What is it like to catch a falling knife?
One of the golden rules in investing is never to catch a falling knife. Yet when it really does occur on one, most of the time, most investors would enter into self-denial mode and refrain from exiting their investments or cut losses early.
You can term it as a classic investor’s symptom or attribute it to ego, greed and fear of cashing out too early. Whatever the case it is, catching a falling is a very painful experience and investors must not confuse it with the technique of dollar-cost-averaging. In my early days of investing, I made this folly in one of my investments – China Enersave.
About 10 years ago, the renewable energy sector was seen as a hot prospect because of the sky-high fuel prices and the Clean Development Mechanism (CDM) under the 1997 Kyoto Protocol. Many companies were engaged in various alternative fuel solutions and one of them was China Enersave, a Singapore company which operated biomass power plants in China. When I came across the profile of the company, like many novice investors, I was intrigued by the business model and therefore invested in the stock. In my excitement, I threw all caution to the wind and ignored the early warning signs – poor management execution, lack of company’s track record and the high risks of doing business in China.
Enter the 2009’s financial crisis. The company could not fulfill its target of opening 20 biomass power plants in China and was suffering from consecutive years of operational losses. To make things worse, it deviated from its business goal and switched to investing in a coal powered plant in China. Not surprisingly, the stock price started to fall but still, I kept faith and continued to accumulate more shares. I thought with a strong backer like the Dubai Sovereign Wealth Fund, nothing could go wrong. But apparently I was dead wrong!
To cut a long story short, the company was too ambitious and faced difficulties repaying the debts used for the business expansion in China. As a result, it issued several rounds of rights to raise funds to repay the creditors. Eventually it faced the prospect of winding up on at least two occasions because of the massive debts incurred. But incredibly, it was saved by white knights time and again and changed its business directions twice. The company changed its name from China Enersave to YHM to Charisma Energy. Arising from these changes, there was also changes in the management.
On looking back, some of my stupid mistakes included:
1) Being too stubborn and not setting cut-loss price level. I was too emotionally attached to this stock and refused to admit that I made a mistake.
2) Not doing enough research on the company’s capability, experiences and the risk involved behind the technology.
3) Confused dollar averaging cost with catching a falling knife. The former, if done correctly on a company with strong fundamentals, can reduce investment costs while the latter can cause severe wealth destruction.
4) Based my research on one year of company’s financial statement when I should have at least 5 years of data to validate my investment thesis.
5) The company had no moat sources – intangible assets, cost advantage, network effect, switching costs and efficient scale. So it is easy to suffer losses when the renewable energy concept failed to pan out.
I have not sold off my investments in Charisma Energy but had written off the invested amount of $9000. I regard this amount as a form of tuition fee to remind myself never to make the above mistakes again.
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SG Wealth Builder
2 thoughts on “What is it like to catch a falling knife?”
Good learning experience there.
Thanks for sharing.
Hi SG Wealth Builder,
Ouch. That sounds very painful.
I lost about 50% with Noble Group from 2011-2013 too.
Did not know what I was doing then, just blindly followed analysts reports.
Really pay school fees.