Friday, March 18, 2011

Buying a (Big) Dip

The old adage passed from generation to generation in the investment world is to “buy when there’s blood in the streets." This simple sentence perfectly sums up the investment philosophy known as contrarianism, which means doing the exact opposite of the herd. In other words, buy the dip, and the bigger the dip, the bigger the potential opportunity. Well, we found what we think is an intriguing dip to buy for clients in our Ultra Appreciation model, which is the most aggressive strategy that we offer. Uranium stocks plummeted by 30% in just two days, which led us to purchase the Global X Uranium ETF (URA). The terrible tragedy in Japan opened this investment opportunity as panic and uncertainty surrounded the nuclear industry.

An independent analyst that we read daily summed up the opportunity as a short term, technical opportunity as URA bounces to fill the gaps down it made yesterday and today. I have marked the gap with a yellow bracket in the chart below to help quantify the exact move. If the gap completely closed, the price of the ETF would rise 27% from the current $14.70 price (this does not include the 7% price rise today).

To be sure, there is plenty of risk associated with this position. There are already rumblings from politicians and environmentalists to halt nuclear energy expansion, and this will intensify if the situation in Japan deteriorates further. At the very least, this will result in increased regulation and higher costs associated with uranium production. As a result this position is expected to be highly volatile over the next few months and loaded with headline risk, meaning that in our judgment it’s only suitable for investors with a very high risk tolerance.