Finding Opportunity Within Companies in Crisis
By Anthony Rhodes
One of the last things an investor wants to hear about is negative news regarding a company that he or she owns. Such information is usually proceeded by a downturn in the company’s stock value, a loss in the investor’s capital, and, depending on the of the brevity of the information, a decision on whether to keep or remove the stock from the investor’s portfolio. This form of creative destruction is part and parcel to the investment process, and represents an omnipresent risk which all investors must be willing to assume. But some individuals (being consciously cognizant of the nature of human beings) are able to distinguish bad news from terrible news, and use these moments of distress to realize opportunities that others remain simply unaware of.
Like the condor circling the carcass of a dying zebra, these investing scavengers patrol the market on constant alert for companies in crisis. Their aptitude for recognizing whether an entity can withstand the negative press, provides them with an insight with the potential for hefty payouts, while fully taking advantage of the herd mentality, which is such a predictive component of investors, in general.
This methodology will be our focus for this week, as I explain why such an aggressive tactic should be considered as an additional strategy within your investing toolbox. While often being the recipient of negative news themselves, you’ll learn that scavengers play a far more important role in the investment cycle than are commonly given credit for. And after being made aware of the rewards inherent within this role, you just might be willing to proudly proclaim yourself a soon-to-be scavenger, as well.
The Propensity to Panic
Investors tend to be a paranoid lot. Many view negative news about a stock that he or she owns as a reason to part ways with the company, as they generally have large sums of money invested, and would like to keep their losses within such holdings to a bare minimum. This is why you often see sharp selloffs whenever negative news is reported, and is the primary reason why scavenger investors thrive within this environment. These individuals convert this propensity to panic into opportunities to bottom feed, and to purchase those distressed names after their selloff, under the belief that they will quickly rebound once cooler heads eventually prevail.
A Surface Wound, or A Killing Blow?
Without a doubt, the nature of the news being reported plays a pivotal role in determining whether you should scavenge or not. Professional scavengers often have a thorough understanding of most companies’ financials, and are thus able to swiftly diagnose whether the news will have either a short or long-term effect on its growth prospects. For this reason, it pays to do your homework, and to initially ascertain a complete understanding of a small group of companies. As time progresses, more names should be added to your watch list, and depending on the depth of your accrued knowledge (and after fine tuning your strategy through back testing), you should be well-equipped and prepared to scavenge like a vulture!
What goes up must inevitably come down, though the opposite of this saying doesn’t always ring true. Scavenge investing is by nature a risky endeavor, which is why it is seldom employed by traditional money managers, and is normally relegated to the very fringes of the investing community. But despite their reckless reputation, scavengers actually play an important role in facilitating the demand for liquidity within the capital markets. Whether feast or famine, this strategy has the potential to undoubtedly produce large payouts in very short amounts of time, which always makes the search for corporate carrion more than worth while.
(Anthony Rhodes is the President and owner of wealth management firm The Planning Perspective www.theplanningperspective.com )