When the latest package of tax cuts gets approved, many expect they will drive the stock market higher. Here's how to avoid getting burned.Experts predict that the soon-to-be-approved extension of the Bush-era tax cuts may drive stock markets higher. But investors beware: As the stock market rises, certain risks will rise along with it.

Many darling stocks, such as Apple (AAPL) and Goldman Sachs (GS), that have already rebounded tremendously from lows in early 2009 may now be reaching lofty heights -- and could become overvalued. Increased market volatility means that any investors caught buying overvalued shares now could see their portfolios devastated if the market suddenly retreats.

Alan Lancz, director of research at LanczGlobal.com and editor of stock newsletter The Lancz Letter, says that if the market rallies on tax-cut euphoria, money managers and other investors may also jump in, driving the market even higher. Lancz, an industry veteran who has produced the newsletter for 20 years, warns investors to keep their emotions in check and adhere to strict investing discipline -- both when buying and selling stocks -- if the market takes off on another big rally.

Reducing Risk

Among the rules that Lancz follows rigorously is to reduce the risk in his portfolio. His firm avoids many hot companies in favor of more underappreciated firms that he feels have fallen through the cracks.

For example, he bought stocks like Apple and Goldman Sachs two years ago, but has since taken them off his buy list. "There are a lot of higher expectations already in the stock price at these levels and we would rather buy lower-expectation stocks, because with lower expectations, there is lower risk."

Lower-expectation stocks carry lower risk, but have higher potential for gain if they are undervalued. If the next market rally overheats, Lancz says his firm intends to aggressively find such stocks. "We plan to take advantage of that by taking some profits and buying some less-risky securities – thereby controlling the risk levels rather than riding the market's ups and downs."

What kinds of stocks fit his criteria? Some of the recent picks from his newsletter include:
  • Excelon (EXC), the largest U.S. nuclear operator, which pays a 5.5% dividend and is trading near its 52-week lows. Shares closed at $39.46 Tuesday.
  • Pharmaceutical company Merck (MRK), which also offers a dividend and has a pipeline of new drugs -- as well as activities from several recent acquisitions -- that should soon kick in some new revenue for the company. Merck shares are trading below the midpoint of the company's 52-week range, closing at $35.37 Tuesday.
  • Hologic (HOLX), which developed a new 3-D mammogram system that the FDA recently approved for the next stage of testing. The company, which also supplies osteoporosis testing devices and other women's health products, was trading at $17.73 at the market close. The company doesn't pay a dividend, but Lancz considers it a growth stock with great potential. "It is in the early stages of a new product cycle, which should really help its earnings and reputation," he notes. "I think Wall Street will notice that in 2011 and value the stock appropriately."
For the most part, Lancz says investors should focus on finding stocks that deliver a 4.5% to 5.5% dividend, but that also have good long-term appreciation potential and little risk. As the stock market continues to climb, he cautions investors to carefully consider their risk when buying companies at prices that have already grown significantly.


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clark8642

Hopefully there will be no new tax cuts for anyone, rich or poor, until we cut spending. The blissfully ignorant politicians in both parties who think that deficits don't matter are hurting us in the longterm. We are grownups. We need to pay our own bills rather than passing them to the future.

December 09 2010 at 8:14 AM Report abuse rate up rate down Reply
toosmart4u

There goes the idea the rich will spend their money and help the economy.

December 09 2010 at 6:48 AM Report abuse +1 rate up rate down Reply
1 reply to toosmart4u's comment
RYAN

SO?I mean a rich mans money isnt your money so you have no business thinking about another mans money....thats a really sick thing to do.

December 09 2010 at 7:16 AM Report abuse rate up rate down Reply
mneymatters

Tax Cuts....What Tax Cuts? The liberal non-sense and class warfare continues to be the mode of operation for this administration. Most liberals actually believe that the American people are just plain stupid and the last election was a fluke. So Democrats finally put a budget in place, the largest ever. Why does it contain more money for the ongoing war, I thought the Dems promised to end the war? Why is oil, back to 3.00 a gallon, I thought their policies would keep oil stable and less dependent on foreign imports? I thought President Obama promised to make the United States a more freindly nation, yet the world still hates us, and since his election, maybe even more than before? NOTHING THIS ADMINISTRATION HAS DONE HAS WORKED. I know it is Bush's Fault!!!!!!

December 09 2010 at 6:38 AM Report abuse rate up rate down Reply
1 reply to mneymatters's comment
clark8642

These are new tax cuts that will increase our deficit sharply. If there are no offsetting spending cuts there should be no new tax cuts. BTW that is a fiscal conservative point of view. If you think that it is a liberal point of view you are like the bulk of our borrow and spend politicians.

December 09 2010 at 8:17 AM Report abuse rate up rate down Reply
soapyjeans

Lame and misleading title, rofl... There are NO CUTS, taxes remain the same as last year. If you bought 5 xmas gifts last year, and 5 this year, would you say you "cut" your presents??? Keeping the status quo is not a cut it just keeps it the same. The rich aren't getting a cut, their taxes just remain the same. The dems/liberals are just mad their spending will be curtailed now though, rofl...

