Thursday, January 13, 2011

Coinstar (CSTR) Shows What Happens to the Momentum ("Relative Strength") Strategy

Coinstar (CSTR) is a momentum stock that had doubled in the past year. Right now it is down 25% in after hours trading after pre-announcing lower Q4 revenue and earnings than expected;

guiding $391 million, below the company’s prior forecast of $415 million to $440 million, and shy of the average estimate of $427 million. EPS is now expected in a range of 65 cents to 69 cents, versus a prior 79 cents to 85 cents. Analysts have been modeling 84 cents.
What's funny is that Zack's research put out a report on Wednesday titled WATCH FOR COINSTAR TO POTENTIALLY REBOUND AFTER FALLING 1.78% on Tuesday.

This is why the "buy the dips" / momentum / relative strength strategy is a loser in the long run. Let's say you had "bought the dip" in CSTR today based on the Zack's recommendation.

Sure, a company that rents archaic DVDs for a dollar at McDonalds could be criticized as overvalued or obsolescent, but that's not what's important! The thing has momentum! It has doubled in the past year - are you an idiot? You're missing out! Just set a tight stop loss order and "buy the dip!"

Except the company issues a surprise announcement that spooks your fellow owners renters of the stock and they dump it like a bad habit, and you get stopped out at a 30 percent loss. You have no conviction about the name - you only owned it because it was "going up" - so you walk away chastened.

As you know, the past several months have been really challenging for value investors. Junk has massively outperformed quality, all in the name of momentum.

In the long run, it is a great strategy to fade the rallies of junk. The long term trend is for quality (i.e. undervaluation) to outperform junk (failing businesses, etc.), so there are powerful mean reverting forces at work in the background.

All you have to do is be patient. If you are a value investor, time is on your side. If you are a momentum investor, you live on borrowed time.

1 comment:

Alex S. Gabor said...

The relative strength investing strategy on Coinstar is a fools formula for failure.

Open Short Interest in this stock has more than 50 million shares short over the past six months and I would short it another 50 million shares.

Blaming the film business for people pinching their pennies and spare change in this economy is like calling President Obama the best president administrator in history. It just isn't a true statement and the SEC should look into false and misleading statements by ConStar Executives!