Buy in haste, repent at leisure: early bank buyers pay a high price

You have to wonder if serious investors like these can get the timing of buying shares wrong, what hope is there for mere mortals?

At least in the case of Citi, the long view may prevail as the bank digs its way out of the credit crisis now enveloping the sector, but that could still mean further cash injections from willing buyers of emergency share issues. In the case of Bear Stearns, investors are fighting what looks like a losing battle for a better exit price.

It is the same story for the hedge funds that took a bold punt on Northern Rock last summer when its shares plummeted. Nationalisation is unlikely to result in compensation that they would regard as fair.

Falling knife

The old stock market adage is that buying falling shares is like trying to catch a falling knife. For how do you tell when a stock has hit bottom and is due for a bounce? Insiders might have started buying but then they can get it wrong as well.

Swiss investment guru Dr Marc Faber says you should never buy a former boom asset class in the immediate correction. He notes that the next boom is almost always in another asset class and that it can take many years for former glory to be restored, if it happens at all.

It was the same in the dot-com boom with the Nasdaq, still around 60% off its peak some eight years after this bubble burst. Even buying big stocks like Microsoft did not help; its stock price dipped sharply and has drifted sideways during the 2000s.

Does that mean you should not buy shares that have fallen substantially in value, and now look good value? Not really but you should be very careful and highly selective.

Blue-chip banks

For example, in the banking sector you might look for the bluest blue-chips whose stock price has suffered with the rest of the pack. European blue bloods like ING and Fortis would fit this description, though true to Faber's dictum they have not bounced back yet.

Another clever approach is to say: what other sectors will benefit from the huge liquidity that central banks are pouring into the financial sector? Often economic medicine has side-effects and you can profit from these consequences.

In the credit crisis we are beginning to see the consequences of monetary inflation promoted by central banks to compensate for the drying up of private sector credit. This is driving up consumer price inflation via the mechanism of higher commodity prices and dollar devaluation.

Therefore it may not be too late to buy into the commodity bull market run, although high volatility is a price for the higher returns available in commodities at this time.

Indeed, the important thing to note is that setbacks in the commodity bull market will be short-term and the trend will still be upwards while that cannot be said with certainty for the financial sector and the banks whose business models could be permanently impaired.

See also:
Reading Warren Buffett: spotting bargains in bombed-out markets
UAE banks skirting global financial crisis