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By Ray Turchansky
Edmonton Journal
Mutuals Watch
Saturday, May 01, 2004
Victoria Times Colonist
Fund Focus
Saturday, May 8, 2004
Adrian Mastracci, investment counsel at
Vancouver based ‘fee-only’ KCM Wealth Management, says, "Falling stocks attract the love of many investors. Worse yet, investors marry the lovable stocks and stand by them no matter what. Apparently, the rules of prudent investing don’t apply to this category.”
Those who stand by falling stocks at all costs can end up jilted.
The overwhelming sound this week was that of Nortel investors slapping their foreheads while uttering a Homer Simpsonesque “doh.”
As we pondered why people are mesmerized when former corporate darlings continually fall into despair, the observation persists that buying stocks comes easily for most investors, while knowing when to fold ‘em is far more difficult.
It was amazing that a company, whose shares had long ago plummeted from $124.50 to the verge of being a penny stock, could fall 31 per cent in One day and still sink the S&P/TSX Composite Index 300.17 points or 3.5 per cent, while causing the biggest single-day drop in the Canadian dollar in 20 years.
The reason is that the landscape is still cluttered with people who rode the stock on the way down, thinking it was a deal at $80, a steal at $18 and unreal at $8.
The championed strategy of dollar cost averaging — buying shares or funds on a regular basis so you get more shares when prices are down — can reap rewards if a company is merely dipping, during a cycle. But if you are buying into a firm mired in problems, you often just windup with more shares of a clunker.
“Chasing persisting disappointments is a passion for many investors,” wrote Adrian Mastracci, investment counsel at Vancouver-based KCM Wealth Management, in his newsletter.
“Falling stocks attract the love of many investors. Worse yet, investors marry the lovable stocks and stand by them no matter what. Apparently, the rules of prudent investing don’t apply to this category.”
He said the only reason investors should chase stocks with increasing downside potential is if they “have the courage to short them.” It takes guts to borrow stock certificates with the hope of buying them when prices are lower, to earn a profit.
Many investors adhere to their promise to sell a share after it has realized certain returns, say 20 or 30 per cent. But vows to sell when a stock has dropped by the same preset amount are often akin to New Year’s resolutions. You must ignore why you bought a stock, and concentrate instead on what’s happening now.
Has the company taken on too much debt?
Does it have serious accounting problems?
Is it in legal trouble, which will siphon funds from profits and the attention of top executives away from growing company revenues?
Has management or its philosophy changed?
Have market conditions changed? New players in the field or an unwillingness to adapt to changing times can be deadly — the way Kodak’s late entry into digital cameras caused it to be booted from the Dow Jones Industrial Average.
The hardest thing about selling a falling stock is that you often have to admit you were wrong to buy it in the first place. But at any single time, you should ask yourself, would I buy this stock under current conditions if I didn’t already own some shares? Has the value of the asset diminished?
There is a growing movement among fund managers that says rather than “averaging down”— buying more shares as prices fall to reduce your average share cost — you should buy more shares as a company’s share price goes up.
The theory is that there are reasons why share prices rise, and you’re better off investing in a company with improving revenues and profits. Conversely, there are reasons why companies fall out of favour. What are they? Will they persist or get worse?
But buying shares as they get more expensive goes against the human nature of investors. It, too, takes guts.
As for Nortel, that story’s still unfolding. Investors who are buying now are hoping it’s worth more as a takeover target, not counting that it’s a company that’s out of the woods.
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