Investment Contrarians

Big Investor Mistake: Trying to Catch a Falling Knife

By for Investment Contrarians |

One of the common investor mistakes that occur quite often is trying to catch the bottom in a stock… or trying to catch a falling knife, as some might say. Many companies go through periods of being up and down financially, with the market sentiment causing stocks to rise and fall. Investor mistakes occur when people believe a rebound might occur when there are significant hurdles for the companies to overcome. A great example of trying to predict a change to the market sentiment before the time is right and of investor mistakes along the way involves two cell phone makers, Research In Motion Limited (NASDAQ/RIMM) and Nokia Corporation (NYSE/NOK).

Nokia recently announced layoffs of approximately 10,000 people in an effort to try to change the market sentiment of the company. Nokia used to be the largest cell phone maker in the world, but has seen a massive fall from grace and is now incurring losses. With the cash pile being burned on an increasing basis, it appears that if things don’t change, the company could run out of cash by the end of 2013. Many have made common investor mistakes like buying Nokia earlier in the year purely based on the dividend yield. However, they would have lost a lot of money, as we’ve seen a continued fall in the stock. In fact, it’s now trading at just over $2.50, down from a 52 week high of $7.38. Back in 2007, the stock was trading over $41.00.

Research In Motion (RIM) has gone through a period in which it had over 40% market share of the smart phone market. The latest numbers by IDC have the “BlackBerry” maker at just over six percent of the smartphone market. As this dramatic fall has continued over the last few years, many people have made several common investor mistakes, such as believing that each time the stock has stopped going down it was a buying opportunity. I personally know people who have bought RIM all the way down from $80.00 a share. The current price is just over $10.00 share.

What is common amongst these investor mistakes? Even though the market sentiment is poor, investors believe they could predict the future. That is one of several investor mistakes that are part of human nature. People think they’re smarter than other investors and step in before all of the information is known. If we look at both situations, we see the same scenario in which market share is declining, profitability is declining, gross margins are declining and the products are not cutting-edge but rather behind the curve. I can go on with numerous investor mistakes, but I’ll just say they all have in common the idea that the person believes they’re smarter than the market. Investors start to “hope” for an outcome, rather than look at the evidence in an objective light.

Why would someone believe that something has changed even though all of the quantitative data suggest otherwise? RIM is a great example of this error, as management at the BlackBerry maker has, until recently, believed that the company was somehow better than any other cell phone maker. The company management team stopped innovating and started to put their feet up and enjoy their large market share. That type of arrogance and hubris always damages the long-run future of a company, especially in this world of technology where the landscape now changes on a daily and monthly basis. To avoid common investor mistakes, understand the industry, product, and corporate structure fully. This obviously is not an easy task, but then making money is never easy.

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  • paul m sykes

    There is a very important lesson to be learned here..being paralyzed by strong institutional beliefs ..they have to use the big turn around
    of IBM by a rear breed as Lou Gerstener…
    paul m sykes

  • Kone Zi

    Yes, but if you bought Nokia around $3 like I did, when it really bounced from the bottom, it's not a bad idea. At certain point, it becomes absurd the valuation of a company is so low that it lower than the intrinsic value of just one of its part, and the sentiment is extremely negative with no sound reasons, that's usually when it's right to go in.