5 investing mistakes to avoid

There is an old saying in the investment business: If you haven’t experienced a bankruptcy, then you’re probably not taking enough risk.
 

Bankruptcy should never be taken lightly, of course. But investing is a business of assessing risk and seeking reward. Mistakes are inevitable.
 

“It is very hard to consistently outsmart the market,” says equity portfolio manager Greg Wendt, who has been a professional investor for 35 years. “Even the most successful portfolio managers are right 55% of the time and wrong the other 45%. At Capital, we have a tradition of sharing our experiences with colleagues: to be supportive, empathetic and to remind them that if they keep working hard, they will get it right again.”
 

For equity portfolio manager Lisa Thompson, mistakes are the building blocks of future successes.
 

“You learn more from your mistakes than your successes,” says Thompson, who has 34 years of investment industry experience. “When you buy a stock and it works out well from the start, that feels great, right? But there is a chance that might be due to being in the right place at the right time. But I find that where I've learned a lot is when an idea didn’t work out or took very long to work out.”
 

In that spirit, five veteran portfolio managers share their investing mistakes and the subsequent lessons they learned.

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1. Beware of story stocks

Greg Wendt, principal investment officer, SMALLCAP World Fund®

Earlier in my career I invested in a cruise ship operator called American Classic Voyages based on a very powerful story. The company had roots in the Delta Queen Steamboat Company, which operated popular cruises up the Mississippi River. Billionaire financier Sam Zell, who saw an opportunity to disrupt the cruise industry, was the company chairman. American Classic Voyages planned to attain exclusive rights to cruise the Hawaiian Islands through a protectionist U.S. maritime law.
 

I looked closely at the tourism dynamics for Hawaii and the cruise industry in general and recognized there would be strong demand for these trips. The company raised all the necessary capital, hired a dream team of managers, and began building the cruise liner at a Mississippi shipyard.
 

Now at the time, a cruise ship had not been built on U.S. soil in more than 25 years, but the shipyard had extensive experience building military vessels. What could possibly go wrong?
 

Well, it turns out that recapturing industrial skills once they are lost is not so simple. The multibillion-dollar effort to build the ship failed, and for this and other reasons the company went bankrupt. It never occurred to me that you couldn’t find the talent to build a cruise ship in the U.S. The unfinished vessel ultimately was towed to Europe where it was eventually completed. Meanwhile, the investment thesis sank like a rock.
 

The lesson: Don’t assume a company can execute its business strategy without understanding how it will be done.

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2. Avoid analysis paralysis

Lisa Thompson, portfolio manager, New World Fund®
 

Investing is a discipline that is part science and part art. To succeed, you need to be able to gather the data and do the math. But you also need to make judgment calls based on knowledge gained through experience.
 

I am by nature a contrarian investor. As such I tend to avoid the crowd and get interested in an investment when others are selling. The great commodities super-cycle of the early 2000s driven by a rapidly growing China had more or less come to an end by 2014. After rising sharply from $10 a ton in 2003 to around $170 in April 2009, the price of iron ore plummeted to below $70 a ton by December 2014.
 

Shares of mining stocks also fell, pressured by the price drop. Against this backdrop, I began working with our analyst who covered mining stocks and grew interested in Brazilian iron ore producer Vale. Now, experienced investors in cyclical companies like Vale know it can be very difficult to call the bottom of a cycle. So during this period I was meeting regularly with the analyst to go over the numbers. Meanwhile the stock continued to drop.

At Capital we have what I consider a competitive advantage in that our analysts often spend years, even decades, covering an industry. Through them we have access to a vast amount of detailed knowledge. But at some point, I remember meeting with the mining analyst and asking, “We know so much about this company now, is more information going to tip the scales?”

I remember thinking that I already knew the discounted cash flows, the premiums, the fines, the global demand environment. One more data point would not help. I have to make the best decision I can with the information at hand. And these can be very hard decisions, but that is the job of a portfolio manager.

The lesson: Research is critical, but sometimes more information is too much. To invest successfully you have to know when it is time to pull the trigger with the information you have.

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3. Trust, but verify

Steve Watson, portfolio manager, New Perspective Fund®

At Capital we place a lot of importance on knowing managements — meeting and having regular communication with them. Understanding executives as people can help us evaluate their business strategy and whether they are the right people to execute it. But it can potentially lead to a disinclination to ask, "I wonder if I'm being lied to?” Now the majority of executives we encounter are honest, well-intentioned people, but that doesn’t mean they’re always honest with us — or even themselves.
 

But occasionally even savvy investors can get caught up in a fraud. A few years after I began working in Capital’s Hong Kong office, I decided to invest in Sino-Forest, a Chinese company that owned and managed forest lands with the intent of eventually selling them to other investors.
 

Between 2003 and 2011, Sino’s shares, which were listed in Toronto, soared more than 500% based on company reports of strong profit growth. It turns out the company had fabricated numerous transactions, including some 450 in the first quarter of 2009.
 

In 2011, the company came under investigation by the Ontario Securities Commission. Trading of the company’s stock was suspended and by 2012 Sino had filed for bankruptcy. Ultimately the Ontario securities commission found that certain executives of the company “engaged in deceitful or dishonest conduct related to Sino-Forest’s standing timber assets and revenue that they knew constituted fraud.”
 

The lesson: Regard the financial statements and executives who manage them with a healthy dose of skepticism.
 

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4. Resist your confirmation bias

Justin Toner, portfolio manager

I was hired by Capital Group on September 4, 2001, to cover the aerospace and defense industries — a week before the September 11 terrorist attacks. I was assigned coverage of industries directly in the crosshairs of that catastrophe. Among the companies that I covered for more than 20 years was airplane manufacturer Boeing, in which I have invested in various amounts on and off over the years.