Borrowed Conviction can be injurious to your Financial Health.
Hope you guys liked my previous two investing stories.
Now let me narrate my third one explaining how Borrowed Conviction ( BC ) can be dangerous. The point is - I am trying to be more on the practical side than on the theoretical side of behavioural biases. This way it will be easier to understand them and AVOID them if possible!
These are my experiences, mistakes and my personal views.
So the third story.
Along with Equity, Debt & Gold, the next asset class is Real Estate(RE). And it's the FANCY of Indians just like Gold. But the major problem with RE is the HUGE initial investment.
Means you can't build it step-wise in the form of SIP in a Mutual Fund or even as instalments in a Recurring Deposit. RE has to be purchased in BULK at the start itself. Another option is partnering with your relatives / friends. But again others may not agree at the time of selling it. So it's an illiquid asset.
But I had the ‘itch’ to own some kind of RE of my own. So what are the options?
Real Estate Investment Trusts (REIT) OR shares of listed RE Players.
For REITs, the capital appreciation may be somewhere around 10-12% and a dividend yield of around 3-5 %. So overall 13-15% returns. But we retailers are GREEDY and want to get rich quickly. So we demand more than 20- 25% returns. So I started looking for listed RE players.
While searching the SM, I came across a webinar on RE players. Going through that webinar, I stumbled upon a stock ( Mind you - The Presenter had clearly stated that he has not invested in it) which has a huge land bank- both commercial & residential ,but trading at significant discount due to huge debt & a possible corporate governance issue. But recently a reputed RE Developer group had bought a significant stake in it. And even one of the biggest International Investment firms had investments in it.
So “Market is Fool” for not valuing it “efficiently" and here is the SPECIAL SITUATION / A TURNAROUND story. We Retailers simply ‘drool’ over such words. This is the EASY WAY to make money.
So I jumped in & bought the share around 180. And as it happens often, the stock starts correcting slowly and steadily.
But now the stock has become my PRECIOUSSS…. So I hold onto it due to the ENDOWMENT BIAS. And as the pain of loss is 3 times more than that of profit, I refuse to sell it. So I succumb to LOSS AVERSION.
When I started searching the SM again to find the reasons for the fall, I came across 2 /3 such people ( whom I follow closely) who are also holding it and are regularly posting about it. So now I come under the influence of AUTHORITY BIAS.
This authority bias lead to CONFIRMATION BIAS. This confirmation bias converted my loss aversion into the SUNK COST FALLACY and I kept on averaging down the stock all the way till 80.
Though I did study the quarterly results of the company, I still avoided selling it not only because of all the above biases but also as the company was outside my circle of competence. So I was not able to analyse the results properly.
And I, along with all others, am still waiting for the pending NCLT result.
But at last, I threw in the towel and sold the stock with more than 50% loss a few months back.
So the lessons learnt.
Basic is to avoid investing outside your circle of competence (COC). The problem is once you buy such a stock, you have to rely on Borrowed Conviction. Once you fall prey to BC, you come under the Authority Bias. You have to blindly follow such authorities. But we can't know their exact entry price and their allocation percentage. And more importantly we can't borrow their OWN CONVICTION.
If you have done the study & investing with your OWN CONVICTION, you have the COURAGE & PATIENCE to hold on to that stock even if it falls 70-80% ( which is a norm if you follow the history of Multi-Baggers)
But when you buy on BC, even a fall of 10 - 20% will give you sleepless nights. And the worst part being, you will fall prey to such a chain of Investing Biases.
So avoid investing on BC. If you find some stock idea very fascinating, take some initial tiny allocation to avoid the FOMO and apply some check-list , study the idea further and then only decide about increasing your allocation in it or exiting even if at a small loss.
Hope you found this story interesting and was able to correlate the interplay of these Investing Biases.
dr.vikas