Averaging Down

In 2011, Radioshack was trading at a single digit P/E. It was participating in the “mobile” wave, and sported a superficially healthy ROE. I bought the stock at $15. As the stock price declined, I took a second bite at $6. I thought the market was overestimating the odds that RSH would be zero. Saj Karsan, a blogger who I respect, seemed to think so.

Not long after, I unloaded the entire position at prices between $3-$4. I lost about 2/3 of the originally invested capital.

In 2012, I bought Prosafe SE (PRSEY) at $7.50. Its historical stability, and high dividend seemed attractive. Adib Motiwala, a money manager I followed, had endorsed it. As oil prices declined, I took another bite at ~$4.50. By the time, I realized that oil prices might not snap back right away, and sold my position, I had taken another haircut worth 2/3 of the capital deployed in the position.

Finally, Weight Watchers. I bought it over 2013-2014 at an average price of around $24. It had fallen nearly 70% from a high of $80 in 2012. I did not know much about WTW, before Geoff Gannon who writes a superb blog, mentioned it. He and Quan put out a compelling writeup, explaining their case. In 2015, WTW slipped below $4/share – an 85% loss on my buy price. Since then it shot up to $26 (where somebody smarter would have sold), and retreated back to $12. I am currently sitting on an unrealized loss of  ~50%.

I thought about these three investment mistakes, as I read John Hempton of Bronte Capital share his thoughts on averaging down a stock. There are useful lessons to distill from his post, and my painful experiences.

In all three cases (RSH, PRSEY and WTW), leverage was a serious issue. Leverage can make a stock go to zero, if the underlying business falters, even temporarily.

Lesson #1: Don’t buy a levered business in decline

In all three cases, the endorsement of someone I admired made me more reckless than I would otherwise have been. No, I don’t blame these people for being wrong; on the contrary, I am thankful that they share their good and bad ideas so freely.

Lesson #2: Ask “am I buying this primarily because someone I admire likes it?”

In the case of RSH and WTW, pressure due to new technology (Amazon and MyFitnessPal, respectively) was a contributing factor.

Lesson #3: Don’t buy businesses that can be rendered obsolete by technology.

Many/most businesses are susceptible to technological obsolescence, even if we can’t see it at the time. For some, we can can see – in relatively high-resolution – how its core will be disrupted in a short period of time. Those are the bets to be cautious about.

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