"Our Vice Chairman, Charlie Munger, has always emphasized the
study of mistakes rather than successes, both in business and
other aspects of life. He does so in the spirit of the man who
said: 'All I want to know is where I'm going to die so I'll never
-- Warren Buffett, 1986
As Bruce Springsteen remarks in his hit song "Glory Days",
most people like to reminisce on their past successes. That
certainly holds true in the investing world -- it's not hard to
get someone to tell you about their best stock pick ever.
Berkshire Hathaway Vice-Chairman Charlie Munger focuses his
energy on understanding his mistakes (Photo: The Motley
However, if you're looking to improve, it's a lot more useful
to study your mistakes: a point emphasized by
Vice-Chairman Charlie Munger. Accordingly, today I'm going to
take a look at my biggest investing mistake ever.
In 2007, in search of juicy dividends, I decided to invest in
a bank. But I didn't pick
, a longtime Buffett favorite that is currently Berkshire
Hathaway's largest investment. Instead, I bought 100 shares of
Washington Mutual. 16 months later, WaMu was seized by federal
regulators and sold off for a pittance -- taking a big chunk of
my savings with it.
You can learn from your mistakes
Before getting into the gory details of my ill-fated investment,
let's take a moment to consider why it's so important to study
your mistakes. As Buffett explained in the above quotation, once
you figure out where you
want to go, you can make sure you don't go there.
This means that you need to know more than just that you
invested in a certain company and its stock price went down.
Sometimes, poor investment performance can be the result of bad
luck -- for example, a promising product turns out to be a bust.
As a result, some mistakes may be unavoidable.
Berkshire Hathaway chairman Warren Buffett agrees that it's
important to understand your mistakes (Photo: The Motley
To truly learn from your investing mistakes, you need to
understand both why you made the poor investment decision and
whether you should have -- or could have -- known better at the
The reason why Munger and Buffett study mistakes is that once
they understand the "whys" behind their mistakes, they are in a
better position to change their behavior. This is a big reason
why Berkshire Hathaway has been able to generate outsized returns
A look inside my biggest blunder
When I put some money into Washington Mutual stock in 2007, I was
still an investing novice. I had been exposed to some basic
lessons, such as the importance of being patient and the famous
Warren Buffett aphorism: "Be fearful when other are greedy and be
greedy only when others are fearful."
However, I had not learned
of the important lessons for becoming a successful investor, and
I certainly hadn't internalized them. For example, I focused too
heavily on P/E ratios and Wall Street analysts' estimates when
making investing decisions.
In early 2007, Washington Mutual was trading for 11.6 times
earnings, whereas Wells Fargo was trading for 14.2 times
earnings. WaMu also had a juicy 5% dividend yield, whereas Wells
Fargo's dividend was closer to 3%.
Wells Fargo has maintained a premium valuation for a very
good reason (Photo: The Motley Fool)
If I had been a better Buffett disciple, I would have
recognized that Wells Fargo was by far the better bet despite its
premium price. Wells Fargo was extremely well-managed and
maintained a conservative approach to risk-management. However, I
was swayed by the (apparent) bargain price and high yield of WaMu
WaMu stock began to decline soon after I made my initial
investment, but I had an opportunity to escape that summer with a
small loss. I did sell a portion of my shares then -- but I
repurchased them in October at a lower price as the bad news
worsened! (I thought I was outsmarting the market by being greedy
when others were being fearful.)
My confidence was buoyed by the fact that Washington Mutual
CEO Kerry Killinger wasn't too worried about the company's
deteriorating results. Killinger told investors on the company's
October 2007 earnings call that WaMu was committed to maintaining
its $0.56 quarterly dividend. (It lasted less than 2 months.)
However, I assumed that the CEO must know what was going on more
than second-guessers outside the company.
This was my big mistake
There was one key theme to my disastrous investment in Washington
Mutual. I relied heavily on what other people were saying. When
the CEO and bullish analysts told me not to worry, I was happy to
take the long view (which actually meant burying my head in the
In fact, I didn't know much about the banking business. It
never occurred to me that a company with a $60 billion+ market
cap could go bust in just 1 year. The crux of the problem was
that I ignored one of Buffett's most important lessons:
buy what you know
As an individual investor, it's OK to not understand how
businesses in each sector of the market make money. However,
that's doesn't make it OK to invest in companies you don't
understand! There are plenty of good index funds that can give
you exposure to the broader market, giving you diversification
without undue risk.
WFC Total Return Price
, data by
If you're going to risk your money on a single company's
prospects, it's important to understand how its business works:
just knowing its P/E ratio won't cut it. My key mistake was not
picking the wrong horse in the banking sector -- although Wells
Fargo has provided a total return of 70% since May, 2007 -- it
was investing in a business I didn't understand whatsoever.
Foolish bottom line
I walked into the biggest investing mistake of my life by
ignoring one of Buffett's most important lessons: buy companies
whose business models you understand. I thought I was being
clever by being greedy when others were being fearful. However, I
didn't know enough about the banking business to have a clue
about when to be greedy and when to be fearful.
There's absolutely nothing wrong with investing most or all of
your money in index funds. If you're going to risk your hard
earned money on a single stock instead, don't just do it on
somebody else's say-so -- make sure you understand what you're
buying. Warren Buffett could have saved me a boatload of money.
He could do the same for you.
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Warren Buffett Could Have Saved Me From My Worst
Money Blunder Ever
originally appeared on Fool.com.
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