The Iconoclast Investor

A few years ago, (January 2006, actually) during my annual physical exam, my doctor gave me a stock tip.  I knew that he was aware of what I do for a living, but we hadn’t ever talked about stocks or investing or anything other than how to get my cholesterol down.  I was so surprised that I think my blood pressure actually spiked!

But there my very own Primary Care Physician was, telling me about how a drug rep for a big company had dropped a name on him during a sales call.

Here’s what he told me.

The drug rep’s big company (Eli Lilly) had partnered with a tiny company called Amylin Pharmaceuticals to help develop a new treatment for diabetes called Byetta.  The trials, according to the drug rep, showed that Byetta not only controlled diabetes just as well as insulin glargine (the standard treatment at the time), but that people who used it actually lost weight.  Talk about a one-two punch!

I told my doctor that I’d check it out.  What I found was that Amylin stock (AMLN) had gapped up on August 22, 2005, when news of the successful Phase II trials was released, leaping from 22 to 26 in one day.  Partly because of the strength, the stock had appeared twice in Cabot Top Ten Report in October 2005, closing at 34 on October 10 and 37 on October 17.

Investors who bought the stock after either of those recommendations could have ridden it to as high as 50 in July 2006, although they would have had to hold on through three substantial corrections to get there.  When my doctor told me about it, the stock was trading at around 45, and would top out at 50 within a couple of months.

In the long run, AMLN was like a lot of pharmaceutical stocks that get a boost from good news and take off like rockets.  By the time I heard about it from my doc, its fastest growth was already behind it.  Only the most disciplined investors would have walked away with a small profit in late 2006 when the stock lost momentum.

(Since then, AMLN began to slump in October 2007, and was treated very roughly by the big bear phase that began in August, dropping to about 7, which is where it’s trading now.  I don’t know if my doctor ever actually bought any for himself.  I hope not.)

But speaking of my doctor …

Anyone who follows the market with more than a passing interest knows that it takes a while for big market moves to register in the minds of the rest of the world.  And I knew when my physician weighed in with his stock tip, that AMLN’s run was probably doomed.

When someone (for Timothy Lutts, our publisher, it’s his barber) who doesn’t normally pay attention to the stock market begins to get interested, it’s time to make sure you know where the emergency exits are located.

The reason I’m bringing this up now is that what was true of AMLN on the way up is true of markets on the way down: when everyone agrees on a trend, that trend is probably close to reversing itself.  In the case of today’s market, just when everyone and his dog has fled the market in panic and despair, the real pros are freshening up their watch lists and getting ready for some buying.  That’s the case right now with the S&P 500 and the other broad-market indexes.

As I’ve said before, there’s nothing mysterious about this, and not even anything cheaply ironic.  Bear markets punish people until they sell their stocks.  And when there are no more people left to sell their stocks, the market has reached its bottom.  And when markets have reached their bottom, they turn up.

It’s a good time to be cautious, as a market that’s very close to turning up is very different from one that has actually made the turn.  Smart money never calls a bottom in advance.

If you understand this fundamental fact of contrarian investing, the present cloudy skies and universal gloom should be whetting your anticipation for the sunshine to come.