December 09 2010 at 12:29 AM Report abuse +2 rate up rate down Reply
1 reply to soapyjeans's comment
clark8642

So if I made $10 last year and spent $20 it does no harm to do that again this year, next year, forever because my income and expenses have not changed? Do you look at your own finances that way? And you think your view is conservative? None of us, rich or poor, should get a tax cut unless we cut expenses sufficiently to offset the loss in revenue and end the deficit. That is a conservative point of view.

December 09 2010 at 8:21 AM Report abuse rate up rate down Reply
justaguyinokc

Invariably, when you hear such outright "optimism" in a news story it is immediately followed by a fall in the market. The market climbs on CAUTIOUS optimism tempered with a healthy amount of fear, but the moment the press says the market is going up, you can pretty much count on the opposite.

December 08 2010 at 10:31 PM Report abuse +1 rate up rate down Reply
erink91321

This is Assuming there is a rally which would make No real sense as these Tax cuts are going to Vastly Increase the Defecit and Halt Programs that are keeping the economy from Totaly Collapsing

December 08 2010 at 9:13 PM Report abuse rate up rate down Reply
3 replies to erink91321's comment
jamesrcraig1

Mr. Lancz has a marvelous grasp of the obvious -- buy cheap, sell dear! Buy quality dividend stocks. Wow, what great insight. I suppose there are people who subscribe to his newsletter, but they'ed be better off taking a course in Investing 101-102 at their local high-school's adult education program. On the other hand, those people with a meaningful amount of money to invest, probably have.

December 08 2010 at 8:34 PM Report abuse rate up rate down Reply
1 reply to jamesrcraig1's comment
lunapalooza7

Most people who invest don't have a grasp of the obvious...that is his point.

December 08 2010 at 9:30 PM Report abuse -1 rate up rate down Reply
drbuckles

A comment to those who think it's is their money. “It’s our money let us keep it. It isn’t the government’s money to begin with so it can’t add to the deficit. Or, my personal fav, I never got a job from a poor man, the money will be better spent creating jobs.” Well, you’re right it is ALL your money IF you or your investments were in no way earned through commerce here in the U.S., where our publicly financed court system gave birth to your company or the company you invested in. It is ALL your money IF you or the company you invested in, in no way benefitted from publicly funded legislated laws that allowed you or said company to off shore jobs which circumvented the American workforce, environmental protections and other public interests in order that the wealth at the top could grow by over 500% in the last 30 years while the rest of the country stagnated. It is ALL your money IF you or the company you invested in never benefitted from the protection and intimidation of the world’s largest military. It is ALL your money IF you or the company you invested in never profited from using the public infrastructure, the roads, rails, air-transport system, the water conduits, the power grid. It is ALL your money IF you or the company you invested in does not in any way benefit from a judicial system that is heavily weighted in your favor both in criminal and civil issues, if you have never gotten a ticket waived, had a contract written, or had will. This barely scratches the surface of all the ways you did not make it on your own, but, in fact, through mere membership in our society, you were provided the framework by which you succeeded. So you owe a debt to this country. Right now that debt stands at roughly 14 Trillion. And frankly you have benefitted by far more in those activities that have drilled a huge portion of that debt into the American culture. That is why the tax rates should return at least to the level they were under Clinton if not all the way to before Reagan. There is a prevalent myth of the “self-made” man in our culture. It is a myth. At the time of the revolution one of our founders uttered no truer words than “we must all hang together or we most assuredly will hang separately.” This is no less true today. We are all in this together. And the bill has come due.

December 08 2010 at 8:07 PM Report abuse -2 rate up rate down Reply
4 replies to drbuckles's comment
biancul3

As an independent, I believe that if nothing else, I think in making this deal with the republicans, Obama has shown that he is a real man and not just a puppet for the radical left in his party. I applaud his efforts, even though I'm not sure we should continue to blow up the deficit by adding another $300+ Billion for the sake of throwing everything but the kitchen sink just to try and create new jobs. Now it's the millionaire/billionaire's turn to start hiring people and the right's turn to return the favor come January because there are so many more issues that need to be addressed and resolved next year. The sooner, the better!

December 08 2010 at 7:28 PM Report abuse +2 rate up rate down Reply
1 reply to biancul3's comment
justaguyinokc

I agree. The far left and the far right are not rational anyway. They are so blinded by their ideologies that they have become some type of rougue robots marching in lock-step to their ideological masters.

December 08 2010 at 10:46 PM Report abuse rate up rate down Reply
PoliticalPost

Tax-Cuts amounting to $900 Billion come from borrowed money from abroad. This will sink the dollar and investments in dollar no matter how good will will sink and recommend to invest in German's Marks or China's Yuan which has to appreciate. Our nation just cannot afford to give tax breaks from borrowed money which creates higher deficit.

December 08 2010 at 6:53 PM Report abuse rate up rate down Reply