Time to panic? Or not?

Stay calm and focus on your companies

An index that drops by 12.4% in a single day in a developed market (Japan) can certainly be classified as panic. This panic continues today in European markets, and futures suggest that the U.S. is following the same trend.

Warren Buffett's decision to sell half of his Apple shares and shares of Bank of America does not help the sentiment either. What does Buffett mean by this? And what about his enormous cash position of $276.9 billion—does this imply that he expects a crash?

Many articles are being written about the causes of this decline and Buffett's possible motivations. As a macroeconomist, I do not specialize in explanations such as the yen carry trade and similar factors.

What I do know, after more than 25 years of following Buffett and reading extensively about him, is that the explanation for the sales is likely very simple: the valuations of the companies had become too high.

Buffett's enormous cash pile can also be explained in this context. What could Buffett have bought in recent months or years, apart from oil companies (which he did buy), that offered sufficient returns at attractive valuations? He once again demonstrates his keen insight into valuations and, above all, his endless patience to keep the cash unused.

Do we need to panic too?

Many investors seem to be panicking, and our stocks are sharing in the fallout. Sometimes it’s truly baffling. Take Tessenderlo, for instance: as of writing, the stock is at €22.10, down 4.3% today. This is despite Tessenderlo buying back shares through a program where they plan to purchase 2.3 million shares for €69 million, which implies an average price of about €30 per share.

As of July 29 (and today an update is likely regarding purchases over the past week), Tessenderlo had bought 1,164,472 shares for a total of €28,155,694.71, which averages out to €24.18 per share. It remains a mystery to me why people are selling shares below €30 when a knowledgeable buyer is willing to pay €30. It is even more perplexing to sell these shares at 9% below the price that this buyer has been happily paying over the past few months.

For several years now, I have been investing in companies/shares with the understanding that the market is generally expensive, a recession might be imminent, and we should not overpay for growth. The growth of the past decade is not something I consider normal; it was an exceptional period. This caution has cost returns recently, but it means that today I do not need to worry about the stocks in our selection. The only stock I am concerned about has been an ongoing issue for entirely different reasons (management).

What is certain is that in many portfolios, some positions will be at a loss, especially those recently purchased stocks. It seems useful to me to share my perspective on dealing with losses.

Price ≠ value 

As value investors, we always emphasize that the stock price does not equate to a company's value, and a decline in the stock price does not affect the intrinsic value of the company. On the contrary, it creates new opportunities and buying chances. Naturally, we prefer a portfolio with more green (gains) than red (losses). There are only a few stocks that instinctively please me when their prices fall, such as our holdings.

For all other stocks, especially if I have purchased them recently, I also think, just like everyone else: why did I buy this stock now, and why not later?

At such times, it's good to return to this adage. When I ask myself these questions, I continually go back to my analyses of the company and ask myself the following questions:

• Has there been a fundamental change in the company?

• Has there been a fundamental change in the sector?

• Are the data I received from the company accurate?

• Are my calculations correct?

• Are my outlooks too optimistic?

If there has been no change in the company or the sector, and my calculations are correct based on accurate figures and cautious forecasts, then there is no reason for concern. However, if there have been changes, I need to revise my valuation. If we have to adjust the fair value and it turns out to be lower than what we paid at purchase, it means we have incurred a loss.

Therefore, the margin of safety is a crucial component of the value investing strategy. Except in cases of fraud or unforeseen circumstances such as pandemics or wars, this safety margin is large enough to absorb shocks and ensure that we adhere to Warren Buffett's rule:

"Never lose money."

Buy the dip?

When a company still meets all your criteria and its stock price drops significantly, it's a natural reaction to consider buying more. However, in the past, I've often acted too quickly in this regard.

When your last or second-to-last purchase is suddenly 10% lower than where you bought it, it can be tempting to lower your average purchase price by buying more.

I've learned that timing such purchases hasn't worked well for me. Often, I would immediately buy a full position in a cheap company and then consider adding more if the price dropped further. This sometimes resulted in overly large positions, while more stable stocks remained at their standard position size.

Nowadays, I buy half a position with the initial purchase. I then buy the second half at the earliest within three months, but preferably six to nine months later. This reduces a lot of overthinking, hesitation, and emotion. While I sometimes miss a 10% lower price that quickly recovers, I now often buy at much lower prices than before because I am forced to wait longer.

In very exceptional cases, I might buy a "third half" if a company drops significantly, but this only happens after a thorough reanalysis and never within six months of purchasing the second half.

Additionally, we are currently seeing declines of 2% to 5% for most stocks; this is a minor blip on the radar for long-term investors. If the decline continues, the correction could easily be another 10% to 20%, or even up to 50% in the case of a true recession or depression. Don’t be disturbed by the many news articles, blog posts and tweets—both panic-inducing and euphoric ones urging you to buy the dip now.

My friend Luc wrote a great article about this. It’s in Dutch, but I hope Google Translate does a good job so you can enjoy it too.

Stay calm!

Best regards,

Sam