price buffer build-up: effective@@ #w1r3

Posted on by tiger40490 rendered_on [ Thu, 6 Mar 2025 ] 13:21 UTC

In use multiple parking funds in FSM sub-accounts, I wrote that

For a few slightly-volatile parking funds, X months after buy, when the position has accumulated a 2% margin of safety, then the entire position is unlikely to go underwater. This asset thus becomes liquid i.e. At any time I would feel free to liquidate the entire position.

That is the first asset class of this blogpost.

In what stocks to sell, I wrote

Also, the price increment provides a buffer against a down turn.

However, for a highly volatile low-yield stock (like NOK, GE, MRNA,, a second asset class) even a 100% m@s [margin of safety] can evaporate overnight, or over a month [1]. Suppose bought at $1k, rose to $2k and back to below $1k.

The buffer build-up is like the vulnerable levees along Yellow river giving people a false sense of protection.

That’s why I prefer stable utility stocks or defensive consumer staples  (a third asset class). I do feel protected by a m@s [margin@safety] build-up  after my purchased stock rises by 50% and …. maintains dividend. The dividend stability is more reassuring than the price rise. Dividend stability often reflects healthy cash flow. Price rise reflects SnD, often irrational demand.

— market momentum .. can favor the buffer build-up
When the buffer gets eroded we can ask why. Suppose the stock has no real bad news. Then it’s likely “broad market”. This would be good news for the believers of the buffer. Broad market usually recovers in months or years.

In the short term, many investors would see that this stock has reasonable fundamentals, and has fallen a lot and is now a bargain. Some bargain hunters would buy at least a small quantity, like a fractional share. The key reason for the appearance of “bargain” is the $1k->$2k price buffer build-up.

Note blue-chip stocks with long history have a visibility advantage and command a high investor mindshare.

— [1] realized return to protect a position from going underwater
The “evaporation” scenario described above is real. In my CRBP case, I bought around $5 and had a 80% profit, when the free fall (to $2) wiped out that buffer. For my twin brother who bought at $8, the free fall would be more devastating. Therefore, a free fall probably wipes out 9 out of 10 investors, but the “evaporation” is not the same simple end for every one —  Size of the previous buffer still makes a real difference:

  • trough duration depends on the previous buffer
  • depth of the trough depends on the previous buffer. 95% drawdown vs a 40% drawdown are very different when forced to liquidate.

For free-fall there is a preemptive protection — realized profit. With CRBP I had no realized profit or dividend. Here’s a simpler illustration. In our previous example, you invested $1k and now it’s worth $2k, so you have an unrealized profit of 100%, but this buffer can evaporate. Now what if you cash out $300? So the price must fall from $1700 to below $700 to become “underwater”.