Everyone selling? It's time to buy
"I'd buy some more; that's what I'm doing myself," says David Coates, a Sydney-based analyst with Baker Steel Capital Managers, one of the biggest investors in gold companies in the world.
The fundamentals of these companies have changed because of a lower gold price, but Coates believes that the value is there because gold will bounce back. At the time of writing, the gold price had stabilised. He adds: "Companies with good assets and good balance sheets are really cheap down here ... the recent gold price move is not representative of the true state of the global economy."
Coates has been topping up his holdings of both big and small gold producers, including Northern Star, Lachlan Star, Evolution Mining, Endeavour Mining, Resolute Mining, and St Barbara, as well as the explorer Chesser Resources.
Over the years, I have spoken to hundreds of fund managers, and all believe that if you have a strong "conviction" about a stock, and its price moves down, you should buy some more.
As Geoff Wilson of Wilson Asset Management says: "The best time to buy is when everyone is selling." Peter Mouatt of Adam Smith Asset Management concurs, and says that his fund bought salary packages specialist McMillan Shakespeare after it fell 30 per cent in the wake of a government review of fringe benefits tax.
In contrast, if you kept buying building services company Hastie Group after successive falls in the past three years, you would have been left with nothing because the company eventually collapsed.
"Generally, [averaging down] is a sound approach as long as you have a longer-term time horizon and the company's fundamentals are strong," Mouatt says.
But for smaller investors, who don't have deep pockets, should this always be the case? Should you "average down" and achieve a lower entry price in a stock that you like? It's a question subscribers often ask.
Investing more money in a company does depend on whether you have the cash. And if you don't have the cash, maybe you should have a "stop loss", meaning if a stock goes below a certain level, you automatically sell.
Many fund managers dismiss such an idea, though not all. Todd Gilmore was previously a trader for Citigroup and for ABN AMRO, and now trades successfully on his own.
Gilmore believes that a stop loss is absolutely necessary only if you are using debt or leverage to fund your positions, or if you are trading in leveraged vehicles such as futures or options. He makes a good observation aimed at investors who do have cash, however:
"Whenever people get spare money, it's probable that everyone else is as well. You might get $25,000 and buy CBA today [its shares are trading close to $70], but if you're wise, you would think about where it is that you are comfortable buying that stock, which is, say, $50. If it comes back there, then that's when you buy some more."
His next comment harks back to what Wilson says: "If you bought stock every time Australia went into recession, you would have made a lot of money."
In the view of this columnist - with a focus on small caps - averaging down is not always a good thing in a market that is notorious for its lack of information. Sure, this factor can mean you can take advantage, and make a lot of money, if it works out in your favour.
But in many cases when a share price falls without news, there could be something you don't know. This is why we encourage investors to put limited funds into individual stocks, and to not be afraid of selling, and re-evaluating whether or not to buy at lower levels.
There is no doubt you can make a lot of money from small caps, but the idea is also to limit your risk.
Frequently Asked Questions about this Article…
Averaging down (aka buying the dip) means buying more shares of a stock after its price falls to reduce your average entry price. The article notes many fund managers use this approach for gold stocks when they have conviction in a company’s assets and balance sheet, but it only makes sense if you have cash and a longer-term horizon.
Some experts in the article think so: David Coates says fundamentals have been hit by the lower gold price but that quality producers with strong assets and balance sheets look cheap and gold should bounce back. That said, the piece cautions to check each company’s fundamentals before buying more.
The article says David Coates has been topping up both big and small gold producers, including Northern Star, Lachlan Star, Evolution Mining, Endeavour Mining, Resolute Mining and St Barbara, and also the explorer Chesser Resources — offered as examples of names some investors added to during the slump.
Not always. The column advises smaller investors to be cautious because they may not have deep pockets; averaging down can work if fundamentals are strong and you have spare cash, but you should limit how much you put into any one stock and be prepared to sell and re-evaluate if new information emerges.
According to the article, a stop loss is essential if you’re using debt or trading leveraged instruments like futures or options. For cash investors, some managers prefer setting a comfort price (an entry level where you’d be happy to buy more) rather than an automatic stop, while others still use stop losses as part of risk control.
Look for good assets and healthy balance sheets — the article highlights those as key reasons fund managers added to positions. Also be wary when a share falls without obvious news, as that could signal problems you don’t know about; if unsure, limit your exposure and reassess before committing more cash.
Several managers quoted in the article endorse the idea — Geoff Wilson says ‘the best time to buy is when everyone is selling,’ and others add that if you have strong conviction in a stock, buying on weakness can be a sound strategy. Still, they stress the need for good fundamentals and a long-term view.
The article recommends limiting the amount of money you put into individual small-cap stocks, diversifying, and not being afraid to sell and re-evaluate. Small caps can produce big gains, but they also carry information gaps and higher failure risk (the piece uses Hastie Group’s collapse as a cautionary example).
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