Some of the greatest opportunities for profit arise from extremes of undervaluation. In the bear market of 1973-4, many solid blue chip companies were selling on P/E ratios in the low single digits and dividend yields in double digits. This was contrarian heaven. Starting in January 1975, the market doubled within a few weeks and launched into a bull run.
How do companies reach extreme undervaluations in the first place? Via a long series of downward steps from valuations that have often gone to an equal and opposite extreme, that's how.
Some of the greatest losses in investment are inflicted on those who believe more and more strongly with every downward lurch that "it can't possibly go any lower", and act on that belief by adding to their holdings. Somewhere near the bottom, they panic and sell, losing anything up to 90% of their money. Even if they wait, they may never make back what they have lost.
But this is not the worst that can happen. Each year, several quoted companies go bankrupt. Among the most common reasons are
It is very rare for private investors in ordinary shares to see any of their money back once a company has gone into receivership. So never forget: The only point below which share prices cannot fall is zero.
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