As you probably know, Bill Ackman is the founder and CEO of the hedge fund, Pershing Square Capital Management. Last week, he gained a lot of press coverage for one particularly bad investment in Valeant Pharmaceuticals (VRX). By his own admission, the Valeant investment was “one very big mistake.” That might be the understatement of the year!
Mr. Ackman liquidated his entire position in Valeant at a loss exceeding $4 billion! According to Bloomberg, his firm purchased the stock at an average price of about $166 per share and liquidated the entire position at $11 per share — a loss of over 93%! A press release said, “The investment required a disproportionately large amount of time and resources.” Think of any of your past investment losses. Could you imagine the emotional damage exiting with such a large loss? Bill Ackman is still a billionaire, so don’t feel too bad about how he is doing personally.
There are certainly some parts of this trade which you have to admire. The ability to have the confidence to establish such a large position is truly rare. The trade reportedly accounted for more than 20% of Pershing Square’s assets when it was initiated. That kind of conviction works great if you are correct, but in this case, it obviously didn’t work, and the result was disastrous.
The Valeant Pharmaceuticals chart above is constructed with weekly candles. Overlaid on price is the 40 week (200 day) moving average. The green arrow shows where Pershing Capital first initiated its position, while the red arrow shows where the company liquidated with a loss of more than $4 billion.
No one is immune to losing money in the markets. It does not matter how much money they manage or how well connected they are. This spectacular public implosion of a large position where the manager was very vocal about his bullish outlook can serve as a great resource of lessons about trading and investing in public markets.
Presented without judgement, here are a few takeaways we can learn from this debacle.
- Ego can be our biggest enemy. Did Mr. Ackman’s ego get in the way of being objective? It sure seems to have played a role in his stubborn hold as the stock collapsed.
- Swinging for home runs can be ruinous. A large position can produce outsized gains when it works, but when it fails, it can ruin returns for years. This VRX position is said to have caused losses for Pershing in 2015 and 2016. Given the stock was down 32% for 2017 when it was sold at $11, it looks like it will have a negative impact for this year too.
- Averaging down in a loser puts you at a disadvantage. The VRX trade has been in a long-term downtrend (defined by declining 200 day moving average) for well over a year. Stocks in downtrends should be viewed as “guilty ’til proven innocent.” It can take years for a long-term downtrend to neutralize and turn higher again. Buying a stock as an investment while it is in a decline puts you at a disadvantage.
This is not meant to be a comprehensive list of apparent mistakes made here, but to shine light on a few basic actions we can avoid to ensure we do not let losses overwhelm our performance in the markets.