The economic outlook is relatively positive at the present time. Indeed, the International Monetary Fund forecasts the U.S. economy will grow by 5.2% in 2022. Although that is just an estimate which may or may not be proven correct, it suggests the operating environment for many companies is positive at the moment. As a result, few companies may be struggling to deliver strong financial performances.
This could be bad news for net buyers of stocks. They may struggle to find high-quality businesses that are trading for less than their intrinsic value. This may lead them to overpay for stocks – especially when they believe there is scope for companies to deliver improving financial performances in 2022 that could be reflected in rising share prices.
Temporary mispricings
Net buyers of stocks may benefit from the emergence of a more challenging economic outlook that causes the financial performances and share prices of companies to temporarily decline. This may provide them with a window of opportunity to buy high-quality stocks when they offer a wider margin of safety than is currently present.
Indeed, Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) CEO Warren Buffett (Trades, Portfolio) has a long track record of purchasing strong businesses when they are experiencing temporary challenges. The causes of their problems may range from economic woes to more specific events that affect a particular industry or company. He said: “The best thing that happens to us is when a great company gets into temporary trouble. We want to buy them when they’re on the operating table.”
A patient approach
Clearly, it is impossible to predict when any company will trade at a discount to its intrinsic value. However, the track record of the economy and market suggest there will be occasions when stocks temporarily offer significantly wider margins of safety than at present. Indeed, the March 2020 crash occurred without prior warning and serves as an example of how share prices can trade at extremely attractive levels for net buyers.
Due to the unpredictability of such events, and to avoid overpaying for stocks in today’s bull market, it may be prudent for investors to adopt a patient approach when buying stocks. This could even mean they hold cash for a period of weeks, or even months, until a larger number of companies are temporarily "on the operating table."
A long-term plan
Of course, this strategy may mean missing out on short-term stock market gains if upward trends since March 2020 persist. Holding cash could equate to substantial negative after-inflation returns that cause significant frustration for an extended period of time.
However, with bear markets having occurred every three years on average since the Great Depression, investors may not have to wait all that long for more attractive buying opportunities to emerge. Those investors who hold cash and are ready to capitalize on them may end up being inundated with opportunities to purchase high-quality businesses at distressed prices.
Furthermore, with the stock market having a strong track record of rebounding from its declines, purchasing temporarily undervalued shares could lead to significant recovery opportunities over the long run.
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