Last week Netflix Inc hit a new all-time high of $115.81. The company listed in 2002 at a split-adjusted price of $1.21, which means that if you had invested $1000 at the listing price, your investment would now be worth $95,710.
That’s easy to say with the benefit of hindsight. The reality is that to have achieved that growth of 9500% you would have had to endure three separate draw-downs of over 60%.
During the most recent draw-down – 82% in 2011 – you would have watched your investment fall from $34,842 to $6,360.
Would you have sat on your hands while your investment took that sort of pounding? Would you have hung on to it when it got back to the previous highs, or would you have taken the money and run?
Netflix is not an isolated case. The companies that show this sort of growth are usually those that create new industries or disrupt old industries. Along the way, bubbles develop and pop, regulatory issues come and go and sentiment swings from one extreme to the other.
This has been true of almost every “ten bagger” both globally and in our local market. Below are some of the draw-downs in well-known US growth shares.
And, in South Africa, it’s been much the same.
Almost every share with a total return of over 1000% has had at least one major draw-down, and, in fact, the bigger the eventual return, the bigger the draw-downs along the way.
When you buy a share, it’s important to know why you bought it, and what will cause you to sell it. If you buy the share based on the long-term growth story, then you should keep it until that story changes. If you buy a share based on price action, then you should use price action to guide your exit.
Don’t buy a share because you like the story and then sell it because you don’t like the price action.
An alternative approach is to take some profits off the table along the way. Set a maximum allocation per share in your portfolio and scale back your holding when it gets out of line. By doing that you are still managing the risk, but you don’t have to agonize over the share price.