and the stock was selling for just 9 times earnings and yielding a healthy 4%. I told the reader I thought Eaton was a great value and bought some for my personal portfolio (at the time I didn’t have any cash in my Practical Investing portfolio (opens in new tab)). I’ve earned 71% on that holding in just over a year (returns and prices are through August 2).

But I have not always been wise enough to heed readers’ advice. One took me to task for selling Lockheed Martin (LMT (opens in new tab)), which I did last January at $96, for a 30% gain. I felt vindicated when the stock fell nearly 10% in the days after I sold because of uncertainty surrounding the federal budget.

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The fact is, though, that the reader’s argument was impeccable and completely consistent with the way I invest—or at least the way I try to invest. Lockheed is a strong company that is consistently profitable and pays a generous dividend. That’s the kind of stock I generally think you can hold for decades, regardless of short-term market swings. My punishment for failing to heed this wise reader’s counsel has been to sit on the sidelines as Lockheed shares soared another 29%, to $124, since my sale.

But people also give me advice that I can’t take—and won’t lament forgoing. That’s simply because their ideas are so far outside my comfort zone that acting on them would surely give me a stomachache.

For instance, a lot of people made a fortune buying gold, which nearly quintupled between 2002 and September 2011. Many gold enthusiasts urged me to jump on the yellow-metal bandwagon.

But I didn’t buy a single ounce, nor did I buy funds that track the metal’s price or invest in mining stocks. Why? I’m a numbers girl. And no one can provide a good formula for evaluating the right price to pay. Gold is essentially a hedge against fear. When people become worried about the economy or the value of their currency, they bid up gold’s price. But are they $500-an-ounce concerned or $2,500-an-ounce terrified? I know of no logical way of making that call, so I simply stay away.

High-P/E aversion. I feel the same about many popular stocks that sell at absurd price-earnings ratios. Take (AMZN (opens in new tab)). When one analyst told me in November 2011 that it was a screaming buy at $192—a price that amounted to about 100 times estimated 2012 profits—I thought he was nuts. Since then, the stock has soared nearly 60% even though Amazon lost money in 2012 and is expected to earn just 86 cents per share this year. At $304, the stock now sells for 354 times estimated 2013 profits.

Do I regret not getting in at $192? Not really. (Okay, a little.) But buying Amazon would have put me on pins and needles because I didn’t understand why the stock traded at such an exorbitant P/E—and, frankly, I still don’t. I would spend my days trying to figure out when sentiment for Amazon might sour. And that would make me miserable and nervous.

I want my investments to make me calm and comfortable, to meet my economic goals without turning me into a neurotic trader. Yes, I sometimes miss out on profits, but I save on antacids. That’s a trade I’ll make any day.

Kathy Kristof is a contributing editor to Kiplinger’s Personal Finance and author of the book Investing 101. You can see her portfolio at (opens in new tab).

Kathy Kristof
Contributing Editor, Kiplinger's Personal Finance
Kristof, editor of (opens in new tab), is an award-winning financial journalist, who writes regularly for Kiplinger's Personal Finance and CBS MoneyWatch. She's the author of Investing 101, Taming the Tuition Tiger and Kathy Kristof's Complete Book of Dollars and Sense. But perhaps her biggest claim to fame is that she was once a Jeopardy question: Kathy Kristof replaced what famous personal finance columnist, who died in 1991? Answer: Sylvia Porter.