Remember the trader who told the BBC that “Goldman Sachs rules the world”? This is his column
Our columnist Alessio Rastani is the self-proclaimed trader who shocked the world by declaring live on BBC News that he goes to bed “every night dreaming of the next recession” and that “Goldman Sachs, not the governments, rule the world”. He’s a controversial figure, not least because he’s a self-taught non-institutional trader with no FSA license. But he certainly isn’t shy about sharing his views. Do you agree with his words? (His words are his own, and in no way endorsed by LondonlovesBusiness.com)
A lot has been written about what are considered to be good investment ideas. But I want to reveal to you what I think is the dumbest investment idea ever.
And I’m sure it’s the dumbest, because I believed in the idea, and well, fell flat on my face. I see other people making this mistake even now – with a little help from their broker who is keen to make a commission.
Imagine a company’s stock – let’s call it XYZ – is at £10 per share. You bought it when it was at £15 but because of a recent decline in the global stock markets, the price is plummeting.
You become a little worried. You’ve just lost a whopping 30% of your original investment in XYZ.
So what do you do?
The smart option at this point would be to cut your losses short and sell XYZ.
So you call your broker to instruct him to do so. Except… he tells you that XYZ is now “cheaper”.
“Think about it,” he tells you. “If you sell it now, you will make a 30% loss! Instead, buy some more. That way, once the stock picks up from here and goes higher you will make up for all your losses. Plus, you will actually make a profit on top.”
This type of investment strategy is known as “cost averaging” or “averaging down”.
So you follow your broker’s advice and you buy another one thousand shares of XYZ.
Two weeks later, XYZ shares take another plunge. They are now at £7. The stock so far has lost close to 50% of its value since you bought it.
You stomach starts rumbling in fear.
Your original £50,000 investment in XYZ is now only worth £25,000.
You call your broker.
“It’s fine. If you sell now you’d be at a 50% loss. The market has started looking up. XYZ at this price is an absolute bargain! Buy some more,” he assures you.
Fast forward two months, the stock is now at £5. Buy some more.
Two months later – £3. Buy some more.
And you keep buying more and shouting “It is a bargain!” until the stock goes below £1 per share.
The stock has just lost more than 90% of its value since you bought it. Your £50K investment is now only worth £5,000.
You don’t feel scared anymore, you’re too numb to feel anything.
And eventually you get the ultimate sell signal where you have no choice but to get rid of your shares. Why?
Because XYZ goes bankrupt… Ouch!
I wish I could tell you that the above example was just a story and that it would never happen in real life.
But that, my friend, would be a lie.
Back in 2000, I made this very mistake in the dotcom crash. I bought stock of the aptly named Exodus Communications at $80 a share.
I sat around hoping I’d make some money but all I saw was Exodus sliding all the way to ZERO.
Cost averaging is exactly what I did. Buying the shares as they got cheaper and cheaper.
I repeat – averaging down is not just a bad idea, it is by far the dumbest investment idea on the planet. Anybody who tells you otherwise is lying.
Many people think of the 1929 Wall Street Crash as the time when people lost money as the stock market collapsed.
A lesser known fact is that those people lost even more money by buying shares as they got “cheaper”. The problem is nobody really knew how “cheap” shares were going to get.
So here is a little rule that I swear by and which may help you if you’re tempted to buy a stock just because it got “cheaper”.
If you cannot think of at least three good reasons to own a stock – other than the price – then there is no reason for you to own that stock.
If you can stick to this rule, I bet you will be able to save yourself from a big loss and years of frustration.
It took me years to eventually recover my original investment. Not by cost averaging but by following good investment strategies which protect against risk.
And since then, I’ve been sticking to my father’s advice of “not just learning from one’s own mistakes, but from other people’s mistakes!” Because learning from the mistakes of others is a heck of a lot cheaper!
For further information about trading the markets visit my website www.LeadingTrader.com.
Alessio Rastani gained fame and caused controversy last year by stating live on BBC news that he “dreams of another recession” and that “Goldman Sachs, not governments, rule the world”. The YouTube clip has since been watched over two million times, and Alessio has subsequently been interviewed by figures such as Sir David Frost. His website is LeadingTrader.com.
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