The Many Lessons of Microcap Investing

One of the reasons I love investing in microcap companies is that they present continuous opportunities for learning from your mistakes and your successes. I specifically say this about microcaps because, as opposed to large-cap companies, it is much easier to identify your mistakes since microcaps are generally less complex than billion dollar companies are. I thought I would take a quick moment to take a look at some of my key learnings over the past few years as it relates to microcap investing:

1. Life is too short to constantly question an investment

This past year it was proven to me just how important it is not to get emotionally attached to any of your holdings, and to not be afraid to hit the “sell” button when the company is not tracking your original investment thesis. It is VERY hard for someone who considers him/herself a very long-term investor (me!) to sell a position only a few months after initially purchasing it. But, doing so for the right reasons can save you major heartache. 

As an example, this morning when I saw the earnings release for Brekford (BFDI), a stock I use to own, I smiled to myself and realized that I was spot on by selling the stock in late 2015 as it was becoming increasing clear that it was nothing more than a "story" stock...a company with a great business model and great potential, but not much substance. There were also red flags appearing that I simply was not comfortable with. Today the company reported numbers that showed a $2M decrease in revenues compared to the same quarter last year. Ouch. The stock closed down 30% near $.14/share. 

For more on the importance of selling when things don't quite feel right, see my article from early 2016 that goes deeper into some specific examples. 

2. It is ok to take profits!

Sometimes microcap investors feel that they have to hold onto a stock forever, and never sell a single share, in order to be a successful microcap investor. I do not subscribe to such a belief, nor do I feel it is a wise for an investor to take such an approach. I have seen too many examples over the past 2 years when microcap investors have been up many hundreds of percent, only to be down on the investment now. Xpel Technologies (XPLT), Biosyent (RX.V), and Kelso Technologies (KLS.TO) quickly come to mind as fantastic businesses that will do very well over the long-run but that have experienced major pullbacks over the past 12-24 months.  

To me, the prudent thing to do to have and hold your core positions but to adjust your sizing by buying and selling from time to time. Again, this is just me, but it has generally been a process that has helped me maximize gains and minimize losses over time. 

With the above in mind, always remember that microcaps that eventually return 100x or more often go through periods of significant pullbacks of 50% or more before making their big climb upwards. 

3. If your investment thesis changes, re-evaluate before you sell

One of the key parts of my process is selling when my original investment thesis changes for the worse. I have definitely been guilty of selling a company when it only slightly deviates from my original investment thesis when I otherwise should have stepped back and re-evaluated the investment in order to decide whether I hold or sell. One that I will most certainly regret selling around $.50 will be Innovative Food Holdings (IVFH), which reported pretty fantastic numbers after the market close today. I doubt it will ever see these levels again. I sold because they ended up selling The Fresh Diet division to a 3rd party, rather than spinning it off as they suggested they were going to do for many, many months. To me, this was a cause for concern and a reason to not trust management, but now that this subsidiary is, for the most part, off of their books, their core business is looking very strong and should accelerate their growth in the quarters and years ahead.

These are just a few quick lessons that come to mind that I wanted to share in the hope that they will help you in your investing journey. Remember, investing is a continous cycle of learning and while mistakes can be painful they generally make you a better investor.

What have been some of your lessons in microcap investing?