Lessons From My First High Conviction Investment
People on social media love to talk about investing, but few will do the due diligence for their investments. Throwing money at companies without doing any research is closer to gambling than investing. There is nothing inherently wrong with this, but when an investment has a large drawdown the gambler is much more likely to sell than the investor. Due diligence enables investors to have high conviction in an investment, which helps prevent them from selling during a large drawdown. Until late last year, I was more of a gambler than an investor. So what changed?
The perfect opportunity fell into my lap. I learned about a small cap company that was at the intersection of my interests and knowledge in public policy, sports, gambling, and technology. The stars aligned when I realized that their mobile app had been on my phone for years. The company was called Score Media and Gaming (SCR/SCR.TO).
To say I became obsessed might be an understatement. In late 2020, I officially became a shareholder in the company. On March 23, 2021, I published my first analysis supporting a public company. My long thesis for SCR was now public knowledge for the world. To summarize my research, I had high conviction in this company for the following reasons:
- Founder led
- Huge TAM being unlocked in sports betting by new legislation in North America
- Governments are always looking for new tax revenue sources, especially in times of budget crises (i.e. COVID spending). Sin taxes, such as gambling, are easier to gain public support.
- Asset light company
- Strong userbase for their sports media app, which I had been using for years. This could lead to a low customer acquisition cost (CAC) in their future sports betting ecosystem.
- Access to first party data via their media app –> more important with the IDFA/Apple advertisement changes
- A proven history of building mobile apps and websites (i.e. a tech company). Potential to vertically integrate in the technology stack for their sports betting product, improving margins and adding control over the recommendation engine.
- An established brand in Ontario, one of the largest sports betting markets in North America
- History of being ahead of technology and market trends, such as shifting to mobile apps and starting an online eSports brand
- Free social media advertising from a few Barstool accounts and personalities because PENN had a minority stake in SCR
- Future TAM expansion opportunities in iGaming
After doing the due diligence, I truly believed I found a potential multibagger. Around the time I published my article I managed to convince almost a dozen friends and family to put some money in as well. As soon as everyone did, the stock tanked.
Lesson #1: You should not rely solely on fundamental analysis for an investment.
All of my research was based on fundamentals, but ignored one of the most important elements of investing: timing. Four weeks after my publication, SCR was down 31 percent. Eight weeks after my publication, it was down 47 percent. You will notice the huge drop from March, 2021 through May, 2021 in the chart from Koyfin below.
After such a huge drawdown, what do you think happened next? As any normal shareholder would do, my friends and family began questioning my advice. Doubt and skepticism filled the air in every text or discussion. Their questions and concerns continued for months.
Lesson #2: Be extremely cautious about giving investment advice to anyone. Their money and your reputation is at stake.
Throughout this time I had to repeatedly explain my reasoning for being long SCR. Often this had to be conveyed over a short text or a quick phone call. I constantly reiterated that huge drawdowns are normal for small caps and the long term thesis remained largely in tact.
Lesson #3: You should be able to explain your investment thesis in a simple story to anyone, regardless of their background in investing.
During this time of poor performance, I doubled down on my bet. I continued to dollar cost average my position and encouraged everyone to follow suit. This lowered our average price of purchase, but shifted everyone’s portfolio allocation heavily towards one company. At times, SCR was more than 10 percent of my portfolio. For my friends and colleagues, it represented a sizeable percentage, too.
Lesson #4: If you can’t do technical analysis, strongly consider dollar cost averaging into a position for an individual stock.
Meanwhile, we were all waiting for the one political event that would significantly impact the company’s future TAM. This was bill C-218 that proposed the legalization of single event sports betting in Canada. Having 10 percent of your portfolio dependent on one unpredictable event is gut wrenching. Anyone can tell you what uncertainty means, but living it each and every day can have a material impact on your mental state. There were days where my anxiety levels were very uncomfortable.
Lesson #5: Drawdowns are incredibly painful no matter your conviction.
Finally, we made it to the day of the Canadian Senate vote. SCR had been performing well during the weeks leading up to the event. I was optimistic of the future, but in the back of my mind knew about the term, “sell the news“. In the days after the bill was legalized, the stock declined 20 percent. Four weeks after the legislation had passed, the stock was close to the lowest point since their Nasdaq listing.
Lesson #6: Sell the news events are a strange market phenomenon. The market is capable of declining no matter how positive the catalyst might be.
After so many months of emotional pain, I began to wonder how long it could take for SCR’s price to reflect my thesis. If this huge, positive catalyst couldn’t maintain a higher market price, then what would? The next obvious catalysts on the horizon appeared to be earnings calls in 2022. This would show whether SCR was able to capture a large market share of sports betting in the Ontario market. While I still believed in this outcome, I was not blind to the bear thesis. What happens when the top competitors (e.g. DKNG, FanDuel, MGM) are willing to spend limitless amounts of advertising dollars to acquire customers? If these companies can sustain losses for years, then SCR’s theoretical low CAC advantage might remain just that. A theory.
Lesson #7: No matter how much research you do, your thesis could take years to play out. Days will feel like weeks, weeks will feel like months, and months will feel like years.
Throughout this period, I started to notice a pattern among SPACs and many of the exciting, futuristic stocks. This included my beloved SCR. The pattern was the following:
Lesson #8: Speculative earnings often mean temporary boosts in stock prices. Realized earnings will sustain higher stock valuations more permanently. Most of SCR’s future revenue was unproven, therefore, it was uncertain. And the market HATES uncertainty.
With such a large drawdown, I began to debate whether to sell most of my position for tax harvesting and reenter in 30 days. After much internal debate, I chose not to and voiced my slight hesitation to my fellow shareholders.
Lesson #9: Be extremely careful about tax harvesting during large drawdowns for volatile stocks. Anything can happen during the 30 day period where you are not holding a stock.
On the morning of Aug 5, 2021, I awoke to a barrage of texts, missed calls, and notifications. I ignored the calls and texts because I saw a strange email subject flash across the screen. After opening the email, I learned that PENN had acquired SCR. The stock opened at 29.55, an incredible 63 percent increase from the previous day’s close. Because of months of depressing performance, it took me a couple days to process how good of a result this was.
Lesson #10: It only takes one other person, or company, to agree with your thesis to potentially change everything. In this case, PENN must have put the same premium on SCR’s theoretical low CAC ecosystem as I did.
After collecting my thoughts, I was able to summarize the result of the investment recommendation to my family and friends. Below is the performance breakdown for our SCR investment compared with the S&P500 and domestic small caps from March 22, 2021 through August 6, 2021. Additional cost bases are displayed since we continued to add to our SCR position as its price declined.
S&P 500 (VOO): 12%
Small cap (IWM): -1%
SCR (\$27 cost basis): 22%
SCR(\$24): 37%
SCR(\$22): 50%
After seeing these results, some readers might think I’m a good investor.
After seeing all of my mistakes, some readers might say that I was lucky.
Lesson #11: It is incredibly difficult to evaluate whether someone is a good investor. It could take years to come to any sort of conclusion.
*Approximate calculations, assuming VOO, IWM, and SCR $27 cost basis) were purchased on March 22, 2021. SCR continued to be purchased at different cost bases as it declined. All percentages are based on selling the respective shares on August 6, 2021.
Image Source: Tabitha Turner on Unsplash