Abstract: A post by a pseudonym Luminac in the InvestingNote on 29 April 2017 mentioned that a close friend of him had invested in stocks like Cosco(F83), Noble(CGP), Hyflux(600) and had been accumulating them for over the past 10 years. She realized that the loss was too big and was on a crossroad of what to do next. I herewith share a similar life experience when I was in that situation some twenty years ago. No mention of the stock name shall be made in this post.
The share price was around $1.90 to $2.00 when the desire to re-own this stock became extremely burning. After all, I had owned the stock before and had sold them for a reasonably good profit. So, it cannot be very wrong to buy back this stock at around $2 when the highest price that it reached after a share split was $5. The company had made several mistakes and took extreme risks that on hindsight would have made me stayed far, far away from this stock. Unfortunately, my focus then was on the stock price. To me, the $2 price tag was a 60% discount against the $5 level that the stock had once reached.
Big mistake…the company was taking on so much risks and making so many bad business decisions that it had to make a rights issue at a huge discount. I cannot remember the exact ratio, but I think it was in the ball-park of ten rights for every one share owned. Certainly, it was forcing the minority shareholders to take on the rights to assume part of the huge risk. The share price tanked from about $1 just before the rights issue to around 10 cents. From then on, I started to follow more closely on the company developments and not on the stock price alone. A check on the past financial reports showed that the top man was still being paid in the region of either more than $750k or even more than $1m when the company was either earning insignificant profits or even suffering losses. Furthermore, the huge part (close to 90%) of the total remuneration was in the form of fixed salary and was even entitled to a few percent of ‘other benefits’. The percentage allocated to the bonus was far too little. So basically, the management is bleeding the company through their fixed salaries at the expense of the minority shareholders. In fact, the top man drew such a huge salary that he need not have to care much about the prospects of the company going forward. I believe all that was in his mind was he hoped to find a white knight who was stupid enough so that he could sell off the company lock, stock and barrel after bleeding it for so many years. A further check showed that at least one independent director was there for more than 10 years. As we know, independent directors are usually the ones that form part of the remuneration committee. Furthermore, during annual meetings, motions were almost always seconded by the same few persons as in the past meetings and so were comments quickly shot down by the management. The way I see it was that all these years, the company was simply wayang, wayang moving from one business type to another while waiting for a white knight to come along. After all, the people forming the management are getting old and they have no energy to turn the company around. Meanwhile, they continue to draw good salaries. I realized that I had bought a confirmed ticket to disaster. Are the minority shareholder interest protected at all? Surely not.
Certainly, I need not have to say much about the stock price with a company like that. It was $5 during the good times, and was $2 was I re-purchased it, and then it tanked to around 10 cents after the huge rights issue. If only I had read into the fundamentals, I would have painfully cut loss or simply just not do anything. My loss would have been, at most, a few thousand dollars. My big mistake was that I keep on averaging down while praying that the stock price would turn around. Just like many gamblers did, I did not simply average down, I bought more than our original holdings in hope to quickly breakeven, but somehow the tide was always against me. The descent was steeper than what I could average down. I also found it got more and more difficult to average down because of the increasing stake when it was on its way down. I did manage to sell some when the stock price blipped up temporarily, but the realized gain was simply too insignificant to offset the unrealized loss. It went on a long time when I suddenly realized that the hole was just too big to patch. It had already lost 90% to 95% of the value that I initially bought. Selling off at this time would not lead me anywhere and averaging down is not the answer for such a stock. Furthermore, I was too focused on this loser that I missed out many winners out there. I had lost a lot in terms of opportunity cost.
So, for many years, I had been sailing on a pirate ship without realizing it. Summarizing the whole episode, the management took the company as an ATM to draw their huge salaries. The minority shareholders were bearing the business risks all because they made bad and lousy business decisions. And, yet as a minority shareholder, I have no say in the company affairs. Do you think one should continue to be vested in the company stock? After all, the company founders have recovered all their capital from the IPO and could have even profited greatly from it. What incentives do they have to bring the company to the next level? It all boiled down to the responsibility of the management.
To get out of such disaster, I need to change my mind-set. It is no point in buying and selling stocks that make us can’t eat or sleep at peace. After all, we invest for our retirement or for times that we become incapacitated. Stocks must withstand a passage of time. Why should we be in the situation that we invest our money in exchange for more problems? Don’t we already have been facing a lot of challenges in our daily lives? To date, all these going back to basic thoughts have been a big blessing in my investing journey. I managed to benefit from the GFC in 2008/2009, averted the penny stocks clash in 2013 and the high yield bonds that still plaque many investors even today and many nonsense investing scams that mushroomed over the past years. Several good stocks have become multi-baggers, and two of them have been bought out and privatized. Sure, good stocks can also tank during financial disasters, but history has shown that they come back stronger when the crisis got past us.
Now, let me add a last paragraph to the mentioned stock in this post. If the above episode on that single stock had not been painful enough, here comes the salt on the wound. Just 2 years ago, the SGX introduced the minimum trading price (MTO) rule of $0.20. All stocks below 20 cents have to be consolidated. I did not know the exact trading price then because it was no longer important to me. It was probably less than 1 cent at that time. Doing a 10 to 1 consolidation had no meaning as it would still be below 20 cents. So, it ended up with consolidating 100 shares into 1 share, which theoretically meant that the stock should be trading at $1 after the consolidation. With the consolidation, the stock became extremely illiquid. The trading volume was low and the buy-sell spread was far in between. Perhaps a lot of investors would have realized by now that for fundamentally lousy companies, consolidation equates to value destruction. The stock price fell to around 60 cents after the consolidation and, by today, it is around 30-40 cents. By this time, my loss is 10 times that of the original loss. However, all these no longer matter because the final value on paper is a very tiny black dot on my portfolio.
So, if you ask me should we average down, my answer is if it is fundamentally lousy stock is …never. Never catch a falling knife. But if it has good fundamentals that can possibly translate to a price upside in future, then perhaps, it may worth a second shot.
Brennen has been investing in the stock market for 27 years. He trains occasionally and is a managing partner for BP Wealth Learning Centre. He is also the author of the book – “Building Wealth Together Through Stocks” which is available in both soft and hardcopy. Analyses of some individual stocks can be found in bpwlc.usefedora.com. Registration is free.