Beware of 'picking up pennies in front of a steamroller'; Combining value and growth investing to catch 'inflection points'; Touring Edinburgh
1) "Roaring Kitty" is at it again...
Keith Gill – better known by the "Roaring Kitty" moniker on social media platform X – ignited the initial massive run-up in meme stock GameStop (GME) in early 2021.
Then last month, he posted on X for the first time since June 2021. That sparked a big move in GameStop and some other meme stocks, which I discussed in my May 14 e-mail.
And just over this past weekend, Gill posted a screenshot on Reddit showing that he owned 5 million GME shares and 120,000 call options tied to the stock.
That sent GameStop soaring as much as 75% yesterday. The stock ended the day with a 21% gain to close at $28 per share.
This reeks of possible market manipulation, so I was glad to see this story in the Wall Street Journal yesterday: E*Trade Considers Kicking Meme-Stock Leader Keith Gill Off Platform.
It goes without saying that sensible investors should avoid this stock at all costs – that's not the reason I'm mentioning it today.
Rather, it's a good opportunity to once again warn my readers about the perils of what's known as "picking up pennies in front of a steamroller."
The phrase is often associated with Nassim Nicholas Taleb – the author of the influential 2007 book The Black Swan: The Impact of the Highly Improbable.
This phrase describes investments in which there are small, steady profits, but also the risk of catastrophic losses. In reality, that makes these seemingly safe investments highly risky (I gave four examples in my January 20, 2023 e-mail).
It was for this reason that I noted in my April 14, 2023 e-mail that folks who were short Digital World Acquisition (the old ticker was DWAC) – the SPAC that merged into Trump Media & Technology Group (DJT) – were better off exiting the position. As I explained at the time:
[Anyone] who's short the stock at today's price [it closed that day at $13.12 per share] will pocket a gain of $3 per share, so why not stick around?
Because "almost certain" isn't the same as "100% certain" – and, as we've seen, this stock can trade almost anywhere, totally disconnected from its fundamentals.
I'm wary of picking up pennies in front of a steamroller, which I discussed at length in my January 20 e-mail.
No matter how likely the outcome, it doesn't make sense to risk losing tens of dollars (and possibly more than $100) per share to make $3...
Sure enough, to my surprise, the merger went through... and the stock soared.
DJT shares closed yesterday at $46.74 (and had spiked even higher than that earlier this year), so anyone who stayed short to collect a few pennies eventually got crushed by a steamroller.
It was due to similar fears that I removed GameStop from my "Dirty Dozen" list of stocks to avoid in my March 23, 2023 e-mail when the stock was at $22.58 per share.
While my timing wasn't ideal – GameStop fell to as low as $10 per share earlier this year – I didn't want to stay bearish on a stock that could suddenly spike... just as it has done since then.
I'll say it again: Don't try to pick up pennies in front of a steamroller!
2) Continuing my recent discussion on combining value and growth investing...
(In case you missed my first four e-mails in this series on the foundational principles of successful investing, you can catch up on them here, here, here, and here.)
If you correctly identify great companies that grow strongly – and buy their stocks at anything but the most extreme valuation – you'll do well with your investing.
But if you really want to make a lot of money, you need to buy the stocks of such companies when they're out of favor and the valuations are reasonable (if not downright cheap).
The key is to find long-term growth companies whose earnings have temporarily flatlined or declined, which can lead to massive stock sell-offs as investors apply a low earnings multiple to depressed earnings.
Then, when earnings recover, those folks who were clever and courageous enough to have bought anywhere near the bottom benefit from both the rising earnings and a higher multiple... which can often lead to multibagger returns.
The goal is to be patient enough to catch what I call an "inflection point."
I'm not talking about waiting for a market correction – I'm talking about individual stock corrections. These are typically driven by changes in sentiment toward the company or sector... or the company experiencing a short-term hiccup.
An inflection point in a stock occurs when the consensus view is that the company will continue to stagnate or decline, but instead it grows.
They are difficult to identify – but you don't have to be exactly right. As the saying goes, "It's better to be roughly right than precisely wrong."
If you believe a company/stock is at an inflection point, then you have a "variant perception" – a belief that a company will perform much better than most investors expect.
But having a variant perception is easy – you must also be right!
To have a correct variant perception, you must have a unique piece of data, insight, or analysis.
This is much more likely to happen if you're in your sweet spot – a country, market, or industry in which you have deep knowledge, experience, and relationships.
And this typically requires a lot of hard, focused work – often over multiple years or decades. And keep in mind that it's easy to be the sucker at the poker table – avoid this at all costs!
Here's an example of the first inflection point I caught in my career: the A-class shares of Berkshire Hathaway (BRK-A) at the peak of the Internet bubble in March 2000.
A few years earlier, I had started studying Warren Buffett, his late business partner Charlie Munger, and the company deeply (and never stopped – I've now been to the past 27 annual Berkshire meetings).
So back in March 2000, investors were dumping value stocks. They were dumping Berkshire in particular, despite its solid operating performance, because it was run by an investor perceived to be an out-of-touch dinosaur.
I was buying the stock all the way down and took the position up to 30% of my nascent $4 million hedge fund on the day it bottomed (and, not coincidentally, the day the Nasdaq Composite Index peaked) on March 10, 2000.
It was a big bet, but I was confident in three things:
- Buffett was (and is) a brilliant investor,
- Berkshire was (and is) a great company, and
- The stock was trading at its value of cash and investments, so you got all of Berkshire's operating businesses for free.
Of course, Buffett had the last laugh, as Berkshire rallied more than 50% within a couple of months (and the Nasdaq ultimately fell by nearly 80% over the next two and a half years).
Take a look at the below slide from my 2018 presentation on my "make money" investing approach:
I'll be sharing more examples of catching inflection points in future e-mails, so stay tuned!
3) Greetings from Edinburgh – the capital of my "homeland" of Scotland!
I'm only half kidding, as the regional distribution for my genetic background is 38% Scotland, 35% England and Northwestern Europe, 26% Ireland, and 1% Norway (according to a test I did with Ancestry).
Strangely enough, despite having been to 86 countries, I had never been to Scotland (or Ireland), so I'm filling the first of those gaps for three days this week...
After flying to London Saturday night and spending the day in the city on Sunday (see my Facebook post with pictures here), my parents and I took a high-speed train to Edinburgh on Sunday. So yesterday, we spent the day touring this beautiful, historic city.
We started with a lovely, vigorous hike to Arthur's Seat – which offered marvelous views of the city – took a tour of historic 3,000-year-old Edinburgh Castle, and then took an underground tour of the old city dating back to the 16th century (the current city was literally built on top of it).
I'm very lucky to have 82- and 83-year-old parents who can do more than 20,000 steps in a day! Here are some pictures (I posted more on Facebook here):
Best regards,
Whitney
P.S. I welcome your feedback – send me an e-mail by clicking here.