By James Cramer
Crow never tastes good. But sometimes you have to eat it to get back into the game. Thursday I held my nose, ate crow and by the end of the day the pungent aftertaste had all but disappeared.
The crow in question was
. A favorite of mine since the year began -- despite my belief that
will prevail in DEC's pirating suit. I had made a sizable DEC bet in the July in-the-money and out-of-the-money calls. Part of my style when I make a decision to own something is to use call options as a proxy. When Digital Equipment was languishing in the high 20s last spring I began to put away a large number of July calls struck at 27.5, 30 and 40 dollars a share. I did it that way so that if Digital Equipment ran up in price I could have the same exposure to the stock with a diminishing amount of capital as it moved up.
Seasoned pros, forgive this dreary lesson, but in this case I had a progressively higher amount of calls at each level. In other words, I got longer as Digital Equipment went up. But since the out-of-the-money calls didn't cost as much as the deeper calls (they had less likelihood of serving as a proxy if the stock did not move up over time) the capital outlay was far less if the stock appreciated dramatically.
That's because as the stock went up I sold common stock against the calls, taking the profit in the deeper positions but leaving the upside on. Again, to simplify, let's say I owned 1,000 Digital Equipment July 27 1/2 calls purchased for 4, when the stock was at 30, and 2,000 July 35 calls for 1 1/2 and 3,000 July 40 calls for three-quarters of a dollar.
As the stock advanced to 35, I sold 100,000 shares of common stock, to offset the July 27 1/2 calls. (You can sell the calls outright or you can sell common stock short against them and exercise the calls; either way you get the profit!!) When it got to 39, I sold 200,000 shares of common stock against the 2,000 July 35 calls (same kind of lock-in strategy that I did for the 27 1/2s), leaving the July 40 calls to serve as my potential proxy if the stock broke through the 40-dollar barrier.
For 10 points I looked like a genius. I had booked good profits against the deep calls but also left the upside on with my July 40s. But last week, as the stock hovered around 40, after five months carrying this position, I had to make a decision about what to do with Digital Equipment. Could I afford to take all of that stock in?
Alas, the market made the decision for me. DEC sold off viciously at the end of last week, dropping from 40 to 37. As my 40 calls went out worthless and I had sold common stocks against all of my 27 1/2s and 35s, I was left with no exposure to the stock after expiration, as my short stock position canceled out my deep-in-the-money calls.
My partner, in my absence, bought 300 August 35 calls on Friday, just so we could have some Digital Equipment when the company reported Thursday. That's where the crow came in. Even though 300 calls still represents a substantial position -- the right to buy 30,000 shares above 35 -- I had mixed emotions about the upcoming Digital Equipment quarter.
If it was great, I was going to kick myself because had it reported last week, I would still capture the upside above 40. But now, as I had no August 40 calls -- they were too expensive for my blood last week -- I would only get the benefit of 30,000 shares. I had cut off a lot of my upside by not buying back some of the short common stock before expiration or rolling the July 40s into the August 40s.
Sure enough, the number came out and it was just in-line and I found myself secretly rejoicing that it wasn't a blowout. After all, in the odd business I find myself in, the true enemy of performance is second-guessing, which, like a strong undertow at the ocean, undermines you far more than the stock action itself.
In other words I was gleeful that DEC didn't look like it wasn't going to vault through 40, making Augie call holders rich while I sat back unrequited, nursing my dead July 40s.
Then, after the quarter came out, management issued statements saying that revenues looked good, margins were getting better, and the future was extremely rosy. Uh oh. I was so used to Digital saying negative things it never occurred to me that they would put a positive spin on the darn quarter.
But, there was still the conference call. Those always went badly, I told myself, in a classic bit of second-guess think. Alpha chip sales would be poor. Personal computer sales would be weak. Europe had to be soft. Wrong!
Clean good quarter. Nice p.c. growth. Solid Europe. Ah hah, but how about the seasonably weak next quarter? Surely numbers had to come down?
Nope: Things looked on-plan, they said in answer to questions that before they had dodged or booted.
I looked up at my partner, Jeff Berkowitz, who was also monitoring the conference call, and I said, "Gotta go eat some crow."
So when Digital Equipment opened you found me buying it, and I bought it all day until I rebuilt DEC into a fair size position with a 41 1/2 average. My holdings in DEC were nowhere near as big as they had been, but they were now big enough to stop the kicking of myself for the rest of the day. To some of you this would seem mighty undisciplined, to come in, fully four points above where I could have bought it last Friday, and start chomping away again.
But that's simply not so. Discipline in investing takes many different forms. One of the hardest to perceive is the discipline which says, it does not matter where I sold the stock, it does not matter what my new basis is, what matters is this stark credo: "Do you believe the stock will go up after you buy it?"
If the answer is yes, then discipline says "pass the crow." As the stock went out at 42.5, this was one of those rare times when I left the table without a stomachache from that grim repast.
Random musings: Anyone else out there blown away by Larry Bossidy at
? Guy grows revenues by a billion dollars over six years, but cuts head count by close to 50,000 people. On a revenue-per-person basis that is outstanding. It is also indicative of what is happening with the economy. Bossidy got much more productivity out of far fewer people. I bought the stock when he took the job from
but foolishly elected to take the double, thereby leaving dozens upon dozens of points on the table...Interesting
article about me; portrays me as kind of a cross between
. Would have preferred more of a
morphing, but least he spelled my URL right...Thanks to all of you -- particularly the parents out there -- who wrote to tell me how much they enjoyed my series about getting into the business...
James Cramer is manager of a hedge fund and co-chairman of
His fund holds a long position in
. That is not meant as investment advice. While he cannot provide investment advice or recommendations, he welcomes your feedback, emailed to