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As The Turnaround Letter continues its series on avoiding common turnaround investing mistakes, we now focus on the all too common problem of timing your move too early.
Turnaround investors recognize the opportunity in a battered stock well before the rest of the market and want to pounce immediately. But even if the fundamentals look attractive and there is a margin of safety in the valuation, the stock can still decline--sometimes substantially. Perhaps an earnings report featured weak headlines that prompted selling by short-term traders, even if beneath the ugly news the company showed real improvement. This price downdraft can be difficult to endure.
Timing a turnaround purchase exactly right is very difficult. Getting “close enough” works well given the strong upside potential. One time-tested approach used by pros to reduce the impact of being too early is to buy only a starter position in a new name (maybe half of a typical position). If the stock falls off sharply but the long-term story is intact, these investors will buy more stock at the newly-discounted prices.