Avoid This Billionaire’s Mistakes

TruePoint Capital

How do you lose $20 billion in two days?

That’s a question that initially baffled the public when they first learned of Bill Hwang, a veteran stock trader and hedge fund manager. Hwang ran Archegos Capital Management LP, a family capital management firm that was investing $10 billion of its own money.

You’re asking yourself how could you possibly lose more than $10 billion in two days? The answer is leverage. It’s like the average day trader who trades on margin. The typical margin ratio is 50% or 2:1. With $100, you can trade $200 on margin. If you invest $200 and lose half the value of your portfolio, you just lost everything you started with even though your stock positions only declined 50%.

As an institutional investor, Archegos enjoyed margin levels of 3:1. That’s how with $10 billion, Hwang was able to trade with $30 billion. He bet on highly speculative derivative swaps that imploded within two days – suffering losses to the tune of $20 billion.

Hwang lost his entire $10 billion fortune and is on the hook for an additional $10 billion that will likely never be paid back. The investment banks who floated Hwang these massive margins are facing severe losses. Goldman-Sachs, Morgan Stanley, Wells-Fargo, Credit-Suisse, Deutsche Bank, and Nomura all had their hands in the cookie jar.

Hwang was treating Wall Street like Vegas, betting on highly speculative derivative positions. One of his biggest mistakes was that he put all his eggs in one basket – concentrating his investments in only a handful of stocks. He figuratively bet everything on black and lost big time. Not only that, he was using borrowed money to do so.

How can you lose everything by playing the stock market? By borrowing. A stock doesn’t have to lose all its value for you to lose all your fortune when you’re trading with borrowed funds.

Three lessons you can learn from Bill Hwang:

  • Don’t speculate.
  • Understand the right way to use leverage.
  • Don’t put all your eggs in one basket.

Don’t Speculate.

Some billionaires have built their portfolios, never to lose everything as Bill Hwang did. First of all, they don’t speculate. They invest in tangible assets that have intrinsic value – value not determined by public speculation or demand. Assets with intrinsic value that have demonstrated to appreciate in value reliably and consistently over time eliminate speculation.

Cash-flowing businesses and real assets have intrinsic value, making it impossible to lose half your portfolio in two days.

Stocks and their derivatives have no intrinsic value. Their prices are purely determined by Wall Street gamblers and subject to the whims of the news, social media, and a finicky investing public.

An asset with intrinsic value makes it impossible for the asset’s price to ever go to zero because of the underlying value. Businesses have underlying real assets, equipment, intellectual property, and accounts receivables that give them intrinsic value.

Real estate can never be worth zero because of the value of the underlying land. A dairy farm has an underlying value from the income generated from milk production and sales. Mineral and energy rights have intrinsic value in the underlying value of the precious metals or oil underground.

Understand The Right Way To Use Leverage.

Leverage allows savvy investors to spread capital across multiple income-producing assets. That’s the key difference between this type of leverage and the type of leverage Bill Hwang was using. Bill Hwang was using leverage to gamble against insurmountable odds.

Using leverage to generate multiple streams of income is not gambling. It’s smart. Instead of putting $100 million into one asset, smart investors will use the $100 million as down payments on multiple assets. Instead of just one stream of income, smart investors can create 5, 10, plus income streams – backed by tangible assets.

Don’t Put Your Eggs In One Basket.

Ultra-wealthy investors understand true diversification. Bill Hwang didn’t even understand basic Wall Street diversification. Wall Street diversification says you should spread the risk of your portfolio across multiple stocks. The problem with Wall Street diversification is that your eggs are all still in the same Wall Street basket, and in a market crash, there is no saving your portfolio.

Ultra-wealthy investors approach diversification from a different perspective. They don’t diversify to spread risk; they diversify to protect income and growth. By diversifying across multiple geographic markets and in recession-insulated assets, the rich can preserve income and appreciation in any economy.

While the masses suffered through 2020 and the pandemic-induced downturn, the ultra-wealthy who were properly diversified rode out the storm – with some becoming even richer through assets that not only survived the recession but thrived during it.

Don’t follow Bill Hwang; follow other billionaires who take a different approach to investing to build wealth. Don’t speculate, don’t abuse leverage, and understand true diversification.

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