Being an investor means being open to opportunities that are outside your backyard. It’s possible to keep a portfolio that is extremely risk-averse, but you’ll needlessly be cutting yourself off from many money making ventures. Instead of limiting yourself to investments that are strictly within your wheelhouse, develop an aptitude for evaluating downsides. Becoming an adept judge of risk will not only open up new doors to your portfolio, but will also ensure you know exactly what might already be lurking within it.
During the ’90s, a colleague brought an investment opportunity to my attention that was far outside my standard. There was a distressed loan out on a public, Colombian oil and gas company. The company had been generating several million dollars in cash flow annually, but because of a short-term downturn in oil prices, could no longer service their debt. Through evaluating my downside, I was able to make one of the most profitable investments of my career in an industry that I was only casually experienced in.
Paramount to comprehending the probability of loss on any investment is understanding the broader, global position of the company. How is the industry performing as a whole? Is it a particularly volatile industry? What impact could firms operating in other countries, states, or continents have on your firm? By grasping the laws of physics, we are capable of working them to our advantage. In the same way, if you can understand the global position of your company, you can better work within the model.
As I began due diligence the Colombian oil & gas firm, I began to consider what global or international risks would bear on the firm. The principal concern for any commodities supplier is that the global price for the good will collapse. Though oil prices in the ’90s were not without some volatility, I did not believe that any significant price collapse was on the horizon.
Regardless of what stability exists on an international level, there are innumerable domestic factors that might impact your investment. Markets within a nation are all interdependent; uncertainty in one area of a country might indicate uncertainty for the whole. What is the country’s track record for policy and government intervention in the private sector? Have there been notably successful companies operating there before? What is the country’s specific competitive advantage in your industry? What political policy does the country favor. Local factors are likely to be some of the most consequential for your investment.
Initially my greatest concern was that the government might nationalize the company. Within the U.S., the worst that anyone has to fear is a tax hike or increased regulation. However, the rest of the world is not so dependable. In the early ’90s, Colombia had reached new heights for democracy and constitutional freedoms, giving me good reason to believe that the government would not follow through with any highly interventionist economic policies.
Outside domestic and international risk factors, there are countless concerns that are less easily judged. Anything from drastic weather conditions to terrorist activities can impact a business, depending on the industry and location. The only way that you begin to evaluate risks of this kind are to examine history and see if there have been any outliers in the past. What are the most significant, spontaneous problems to have cropped up in the past for companies in the area?
The only completely uncontrollable factor of Colombia during the ’90s were the guerillas. Colombia had been a country at arms for nearly a century before their political reformation of 1991. Despite the prosperity they were beginning to develop, the government was still battling well-armed guerillas in certain regions. These guerillas were unpredictable and less than friendly to foreigners. That being said, the government was doing an exceptional job of cracking down on the fighters and routinely repairing the infrastructure they damaged. Though the risk was there, I believed it was controlled.
Invest In What Feels Right
After taking the time to do an extremely in-depth analysis of the risk factors that came with the distressed Colombian oil and gas loan, the investment felt right. At some point, each investment prompts a gut reaction. Intuition should never replace rational analysis, but alongside data that does not make the answer clear, it’s your final decision factor. In this case, I felt certain enough to commit myself to the investment.
After just six years, the oil and gas company’s annual earnings were nearly seven times as large and the company owned over five times its original physical assets. I had made one of the most profitable investments of my career in an industry that was well outside my specialty.
Having a skill for investment in one industry over another can be highly beneficial as an investor. It gives you a safety net of understanding, makes risk analysis more straightforward, and prepares you for the future. However, refusing to invest in opportunities that are outside your specialty could mean missing your golden egg. Know how to analyze your downside and trust your intuition and you may strike gold in an unexpected place.