When you're investing, there are innumerable ways to come unstuck in an investment. Typically, these involve being wrong about some aspect of a business, such as its competitive position. However, there are 3 over-arching errors that are easy to identify and avoid, that could potentially save you thousands over the long run:
Owning companies with too much debt
Companies with large amounts of debt like Transurban Group (ASX: TCL) or Sydney Airport Limited (ASX: SYD) are unusually vulnerable to surprise shocks. To be sure, Transurban and Sydney can load up on debt simply because their traffic is so reliable. But when you combine high debt levels with a company whose earnings are not reliable – think Slater & Gordon Limited (ASX: SGH) – the outcome can be catastrophic.
That's not to say you shouldn't own companies with any debt, and of course successful turnarounds usually involve highly indebted companies surviving. But if your portfolio is full of heavily indebted companies, the results are unlikely to be spectacular.
Buying cyclical companies at the top of the cycle
As a general rule, if companies like Monadelphous Group Limited (ASX: MND) or BHP Billiton Limited (ASX: BHP) have been growing profits at a cracking rate for several years and it looks like the growth will go on forever… it's not a good time to buy.
Likewise when you see huge debt-fuelled acquisitions in the boom-times – think Rio Tinto Limited's (ASX: RIO) Alcan purchase – it should be a warning sign, not a signal for more excitement.
Buying seemingly promising companies with minimal revenues that are losing cash
Often you'll see a company that seems promising and has an intriguing story, like Sky and Space Global Ltd (ASX: SAS). However, Sky and Space has a market capitalisation of $100 million, revenues of just $54,000, and it reported losses of $15 million after tax last year.
This company may well go on to be successful, I couldn't say. But if you fill your portfolio with companies with these types of numbers, you are likely to be disappointed.
