Why The Financial Crisis Provided My Greatest Investment Lessons

by: Integrator


The GFC is rapidly approaching its 10 year anniversary, and markets have moved a long way since them.

I learnt invaluable lessons during that period which continue to influence how I invest even today.

Sticking with quality, cash flow generating names with strong competitive advantages through my Project $1M has very much been influenced by experience during the GFC.

It’s hard to believe but it’s almost a decade since the "GFC" or "Great Financial Crisis" happened. While the relative euphoria of the years since makes that time seem a long time away, I learned some of my greatest investment lessons during the GFC which continue to stay with me to this day.

Keep margin debt to a minimum, or better yet avoid it entirely

Failing to follow this advice cost me dearly during the GFC. My leverage ratio was over 50% through 2008. I couldn’t help myself as bank stocks such as Citibank (C), Bank of America (BAC), Countrywide and others were falling to all-time lows and supposedly juicy yields reached mouthwatering levels.

Of course, we all know how that story eventually played out. The excesses of 2007 and sky high returns, combined with my desire to pick up bargains in 2008 were a volatile cocktail which led to my margin levels soaring. When the crisis eventually hit and some of these names dropped 10% to 15% over a few days, I was left as a distressed seller of certain stocks. I have never forgotten that experience. What I haven’t fully eliminated my margin debt today, I maintain it at a much healthier level of 10% of my investment portfolio and expect to entirely eliminate it within the next year.

Keep buying during times of distress, if possible, while avoiding euphoria.

While the GFC really knocked me about and had an impact on my net worth, I never gave up my optimism for equities as a pathway to long term wealth. I remember in the depths of the crisis I still stepped up to the plate and bought stocks like American Express (AXP) at near $12 per share in spite of rumors that they could go under. I really believe that I was lucky that I experienced the GFC at a time when I was still relatively early in my investing journey. I had just crossed 30 when the GFC struck and still had the relative benefit of youth to rebound quickly. Just as importantly, I was lucky to not have to watch a huge retirement nest egg disappear overnight.

What that experience did teach me however is that avoiding buying when markets are euphoric is one thing but buying during times of relative pessimism can really make you a bundle. That American Express stock I purchased from the depths of despair went on to net me a good $50 a share over the later years.

While hindsight is always 2020 I have attempted to reduce or eliminate much of my purchase activity during times of exuberance. Buying throughout 2007 led to the troubles I experienced in 2008. The bulk of what I now accumulated post the GFC was done up through 2016. I haven’t been very active at all in the past 18 months or so. Of course, I haven’t forgotten that American Express lesson and still love a good bargain. Thus I am still happy to wade in to the market when such a bargain presents itself, like it did with Alibaba (BABA) stock in early 2016.

Maintaining an offensive state of mind.

Buffet once said that if you can’t handle a 50% drop in the market, don’t be prepared to invest in the stock market. I didn’t think much of this advice until I personally went through what we saw in 2008/ 2009. Fortifying your mental state constantly for a 50% full in stock prices is hard, but I am now at least always mentally prepared for falls in stocks of 20%. I try and war game what will happen to my portfolio under such conditions, and more importantly try and make sure that I am in a position of relative strength to be able to buy in these circumstances. The longer and longer the markets go on without a pronounced 20% market decline the easier it is to become complacent. However being on a state of readiness allows you take emotionally rational decisions should circumstances arise.

Buying quality companies with secular growth stories.

I got into trouble during the GFC because I was buying junk. And that’s what many of the US Bank were at the time. Bank of America, Citi and a number of other mortgage lenders were so riddled with toxic exposures that they likely wouldn’t be here today but for the government bailout. I had too much junk on my own balance sheet during these times.

That inspired me to focus on quality businesses with strong competitive positions. While I am more partial to index based investing these days, I still maintain some active investments. I prefer those businesses that have strong revenue drivers, good cash generation and are benefiting from structural tail winds that allow them to grow in any economic conditions. Of course, these businesses will experience share price declines, if such a GFC like event occurs again, however their underlying businesses will likely continue growing through such an event.

My Project $1 Million portfolio is my attempt to seek out and invest in those businesses that should achieve better than index returns over a long period of time. This portfolio contains names such as Google (NASDAQ:GOOG) (GOOGL), Facebook (FB), Visa (V), MasterCard (MA) and Alibaba. MasterCard and Visa will continue to ride the shift in cash and check payment to electronic. Google and Facebook will benefit from advertisers needing to target users where they spend the most time online. As people move to transact commerce remotely, companies like Alibaba will also benefit. These are all cash generating machines with strong revenue growth whose secular stories should be intact for the next decade.

Just as important, I try and stay faithful to my list of what not to buy and avoid. What also tripped me up during the GFC were spurious financing structures that had very high amounts of internal leverage. As a result of my experience during the GFC, I avoid all manner of REITS and MLPs in my active portfolios. I’m sure good bargains can be found in that space, but they’re just not for me.

As we approach the 10 year anniversary of the GFC, those dark days seem increasingly in the distance. I for one know that the lessons I learned during that period will influence how I invest for years to come.

Disclosure: I am/we are long BABA, FB, MA, GOOG, V.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.