I know that hindsight is 20/20, but the fall of General Electric (NYSE:GE) stock can teach investors a valuable lesson.
As someone who was a hedge fund trader for more than 20 years, I have met dozens if not hundreds of portfolio managers. These managers utilized a wide array of sophisticated styles and methods. Some used quantitative modeling and artificial intelligence to value stocks and markets. Others focused in a different way as currency or commodity traders. Some were even literally former rocket scientists who utilized incredibly complicated mathematical techniques to analyze the bond markets.
But some of the most successful (i.e. rich) people I knew in that world were managers who used traditional methods of analysis.
When I say traditional, I mean that they perform extensive research on specific companies in order to make their investment decisions. They spend countless hours studying those companies’ financial statements and research reports. Many even meet the management and visit the offices and facilities of the companies that they invest in. As long as we live in a capitalist society, which we still do (at least for now), this type of investment analysis will never go out of style.
Analysis and GE Stock
One of the things that the successful managers of this style have in common is that they put great importance on operating margins.
This metric measures how much profit a company makes on each dollar of sales. It is calculated by dividing a company’s profit by its net sales and it is expressed as a percentage. For example, if the operating margin is 10%, for each dollar of sales it makes 10 cents. If the operating margins in 50%, it means that for each dollar of sales the company makes 50 cents.
In other words, it is how much “bang for your buck” the company is getting. It is typically the case that when these margins are increasing, the company is doing well because it is becoming more profitable. The opposite is true if the margins are decreasing.
General Electric Stock Chart – 10 Years
You can see here that in 2015 the operating margins of GE stock basically fell off a cliff. It dropped from around 37% to around 12%, and then proceeded to go even lower. This was an indication that the GE stock price was about to get crushed. It, in turn, dropped from around $35 to $8 a share.
I laugh when I hear people say things like “no one saw the downfall of General Electric stock” or “nobody saw the financial crisis coming” Well guess what? A lot of people did. They were the ones who were selling before the stock price fell. For every trade, there is a buyer and a seller. There is no doubt that some of the investors who sold GE before the stock fell were influenced by the collapsing margins.
As of this writing, Mark Putrino did not hold a position in any of the aforementioned securities.