Warren Buffet’s first rule of investing is:
Don’t lose money.
Warren’s second rule of investing is:
Never forget the first rule.
Well, as an avid equity investor, I can attest that Warren’s rules are not so easy to follow.
This year through a number of losses, I have learned some remarkable lessons that helped me establish my own set of rules. The first lesson that I learned is:
Learning lessons in investing is extremely expensive.
When my year began, I, like most equity investors rode the wave of an upward trending market. But concerned that the trend could turn on a dime, I positioned myself to capture what I thought would be an eminent downturn. So, I bought Puts on the S&P.
By buying puts, I would make money if the S&P reached a certain level by a certain date – in this case, that level was far lower than the direction in which the market was heading. But I had a view and based on the trends of previous years, believed that there would be at least one opportunity to make money. And I was right.
In fact, I actually had two opportunities to make money – and quite a bit of it given the exponential gains (and losses) that leverage provides. BUT unfortunately, I did not make money. On each occasion, I became greedy in thinking that I could make more money, by waiting for the next opportunity. After the second time, the opportunity never came again, and I lost money, OUCH. This brings me to Lesson Number 2:
Pigs get slaughtered.
My second major loss of the year occurred just last week – and my head is still reeling.
A few months ago, I bought a stock of a biotech company, which developed a drug to treat Muscular Dystrophy. For six months the stock climbed steadily. But in July, the drug failed to display the desired results during its Phase 1 trial, and the stock dropped 30%. This wiped out all my gains and put me in the red.
But support for the drug was strong as parents of sick children lobbied in Washington. The stock began to rise and I was once again in the black, with a profit of 20%. I sold and took my gains. Nice!
After nearly losing money, I took another look at the company. I realized that the company’s entire drug pipeline consisted of only this one drug. If this drug ultimately fails, it could deliver a fatal blow to the company. At that moment, I realized, just how lucky I was to have sold, when I did.
Two weeks later, a reputable investment bank published a favorable research report on the company. I read the report and became excited and starry-eyed – and just like when old boyfriend wants you back, you don’t really think about it, you just go. And so, I bought back into the stock.
And once you are back in that relationship, you are reminded of why you broke up in the first place. Then the relationship begins to unravel again. That’s exactly what happened with this stock. Last week, the FDA said that more work needed to be done and warned the company not to apply for FDA approval. The stock had its worst day in its entire history – down 70%. Lesson 3:
Invest with your head.
The investment decisions that I’ve made demonstrates the binary nature of my investment strategies. These strategies are highly volatile with a great deal of financial risk. I do believe however that these strategies teach me more about investing than low risk, conservative stocks. But I also do think that if I had a nickel for every lesson that I’ve learned, somehow, I think I would be broke.