July 17, 2015
Good companies issue good stocks!
There’s a strong relationship between good companies and their stocks. That’s why some of the most successful investors rely almost exclusively on picking good companies for investment (ref. 1). Conversely, companies on the verge of bankruptcy are very risky investments. Some investors don’t understand this. Case in point was the declaration of bankruptcy by Lehman Brothers. After Lehman declared bankruptcy and its stock was delisted from the New York Stock Exchange, some investors continued to trade Lehman’s stock in the over-the-counter market at pennies per share; it was a big loss for them.
1. Growing Rich with Growth Stocks, by Kirk Kazanjian. New York Institute of Finance, Paramus, ©1999.
April 18, 2012
In March, 2008, Goldman Sachs (GS), Bear Stearns (BSC), and Lehman Brothers (LEH) were brand-name investment banks revered by investors around the World. I had no particular interest in any of the banks until the surprising collapse of Bear Stearns. Bear Stearns’ portfolio was overexposed to ‘toxic assets’, a problem that I didn’t understand at the time. The following series of events fueled my interest for investing in distressed companies:
- March 14, Bears Stearns’ share price fell by 50%.
- March 15, JP Morgan Bank agreed to buy Bear Stearns for $2 per share.
- March 18, I bought a thousand shares of Bear Sterns at $6.56 on speculation that the stock price would rise.
- March 24, I sold all shares at $9.85. The $3,000 profit was intoxicating!
The news was out that Lehman Brothers Holdings Inc. was overinvested in toxic assets and unable to pay its obligations, similar to the Bear Stearns story. Lehman was a big, famous financial services firm about which I knew very little. Lehman’s leverage ratio (Assets/Equity) was an astoundingly high figure of 28/1; but the other investment banks also had high leverage ratios. At least one financial news reporter touted CEO Richard Fuld as a skilled manager who could guide Lehman out of trouble. Henry Paulson (Secretary of the U.S. Treasury) and Ben Bernanke (Chairman of the U.S. Federal Reserve) made encouraging statements to the effect that Wall Street’s investment banks were ‘too big to fail’. I was one of probably many investors who thought that Lehman’s discounted stock price was a very good deal. On April 1, 2008 (April Fools’ Day), I began buying shares at slashed prices in belief that the Government would bailout the company if necessary. Chart 1 (below) shows that I accumulated a large volume of shares while the share price declined from $45 to $25, then to 50 cents.
During the black weekend of September 15, 2008, Secretary Paulson withdrew any hope of Federal financial support for Lehman Brothers and the bank declared bankruptcy. Lehman’s stock was promptly delisted from the New York Stock Exchange and its trading symbol changed from LEH to LEHMQ in the over-the-counter market. Chart 2 (below) shows that I amassed a $45,000 capital loss during the 6 month period and was forced to sell my remaining shares at 15 cents apiece about 2 weeks after Lehman filed for Chapter 11 bankruptcy.
TOP LESSONS LEARNED:
- Don’t invest large amounts of money in one company
- Beware of leveraged companies; invest in financially healthy ones.
- Don’t trust the government to bail out troubled companies