My TFSA Update January 2019

Last update on Feb. 18, 2019.

Image Credit: rocco constantino / Shutterstock.com

 

In this series, I (Jin Choi) talk about my journey of investing in my TFSA account. If you want to know what a TFSA is, I recommend you read my free book.

 

January Results: Up 0.5%

At the end of January, I had $43,276 in my TFSA account, which was up by 0.5% since the start of the month. By comparison, the Canadian stock market went up by 8.4% while the U.S. stock market went up by 5.9% in Canadian dollar terms. Therefore, my portfolio underperformed.

The majority of my portfolio consists of oil and gas stocks. Oil prices rose from $45.15/bbl to $53.84/bbl (in US dollars) in January, but despite the rise, my oil stocks hardly responded. I believe this reflects the general lack of interest on the part of investors in owning Canadian oil and gas stocks. It’s not enough that there’s good news for oil stocks - other investors still have to make the decision to buy those stocks in order for prices to go up.

Last month, I mentioned that I had made fresh contributions to my TFSA, and had been pondering what to buy. Due to the unusually heavy demands on my current work life, I have yet to make all my intended purchases.  Still, I have made one bet using the cash I’ve set aside. Unfortunately I already believe it was a mistake.

The bet in question consists of my purchase of put options on PG&E Corporation (Ticker: PCG). Earlier this year, investigators found PCG culpable in the sparking of some 1,500 California fires, due to out of date or faulty equipment. Some of the fires led to deaths and property destruction. Reports said the utility would be on the hook for some $30 billion as a result, which is more than PCG will be able to pay. The company therefore filed for bankruptcy protection.

Here’s what typically happens in a bankruptcy:

Since creditors (banks, those claiming damages, etc) are unable to extract cash from the company, they negotiate with the company to extract other types of concessions. This often involves the company issuing lots of new shares to the creditors, effectively transferring most of the ownership to them.

For example, a company that had 10,000 shares outstanding may issue 990,000 new shares and give them to creditors, resulting in a new share count of 1,000,000 shares. Now, let’s suppose that you owned 500 shares in this company. Before bankruptcy, you’d have owned 5% of the company. But after bankruptcy, you’d own 0.05%. So even if the value of the entire company stayed the same post bankruptcy, your stake would be worth just 1% of what it was before. This is why a company’s share price tends to go into freefall once they file for bankruptcy.

But a funny thing happened after PCG filed. Far from falling, the stock price actually rose in the ensuing weeks. I’ve tried to find rational reasons for why this might be occurring, but I’ve failed to find one.

Some people argued that the company is so essential to California, that it will continue as an entity post bankruptcy. I totally agree with that, but that doesn’t explain why existing shareholders wouldn’t be wiped out and be replaced with new shareholders (i.e. the creditors).

Some people said bankruptcy proceedings can take many years, perhaps even a decade. So existing shares won’t be wiped out for a while. While that may be true, the shares are eventually going to head close to $0, so is everyone just playing the greater fool’s game, buying PCG stock in anticipation that others will come later on and buy them at higher prices?

Some people said PCG will hold a lot of value even after bankruptcy. But the only way I see that happening is if PCG doesn’t pay out nearly as much as the $30 billion claimed by the reports. But if that’s the case, why would PCG go through the hassle of filing for bankruptcy?

Having trouble finding any rational reason for the price bounce, I bought some put options on PCG that will expire in a few months. I figured that maybe the trading algorithms haven’t quite clued in to the fact that PCG is going bankrupt. But instead of falling, PCG’s stock has continued to levitate, and considering how far off the bankruptcy proceedings are, I see now that PCG’s stock can continue to levitate for some time.

This is why I regret purchasing the put options. It was a bet on what investors will do with the news regarding bankruptcy, and I was mistaken in my belief that they would act rationally and sell.

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