July 5, 2011

An Unusual Recommendation

• Investment of the Week

Written By Chloe Lutts

Here at the Dick Davis Digests, July means one thing: It’s time to update our subscribers on this year’s Top Picks! At the end of last year, we asked all our contributing experts for their #1 stock pick for the coming year. This year the response was bigger than ever, and we published 66 picks in the Investment Digest and 29 in the Dividend Digest.

Now, it’s time to follow up on those recommendations, so we asked the editors who submitted them to let us know how they’ve fared. I’ll write about some of the winners next week, after we publish the issue.

This week, I want to comment on about something interesting I noticed among the updates. Bob Prechter, editor of The Elliott Wave Theorist, declined, as he did at the beginning of the year, to recommend a stock, and instead wrote:

“The best place for your money through the next five years will be money itself, not investments. I recommend no real estate, stocks, bonds or commodities. Preferred holdings are cash notes stored in a safe place, gold, a couple of bags of U.S. silver coins and Bitcoins.”

It’s about the same advice he gave at the beginning of the year, so I wasn’t surprised… until I got to that last word: Bitcoins!

I’d read about Bitcoins, a virtual specie that’s sometimes referred to as the Currency of the Geeks. However, this was the first time I’d encountered anyone credible who had actually suggested investing in them, so it piqued my interest. I did a little more research, and it turns out that yes, real people are investing real money in Bitcoins. I wouldn’t convert your retirement savings just yet, but they’re nonetheless an interesting option to keep an eye on.

Bitcoins are an unregulated, digital currency. What’s attractive to many of the currency’s users and investors is its decentralization: Bitcoins are not issued, governed, regulated or authorized by any central authority. Instead, the currency system works as an online peer-to-peer network, with the peers being everyone who uses Bitcoins. Tasks that would normally be performed by a central bank are either distributed among the network or managed by set algorithms.

For example, the network keeps track of the flow of Bitcoins using peer-to-peer information sharing. Each individual Bitcoin transaction is reported and logged in a public ledger, where it looks something like this:

IN: 1NqwGDRi9Gs4xm1BmPnGeMwgz1CowP6CeQ: 25.09
OUT: 1GZZUd25jbDpUghYD1EA3URdtbzobedqWr: 25.09

That long string of digits identifies a user’s wallet (like an account where Bitcoins are stored), although every wallet has hundreds of these codes, to make it difficult to indentify individual users. Also, rather than being stored in one place, like at a central bank, the ledger file is shared among the thousands of computers in the network. Anyone can see all the transactions, which makes counterfeiting impossible.

Algorithms have accomplished other central bank-like tasks. For example, an algorithm that was conceived by the (anonymous) creator of Bitcoins back in 2009 determines the money supply. Based on the algorithm, the system began with only a handful of Bitcoins, but that amount grew rapidly. Today, there are about six and a half million Bitcoins in circulation, but the amount is growing more slowly. Eventually (in about 20 years), the number will begin to approach 21 million, but then it will stop growing altogether. Here’s a graph of this planned growth:

This finite supply is one reason some investors–particularly those who worry a lot about “what the Fed is doing to the dollar”–are attracted to Bitcoins.

Finally, there’s the default reason investors are ever drawn to anything: performance! Thanks to their rapidly growing popularity and awareness, Bitcoins have appreciated in value by about 200,000% in the past year alone. A year ago, you could buy a Bitcoin on one of the online Bitcoin exchanges (Mt. Gox and TradeHill are the big ones) for about $0.06. Today, Bitcoins trade hands for somewhere between $16 and $17.

This performance has obviously attracted some attention. And just as with any outperforming currency, commodity or stock, there are now people extrapolating this growth, promising $100 Bitcoins in no time. Obviously this is dangerous.

Another serious risk to Bitcoin users is the government’s attitude toward them. For most of their existence, Bitcoins have existed under the radar of governmental scrutiny. But they got some unwanted attention recently, when the blog Gawker published an article on a website where you can buy illegal drugs with Bitcoins. Two U.S. Senators have now written letters urging the Attorney General to address the situation. (Of course, it’s doubtful if the government could shut down or even cripple Bitcoins, but it’s certainly a risk to be aware of.)

There are plenty of other pros and cons to Bitcoins, and if you’re interested, you could dig up many recent articles about them on the Internet. You could even try buying a few (if you do, let me know how it goes). But I recommend keeping your retirement savings denominated in a currency with a slightly longer–and less volatile–history for now.

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On that note, how about a stock?

The second half of June was much prettier than the first for the market, though it’s still too early to call a bottom. That call could come soon though, so now is a great time to build a strong shopping list for when you pull the trigger. As we’ve discussed in recent weeks, this list should be full of names that have held up well against the market’s pressure. Now that some of that pressure has lifted (at least temporarily), you should also start looking for upward momentum.

One such stock is Chipotle Mexican Grill (NYSE: CMG). Chipotle isn’t a fresh face anymore; it’s been on a tear for over a year. But it’s still a super strong performer, with a chart that can’t be denied. It’s currently recommended by several of our contributors, including Patrick McKeough in the Stock Pickers Digest and Michael Cintolo in the Cabot Market Letter. Cintolo recently wrote:

“Chipotle Mexican Grill is a fast casual restaurant chain that has taken a simple menu (tacos, burritos, salads and burrito bowls) and built a chain of nearly 1,100 locations with it. Chipotle’s food sourcing reflects a strong commitment to quality and freshness, and growth has been steady, with a dip to “only” 14% revenue growth in 2009 the sole blemish on its record. The company expects to open 135-145 new locations in 2011, and the logic of taking a successful format and replicating it again and again makes Chipotle look like a winner; it’s also begun testing a new Asian-themed restaurant concept. The stock wears its high price proudly, and has continued to creep higher during the correction. WATCH.”

CMG is definitely a stock to have on your watch list in the coming days and weeks. While you wait to pull the trigger, try one of their burritos–they’re delicious.

Wishing you success in your investing and beyond,

Chloe Lutts
Editor of Investment of the Week

P.S. Chloe Lutts is the editor of Dick Davis Investment Digest where you’ll find dozens of top stocks (like CMG) recommended twice each month. To read more about them and get updates on the contributors’ top stock picks for 2011, subscribe now. The update issues come out this month starting with tomorrow’s Investment Digest!

To get it, click here.