Every investor wants to emulate Warren Buffet. That is why there is so much written on the oracle of Omaha’s strategies and stock picks. You don’t have to search far for articles on how Warren Buffet buys excellent businesses at depressed share prices. But one often overlooked aspect of Buffets success is how the great man doubles up on his winners. How he buys more shares of a winning stock as it moves higher.
Just look at Warren Buffets recent trades in Apple through his holding company Berkshire Hathaway for an example of this. He first bought AAPL nearly two years ago at a price of about $110 a share. Since then, he has continually been adding to his position as the stock has moved higher. He added shares when the stock moved up to the $120s, $140s and even the $170s. Today, the cost basis of all Apple shares purchased through Berkshire Hathaway is far higher than the original investment intimated in the $110’s.
How many of us individual investors would be able to increase our stock positions as the stocks move higher? I suspect the answer would be very few. Many investors – including myself – are stuck by a cognitive bias called anchoring. Anchoring occurs where an initial exposure to a number serves as a reference point and influences subsequent judgements about value.
As a result of anchoring, many individual investors do the exact opposite. They double down on their losers.They hope that buying more shares at a lower price will help them get back to breakeven faster.
Doubling down on average companies rarely works. But investors rationalise it by telling themselves things such as : ‘the market is just slow to catch on to my great idea’, ‘I did all the research, and I know I can’t be wrong’, or ‘the stock is cheaper now – that makes it a better deal, right?’
When reading the above mentioned reasons, they seem silly. Yet investors will do almost anything to justify sticking with a losing position. I am guilty of having done the same previously.
So the next time you are tempted to double down on a falling stock, make sure you aren’t doing it for the wrong reasons. Make sure you aren’t ‘anchored’ to the original price you bought it at as opposed to the current fundamentals of the business.
As for the winners in your portfolio, have a look if they are worth adding to. You never know, the shares may be cheaper now then when you bought them if the share price hasn’t gone up as fast as business performance.