After building an investment case, we might sometimes start to doubt it. This can be induced either by a sharp fall in the stock price, as determined by other market participants, or by something material that has changed with the underlying company, drastically reducing the cash the company will generate for us in the future.
All a company is worth today is really the discounted sum of its future cash flows.
We ought to remind ourselves of this fact, especially when the stock price is falling drastically. Stay calm and analyse the facts:
In times like this, we ought to review our initial theses and assumptions, and update our valuation model with our most recent estimates. Then, eagerly seek out disconfirming evidence, listen to those who are eager to sell out of their positions and try to see from their point of view.
If we find that the opposing arguments are irrational, short-term, or emotion-based, then it’s time to scoop up a few more shares.
Without this thorough analysis, selling out of our positions simply because the stock price is dropping does not bode well for long-term success in the market.
To “get rich”, we must have a repeatable formula for success. Here’s a thought experiment — suppose a man invests $100 and gambles all that on speculating in the markets. He does well once and doubles his money, starts getting complacent and brags on the internet about how much he has earned. He tries speculating once more with the now $200 and doubles his money again. He begins to gather quite a following—everyone, including himself, starts to think that investing is an easy game. Over a short period of time, he has doubled his money twice, received praises from his friends, family and internet strangers, and he feels that he can do no wrong. But his reason for success (mainly luck) becomes the exact reason for his downfall. He begins to believe that he just needs to “HODL” and his money will eventually recover, breaking new highs. Precisely because he didn’t understand the source of his success (luck), he doesn’t understand how to keep it either. A short while later, he commits all his money once again on a speculative bet and loses all his money.
As investors who think long term (which, as explained in another post, is where we can at least find some comfortable predictability in this mostly unpredictable market), we might sometimes be put off by investors who brag about their YTD percentages, insane sharp increase in stock prices, or the few speculative positions that they did well in without mentioning the many others they lost money in. We should always remember that what is hardest to gain by luck is an investor’s 3-5 years (or longer) performance, and we should stay focused by being undeterred by other people’s ego outbursts.
P.S. If you have read this far, I’m building a website to help long-term investors focus on thinking long-term and remove the noise filled with emotion-driven thoughts. The goal of this platform is to be the first place we go when we are thinking of studying, buying, or selling a stock—to help us stay informed, perform in-depth analysis on company matters, and serve as a centralised platform to gather and promote the best investment ideas or theses from the broader investment community (the more popular investment ideas will naturally receive the most views and most criticisms).