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Speculative play on bad news

I rarely share about speculative activities on BigFatPurse because I do not want to encourage readers to speculate and lose money in the process. However, I do have the urge to share some of my speculations in this post. Again, I emphasise the purpose of this post is to share my experiences and not to encourage you to participate.

Crashes and ‘mini crashes’

We know that stock market crashes once in many years and it is very profitable if we can all buy near the lows. Stock market crashes because of fear and prices become irrational. And because prices are irrational, there is an opportunity to reap good returns when prices return to normalcy. However, it takes a lot of patience to wait for the crash. Your greed will be challenged when your bullish friends are boasting their returns while you sit on cash. Is there a way to play ‘mini crashes’ or irrational pricing in stocks? As I asked myself that question, I saw opportunity in picking stocks that are hit by depressing news. The media does a very good job in instilling and fuel fears in investors to bring down stock prices by proliferating bad news about companies. Of course, these companies deserve to have lower stock prices, but the key is what should the fair price be before it becomes irrational.

I would like to share a few examples now.

Olympus

About a year ago, Olympus was hit with bad news. Michael Woodword, the CEO of Olympus, exposed the $1.7 billion loss which the company was hiding. He was sacked almost immediately after questioning the board. Once the news was in the media, Olympus stock price tumbled. GIC also reportedly sold 2% stake. They continue to uncover all the dirty secrets of how Olympus bought small companies just to write off their debts. With these circumstances, how many would want to invest in Olympus. I am not interested in Olympus’s future, but I do see the selling is overdone with the negativity around this company. This is a ‘mini crash’ if I can describe it this way. I tried to find some fundamentals to see if I can value the business or at least see if their profits are still sound. I found out they dominate the supply of endoscope and I find comfort in that. Note that I say “I find comfort”. Actually nothing matters in such trades because there are too many unknowns. One just need the guts to act.

I asked myself how much I was willing to lose. $5,000 was the answer. So I bought 400 shares of Olympus at 740.40 yen on 16 Nov 11 (a month after the scandal was exposed. I used CMC so there is some market making there of 0.40 yen). I did not have a stop loss order as I was prepared to lose everything. The stocks rose as people got tired about the scandal. As my profit grew, I began to put stop loss to protect my profits in the event it drops again. It finally hit my stop loss on 14 Dec 11 at 1,224.30 yen. I ended up with a 65% gain.

You can see it is a pretty short trade of about a month. The stocks continue to remain sideway until today. And the 65% gain does not seem to be obvious from the chart. The amazing thing is when you buy something at a very low price, it is easier to make large gains.

Sony

Given the jubilant success in my first venture into depressed stocks, I look out for the next one that hit the news. This time was Sony. Unlike Olympus, it was not a scandal. But a report about the change of CEO – Howard Stringer was replaced by a Japanese (Stringer became the Chairman subsequently). The news also presented a negative view about the company, saying Sony stock price had fell 50% since Stringer took over as CEO. Not as negative as Olympus, but I still bought 220 Sony shares at 1500.80 yen.  The price went up and I put a stop loss to protect my profit. I got out even after it hit my stop loss at 1,520.20 yen two months later. On hindsight, I would have lost 50% of my money if I continue to hold on to Sony till today.

Research In Motion

Iphones and Galaxies are hurting the once mighty Blackberries. Research In Motion (RIMM) is the maker of Blackberries and their stocks have been tumbling as people chase up Apple shares. Apple was made the largest company based on market capitalisation. On 22 Jan 12, COO Thorsten Heins succeeded co-CEO Jim Balsillie and Mike Lazaridis (they were the founders). The company was on the brink of burning cash as operating profits were insufficient to pay for expenses. The new CEO’s objectives were to slash costs in the short term, and launch Blackberry 10 to bring the company back to business. I bought 300 RIMM shares on 22 March 12 at 14.14. The CEO slashed costs by cutting staff and other operating expenses but BB10 was delayed quarter after quarter. The stock continued to go down for months until I was 50% in the red. For such trades, I am willing to lose it all so I did not have stop loss at the initial stage. It was flat around $6-8 for a long period and it would have been a better entry. RIMM rocketed in the past month back to $12. Timing is so important (as with the previous two examples) as I would have a double figure paper profit if I entered later. But nobody knows and I have to accept it. We will just have to see how RIMM will go until the release of BB10 in the next quarter.

A risky business

Such speculations are very dangerous. It can either make you rich or poor, provided you put up a meaningful stake. No form of analysis is fool-proof as the uncertainties revolving such companies are just too high. The central thesis about these trades is that the prices are irrational due to the bad news hitting the companies. It is like the ‘mini-crash’ that I described earlier. Some companies may never survive like Lehman Brothers and Bear Sterns. You would have struck gold with AIG though. Some of the companies in the news now are Asian Commercial Bank (arrest of the Founder by the Vietnamese Government) and Hewlett Packard (accounting fraud).

Speaking about meaningful stake, I learned that Goldman Sachs entered the same trade into Olympus. In 8 days, they realised a profit of US$1.8 billion even though it was just 18% gain (compared to my 63% gain). It takes a lot of guts to go for the jugular as Soros said. Do you have the guts? I do not have such guts as far as I know and I believe most of us do not. This is why investing passively is still the best way for ordinary people.

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Founder of BigFatPurse.com and author of Secrets of Singapore Trading Gurus. Loves the financial market. Curious to find out what work and what doesn't work in investing.

(2) Comments

  1. Hi Alvin,
    just happened that I am also having the same though went screening through OLAM :)

    Just cannot decide when to enter….

    Good write up young man!
    Guess you have a great vacation in Japan.

    Regards
    Jasper

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