*** It’s amazing how little people really know about the small-cap market. To most, investing in small-cap stocks is no different from gambling. You put your money down on a stock you think will rise. Then, a day, a week or a month later, you either cash out big or walk away poor and broken.

Thanks to this misconception, you almost never see small-cap companies featured in the mainstream media. For instance…

I got my December issue of Money magazine in the mail yesterday. The first thing I did was look at the list of companies featured. No small caps seemed to be highlighted. Thinking I missed something, I thumbed through the 196 pages anyway. I mean, come on…

Small caps have dominated this year.

By the time I reached page 105, I had some hope. I found an article called “Build the Goof-Proof Portfolio.” I thought, “There has to be at least a mention of small-cap stocks here.” After all…

Everyone knows at least 5% of your portfolio should be in small-cap stocks. That’s just simple asset allocation. But apparently, Money magazine and Michael Sivy (the author of the article) didn’t get that memo.

Sivy wrote about the five “essential principles” all investors should follow to fine-tune their investing results. I knew it was going to be ugly when his first principle started out like this…

“Focus on shares of the largest companies. Blue chips are easy to follow because the companies are closely tracked by the media and by stock analysts. Giant companies are also generally more stable than smaller ones, which often depend on a narrower range of products.”

I almost pulled my hair out. (And folks, I’m losing it quickly enough as it is.) This guy is typical of what you see in the mainstream press. They only recommend the safe stocks – the stocks they know everyone else on the damn planet will invest in anyway. And as I made my way to the next page, I had to laugh. Sivy listed what he calls “America’s Best Stocks.” Making this list were real long shots like Amgen, Texas Instruments, Lowe’s, Dell, Cisco Systems, Nike, IBM, Wyeth and Citigroup.

Way to go out on a limb, Sivy!

He obviously isn’t reading Penny Sleuth. If he did, he’d know that the Russell 2000 is reaching new highs – not the S&P 500. He’d know that over time, it’s the small-cap stocks that outperform even the best blue chip stocks. And he’d know that when everyone wants to invest in the same stocks at the same time, they are usually too late. Which reminds me…

My colleague, Carl Waynberg, who follows the OTC Bulletin Board market, has a saying…

“Most people are wrong most of the time.” In other words…

When the herd finally decides to react to an opportunity, they always do it way too late. So as a small-cap investor, your best bet is to stick to your guns. Invest in the fundamentally sound small-cap stocks that no one else is talking about or writing about in Money magazine. Go against the herd.

Some call this gambling. But it’s the only proven way to make money on Wall Street.

And speaking of avoiding the herd, my buddy Irwin has a stern warning for all investors looking to “strike it big” this holiday season. You can’t afford not to read what he has to say.

All yours, my friend…

Holiday Nutcracker: Avoid E-Commerce Insanity

Go ahead, call me a Grinch, a Scrooge, a sourpuss. But I’m fed up with the holiday parking lot insanity, surly “sales associates,” and endless cash register lines that evoke the Soviet Union. Rather than fighting the department store crowds this holiday season, I’ll be among the 86 million Americans expected to shop online – stoking a projected hot fourth quarter for e-commerce companies.

You can bet when its all said and done, this will be a record year for small-cap online retailers like Overstock.com, 1-800-FLOWERS.COM and Shopping.com. But let me warn you…

Now is NOT the time to buy into the e-commerce craze.

Despite overcoming the years of management missteps, consumer dread and bad press, the gushing sentiment pouring out of the research firms is very positive this year. The consensus is that the e-commerce companies have fixed their problems, consumers have come to appreciate the e-commerce value proposition (me included) and the bad press about hackers, scams and spam doesn’t outweigh the pleasure of shopping in your pajamas.

Even the stats look good.

Last year, e-commerce rang up $114 billion – and that’s with a “B.” The results, compiled by the National Retail Federation, showed a 51% increase from 2002. Better yet, the survey of 150 retailers found that e-commerce merchants actually rang up profits of 21% – after breaking even in 2002.

So why not invest now? After all, we are entering the most lucrative time for e-retailers. Surely, there is some money to be made. Right?

Your faithful Penny Sleuth did some digging, and the numbers just didn’t add up – especially for small-cap investors. Take a look at what happened this time last year…during a record-breaking stretch for these two small-cap e-stores.

On Nov. 3, 2003, 1-800-FLOWERS.COM closed at $10.79. But come Feb. 2, 2004, the price had slumped to $9.97 – a decline of 7.6%. Investors loaded up this time last year thinking that this stock would have to rise during the holiday. It didn’t.

The same seasonality hit small-cap superstar Overstock.com. On Nov. 4, 2002, it closed at $10.00. On March 31, 2003, the stock closed at $9.75 – a decrease of 2.5%. Again, the herd all rushed in anticipating huge gains in a quick period of time. But they, too, lost out.

This year, who knows what will happen? E-stocks could rise. At least that’s what Wall Street wants you to believe. In fact…

In anticipation of this cyclical performance, Shopping.com went public on Oct. 25 at a strike price of $18 per share. Today, as of 11:29 a.m., this small-cap wonder is trading at $25.12 – a phenomenal increase of 39.6% in only three weeks. Clearly, it’s time to buy, right?

Who knows? It may be. But I sure wouldn’t buy. Because even though I think that Shopping.com may eventually be a great opportunity, you NEVER want to buy with the herd.

Remember, the time to buy stocks ISN’T when everyone and their uncles are buying. If you want to make the most money, stick to the proven fundamentals. The best stocks of all time have been those of small-cap companies with growing sales and earnings (and NOT just during the holiday season) that are trading for a fair price. Period.

The worst mistake you can make as an investor or a trader is to buy into an idea or a company just because everyone else is. There’s a reason most people never beat Wall Street. People all move in droves. They buy the same stocks at the same time. As a result, they have similar tales to tell.

So if you want to do what everyone else is doing this holiday season – go ahead and invest in e-retailers right now. But remember what happened last year. Instead of making a little extra cash to pay for some of those pricey holiday gifts, investors found themselves in more of a hole.

While you can be sure I’ll be doing most of my holiday shopping online this year, you won’t find me in line waiting to call my broker. Hopefully, I won’t see you in line either.

Happy investing,

Irwin Greenstein

November 19, 2004

Holiday Nutcracker: Avoid E-Commerce Insanity was originally featured in the Penny Sleuth.