Lessons from companies whose stocks crashed big time
In theory, buying low and selling high appears to be a promising way to make money in the stock market. But in practice, it's very difficult, if not impossible. That's because a stock can keep falling even after you think it has hit rock bottom. There are many stocks that have fooled investors this way. Many of these were once big, well-known companies. When their stocks started to fall and touch newer lows, investors naturally got interested. Only they never bounced back. On the contrary, they fell even more, destroying the wealth of their investors.
Such stocks are often categorised as value traps: they appear to offer value, but in reality, they are traps. Hence, an investor must learn to differentiate opportunities from traps. In order to do so, first dispense with the notion that a fall in price alone justifies buying a stock. A consistent fall in price can actually be a sign of something grim. It's a fall in price of a fundamentally sound stock that's worth paying attention to rather than a fall in price of just any stock.
Fundamentally weak stocks - those that have corporate governance issues, doubtful related-party transactions or receivables, debt piles - can cause unparalleled damage. If your stock crashes by 70 per cent or more, it's unlikely it will ever recover. Between 2010 and 2015, from the stocks that fell by over 70 per cent from their highs, only 2.5 per cent were able to regain their highs in the subsequent years. It takes a rise of 900 per cent to reach the same price if the stock falls by 90 per cent - a nearly impossible feat to achieve.
The table below lists top 25 companies that crashed big time from their 10-year highs. However, the number of retail shareholders increased in many of them.
Of course all companies are different and what led to one company's misfortunes may not be applicable to another. For example, in the case of CG Power, its problems seem to have started with aggressive overseas acquisitions followed a slew of suspect related-party transactions. Following related-party transactions over the years, it became quite evident that the foreign subsidiaries were used to siphon off money. With Cox & Kings, the company's misfortunes arose from aggressive debt-funded overseas acquisitions over the years that were later sold at a loss. With PC Jeweller, an abrupt change in focus strained its balance sheet, creating a serious asset-liability mismatch. Then of course, there's Reliance Communication, whose fall is a result of strategy failure and intense competition.
With most of these companies, it's not that the crash caught their investors unawares; there were ample signs on the way to their decline to warn you. But unfortunately, investors chose to overlook them, getting carried away by the ever-declining price.