Stock lesson V

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I’ve covered the “buying” in my last post. I want to add a little more about “buying” here and then jump into “selling”. I think the quality of the stock (a company business, especially the management and the moat) is more important than the price itself in the long term. 

For the managment of a company, I like to see a team of experienced, growth minded and honest people (remember Enron and WorldCom). As for the moat, it’s something Warren Buffett likes to emphasize), basically it’s the competitive edge of a company. For example, it’s difficult to break into cola market because Cokecola and Pepsi have established in the market very well. On the other hand, Google broke into the “web search” market because a few years ago Yahoo did not pay enough attention to this technology. Besides great product and service, good customer relationship is also important. Buying a stock of a good (solid) company gives you more “margin of safety”. Even if sometimes things go wrong, say a company missed a quarterly earning because of a one time event (say, Coke messed up with their product and made customer unhappy). They ususally recover from it later on, because of the good management and moat.  

Jump to the “selling”. I think “selling” is more important than “buying” probablly because we as consumers know more about “bargain hunting” (buy low). Many times I made the money on the paper, but I did not sell it at the right time to realize the actual gain. I believe this what happened to many “paper millionares” in the dot com era. By that I mean for many Internet stocks, it got a pop shortly after IPO (from a day to a few quarters), and we should at least realise some gains if the stock had a great run. In Fall 2004 I bought some at $26, and it went up to $32 on first day. At that time, I was hoping it pop to $36 (note is IPO priced at $18). It never got to my target price and after up and down for a few cycles, I got tired of it and sold it for a very small profit.

IPO stocks are not typical (more speculative than other stocks). But I have made mistakes on other stocks too: I sold a good stock too early. In Fall 2005 I bought some Yahoo and it came out with a good earning report, I was so excited and sold it on the second day. It went up from $34 to more than $40 after I sold it. So the mistake here is “lack of patience” (interestingly, I had too much patience for the I mentioned above).

It’s easy to sell stocks when a stock is making you money (or at least not losing money). Sometimes we got to sell the stocks at a loss. That is when a company’s fundamental (financials and business prospects) changes. We need to distinguish it from a one time event. In Summer 2005 the Ninetowns digital (the worst IPO stock I bought) came out with news that it’s customers are getting a free version of software and they are changing the business model from licensing to service (software business is still very tough in China these days, see this artile from SeekingAlpha). In plain English, they are saying their chicken have also beeing killed, and they are not going to getting any eggs. Meanwhile they are going to raise some cows and see if that will work.

On the other hand, sometimes a stock could drop a large percentage and its fundamental is still intact. In Winter 2005 Netease, the online gaming comany, missed a few cents in its Q3 earning and was cautious about 4th quarter. Its stock dropped from $81 to $60. And It scared many people including me. A few quarters’ later, it went back as high as $100 (consider the 4:1 spit adjustment). So the lesson here is don’t be scared, because the sky is not falling.     

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