Five lessons one can learn from Warren Buffet’s losses in Paytm stock

While managing money, strategic decisions of highly successful investors are an exercise in practical wisdom. One not only learns from the way they make profits but also from the way they book losses in their investments. And this is what sums up their greatness as they foresee what others around fail to see. Recently, Warren Buffet, one of the few investors, who is emulated by many for his conviction in his investment philosophy, booked losses amounting to Rs507 crore in One97 Communications—well known as Paytm. According to news reports, he had invested Rs 2,179 crore and realised Rs 1,672 crore in sale. https://www.moneycontrol.com/news/business/markets/warren-buffetts-berkshire-hathaway-exits-paytm-11808641.html A natural question which arises in this context is: What lessons can one learn from Warren Buffet’s decision to book losses in One97 Communications.

1) Diversification

Though well-managed equity portfolios tend to create wealth in the long-term, there will always be some stocks which will not deliver. Not all businesses succeed and not all stocks reward investors. Each market participant makes mistakes while investing and trading. The only way to deal with this situation is to spread one’s investments as not all asset classes rise or fall together. Even within asset classes an investor must look to diversify. For example, looking at the past performance many investors nowadays are keen to invest in mid-small cap stocks or stocks of public sector undertakings. Investing entire corpus in a small pool of stocks may lead to concentration risk.

Stocks are bought when an investor is optimistic about future and hopes that the stock will reward him with handsome gains in long term. But predicting the future is a tough act. We won't get it right always. Our ignorance needs some hedge. Hence, many times, Buffett is quoted in the context of diversification. He said: “Diversification is a protection against ignorance.”

2) Review

Building a diversified portfolio is a good idea. However, it needs to be reviewed from time to time. If an investment rationale of a stock held in a portfolio, changes for the worse, then such a stock has to be sold. Even if a better opportunity arises then an investor has to decide on how to fund the purchase. Many times, a relatively underperforming investment is sold for this purpose. Hence, reviewing investments is a must.

3) Herd Mentality

When a theme becomes popular, investors start chasing those stocks. New-age fintech was a popular theme and Paytm was a sought-after stock when the company went public. Many such companies were commanding high valuations though they were making losses.

Investors tend to overpay for stocks when they see stock prices surging up. Investors hope to gain on their investment by selling to someone who is willing to pay even higher price, ignoring fundamentals. But stock markets are efficient in the long term. Over a period of time, prices of stocks of companies where earnings cannot support the valuations, tend to correct and investors lose money. Investors need to be selective while following trends and should employ trailing stop loss.

4)?Slavishly Imitating

Blindly investing in the investment avenues of veteran investors with a proven record - cloning, copycat or coat-tailing as it is termed in the industry parlance, has been a way to make money for many investors. In the large pool of information, many get the trade data (buying and selling) of highly successful and disciplined investors. Though knowing which stocks a veteran investor has bought can be a good starting point to one’s analysis, it does not guarantee success in investments.

Buffet’s loss in Paytm is a caveat for all those who try to blindly follow super-investors. A super-investor runs a large portfolio and not all his bets emerge winners. Super-investors’ risk-returns expectations, investment timeframe and financial goals may be far different from the average investor.

5) Do Not Hesitate To Book Losses

Investors should never lose sight of their financial goals. Entire activity of investing should be aimed at building corpus for achieving the financial goals. An investment gone wrong is an impediment on the road towards achieving financial goals. Smart investors always recognise this fact and book their losses. This approach releases their capital stuck in unproductive investments which run the risk of permanent loss of capital. Capital so released can be invested in better opportunities that help achieve financial goals.

While going through these lessons which an investor can learn from Warren Buffet’s aforesaid loss, the crucial thing to bear in mind is even ace investors have made mistakes and many have admitted their mistakes. Hence, when an investor knows that he has gone wrong on an investment, the smartest thing to do is to cut losses. Live to fight another battle that must be the motto. An apt observation which can sum up this article is from another legendary investor George Soros. He said, “It is not whether you’re right or wrong that’s important, but how much money you make when you’re right and how much you lose when you’re wrong.”