January 13, 2012 at 11:17 AM EST
Invest in What You Know
If you don't understand it, don't invest in it. Nick Hodge explains how to stick to the stuff you know best.

To me, free music is just that: free.

I'm not sure how you make money giving stuff away.

So when Pandora (NYSE: P) IPOed, I advised anyone who would listen to stay away.

The market is still valuing the company at $1.93 billion, but it's down some 35% from its ballyhooed IPO price:

Pandora

The same goes for a service that lets people network online for no charge...

I told people to stay away from LinkedIn (NASDAQ: LNKD) when it spread its wings as well.

It's fallen from the nest more than 30% since August.

LinkedIn

And while some new dot-com plays like Groupon (NASDAQ: GRPN) and Zynga (NASDAQ: ZNGA) aren't totally free, I'm not sure how lucrative selling yoga classes at a discount or simulated Facebook farm games are...

Neither is the market. Each is down more than 20% since November.

While I employ and enjoy the services of all these companies (except Zynga), I don't pay a dime for them.

So why would you as an investor?

~~eac_cyber_box~~

Shot of the Hard Stuff

The age-old wisdom is to invest in what you know. And, like I said, I don't know how to make money offering products for free.

What I do know is that everyone eats. And I know most everyone uses oil in one form or another.

I understand the basic fundamentals of those markets, namely supply and demand.

On Wednesday, we talked a bit about oil supply and demand, why prices would head higher, and which companies you could invest in for profit.

But you don't always have to invest in a company...

The simplest way to invest in the things you know is to invest in the things themselves.

Take oil, for example. I think it's headed higher, so I can either buy oil contracts or a fund that tracks the price, like ProShares Ultra DJ-AIG Crude (NYSE: UCO).

Look how that's performed next to the Dow, Exxon (NYSE: XOM), and the free music company:

UCO Oil ETF

You can buy a short ETF, like the ProShares Short Oil & Gas (NYSE: DDG), if you think prices are headed lower.

Same goes for nearly any commodity out there.

I'm also big on agriculture.

But I know during harvest time, prices are suppressed because supply is high.

That said, you should start to short around September. If you did that with the DB Agriculture Short ETN (NYSE: ADZ), here's what your return would look like:

Short Agriculture ETF

The More They Stay the Same

Many of the catalysts for these plays you know well.

And they happen year in and year out without fail: the summer driving season; the winter heating season; the fall harvest.

Some aren't seasonal, but are predictable nonetheless: gold up when the dollar's down; uranium's down on any negative nuclear news.

You get the idea.

No matter how crazy the market gets, how partisan the politics get, how hostile the Middle East gets, or how high unemployment goes...

You can always trade the things you know.

Physical assets should be a part of everyone's portfolio, and we'll be expanding on that topic in the next few weeks.

~~nicks_signoff~~



Invest in What You Know originally appeared in Energy and Capital. Energy and Capital, a free 3x-per-week newsletter, offers practical investment analysis in the new energy economy.
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