2007 Investing Mistakes

by Davy Bui, posted 01/07/2008

I think financial publications should only charge you for 50-weeks in a 52-week subscription because the year-end issues are a wasteland. First, the year-end recap where they review the major events, most of which they failed to prepare their readers for. Then, there's the issue where every columnist talks about all their great calls (most of which weren't that great). Alas, that's the self-promotional society we live in and I'm guilty to an extent.

To that end, if you want to know whether I made any good calls, check the portfolio page. And if you want to call it blind luck, well, obviously, I can't believe you but I can't argue with you either because statistically speaking, you're probably right -- most people don't beat the S&P 500 on a consistent basis. I've always warned readers to read my postings while keeping in mind that I may lose all my money. So you'll have to judge my calls based on the reasoning.

Now, I don't know of anyone who improved their game and got better by watching their own greatest hits compilation and patting themselves on the back. Our mistakes and failures are where we learn and grow and I've learned to embrace this, even to a fault (just ask my former bandmates or campaign colleagues -- I'm a glutton for self-flagellation). So without further adieu, my biggest investing mistakes of 2007 in no particular order. I'd estimate that these mistakes cost me at least 10-15% returns during the last year.

Lacking the Courage of My Convictions

I'd have to say that in the majority of situations I examined, my reasoning was sound. But I failed on MANY occasions to act on it. During the first market drop at the end of February, I engaged in some nervous activity, trading around with GE and generally letting emotions get the better of me. From that time, I decided that I needed to write a report on every investment (which I now publish on the site with a delay) so I could fall back on my reasoning in black and white when market waters got rough. But even then, I struggled to maintain confidence in my judgement.

Probably the most obvious case of this would be Telefonica (TEF). I somehow managed to talk myself out of this position which is ok when conditions change but the disappointing aspect of this decision was that it was based on no new information. All the reasons I gave for selling the position were noted in my initial report but I bought the stock anyway. Yet somehow, I lacked the confidence to follow through. My punishment? Watching the stock rocket through my conservative intrinsic value price and hit my best-case IV price.

Not Being Prepared

The will to win isn't as important as the will to prepare to win. This quote comes out of the Ultimate Fighting Championship and obviously, when you're in a cage with some musclehead looking to knock your block off, you definitely want to win. But if you haven't done the work beforehand, a favorable outcome is unlikely.

At times, the market will give you a golden opportunity to get in (or get out) but in today's information age, the moment can be fleeting. I can't tell you the numerous times that a stock's fallen into my "attractive zone" and by the time I've downloaded the various annual reports and presentations, the market marks it back up. Or in the case of Teck Cominco, the market valued it at intrinsic value and I wasn't prepared to make a sell call on it and have watched it drop all the way through where I first bought it.

But here I am confronted with one of the inherent difficulties of value investing: the time it takes to accurately gauge a company's value. Digging into the numbers, picking up the company and rolling it around in your head takes time. Mohnish Pabrai says it takes him a couple of days. It usually takes me a week to get comfortable with making a decision on a company and its stock. To make things worse, I don't like to spend a week researching a company that I won't buy so there's an inherent bias toward buying the stock before I start the digging.

Additionally, my screening method is fairly haphazard. Sometimes I'll check magicformulainvesting.com to get ideas. Or I'll scan the 52-week low list. Maybe another week, I'll get an idea from Chuck Jaffe's show or from some analyst on TV. Many weeks, I'll put a company mentioned in Barron's on my watchlist and check it in a month (after the Monday bounce was worn off). All in all, it's fairly random. I think my major task for 2008 is to develop a systematic method of culling stock prospects and researching them so that if they fall into my wheelhouse, I'll be ready to make a decision as opposed to watching the stock pull away while I'm reading the annual report.

Ego

I have some fairly basic macro-themes that anchor my current investment strategy: resource scarcity, inflation, etc. These calls have been spot on and additionally, you could find some incredibly cheap stocks in these arenas (and still can). But with as much time as I spend on playing the stock market, my ego creeps in. This is pretty stupid and irrational -- after all, who cares about ego as long as you're making money but I needed to feel like I'm not wasting my time and if it's as easy as buying gold and oil, why don't I just buy some ETFs and call it a day? I guess, after reading so many investment books where authors detailed their umpteenth so-cheap-it's-criminal stockpicking prowess, I just had to feel clever myself.

So I started targeting other areas for investment, which isn't bad in and of itself, except that I was somewhat ignoring my themes. I distinctly recall a period in the summer where the market seemed expensive (having hit 14,000 on the Dow) except for gold and gold stocks. Instead of loading up on precious metals (which would have been too easy and too profitable), I decided to make it hard on myself. Instead I wound up with Telefonica and Johnson & Johnson along with a few gold stocks. While TEF and JNJ weren't bad picks at all, if I had just kept ego out of it, those additional gold stocks would have returned 20-80% in 6 months.

I think an underlying driver behind all these mistakes is how prominent a role emotion and investor psychology play. I've always asserted that investing is simple (but not easy) and that knowing the right thing to do and doing it are two entirely different propositions. 2007 has only reinforced that view in my mind. To that end, I've picked up a copy of Jason Zweig's "Your Money and Your Brain" book. Maybe I need to bump it up in the reading queue.

The Enlightened American