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Greatest Investment Mistakes: Living in the Bubble

Conformity is comfortable--but not necessarily profitable.

John Rekenthaler, 04/04/2017

Group Think
Today's topic is the fourth and final installment of Greatest Investment Mistakes. The first three were: not knowing when to seek professional help, leaving the stock market without returning, and listening to a single source. This column extends that third subject to being surrounded by those who think similarly.

Writes Bob, "In the late 1990s, I was a sales engineer for a broadband access startup in Northern California. We engineers were given a generous number of stock options--15,000 or even 25,000 with a strike price of $1.15. Our company had an IPO. When the six-month blackout period ended the stock traded at $200. Teams of financial advisors were brought in telling us to not exercise the options, not sell the stock. Sure we were rich, but we should aspire to incredible wealth."

"I was not financially naïve. I had read several of the investment classics. I was a Morningstar subscriber. Still, I drank the Kool-Aid like everyone else."

Shortly thereafter, that stock was delisted. The options that would have been worth $199 per share at the stock's peak price expired, worthless. Concludes Bob: "Maybe human nature never changes. Mine sure didn't."

Mum Was the Word
Human nature can change, but it generally requires a prod. Was anyone prodding Bob? Not his giddy coworkers. Not his company's managers, who were equally entranced--tech company executives are no better at avoiding euphoria than are their employees. And not--shamefully--those teams of financial advisors. It appears they abandoned their professional duties, perhaps also caught up in the moment, or perhaps because that company signed their checks. Either way, those advisors should have punctured the bubble--but they did not.

(As regular readers may recall, 48% of my portfolio consists of stock in Morningstar MORN. So, who am I to be talking? Well, there are several differences in our situations. One, Morningstar is a far more-stable business than a New Era tech company. Second, between purchasing the remaining 52% and paying taxes, I have sold most of my Morningstar stake. Third, people do tell me that I am wrong!)

Without encountering outsiders, Bob was unlikely to escape the pack. His was a typical experience. Back in the day, one of my friends had the good sense to marry a freshly minted Stanford MBA, who rejected the established Silicon Valley firms for a startup. Good decision; it thrived and went public. Better decision; he exercised his stock options near the market peak, in 1999, using the proceeds to purchase a house, mostly in cash. Commented his wife, "We figured that if we were going to own something overpriced, better that it be something tangible."

That stock soon returned from whence it came. Some other employees exercised small portions of their options on the way up, but my friend's spouse was the only one to enjoy a substantial profit. All the others were talking to themselves.

is vice president of research for Morningstar.

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