Avoiding underperforming ASX shares can help to provide market-beating returns. The reason is purely mathematical. If you lose 30% of your initial investment in an ASX share, just to break even you’ll need to earn a return of 50%. And it can cost you even more. If you lose 50% of your capital, you need to earn a return of 100% to break even!
Warren Buffett has some great rules for investing in stocks. The following 2 are some of my favourites and simply explain why you should avoid bad ASX shares at all costs:
- Never lose money;
- Don’t forget rule No. 1.
So with that in mind, here is one type of ASX share that I believe investors should avoid at all costs.
Junior explorers – boom or bust
The S&P/ASX 200 Index (ASX: XJO) is made up of a lot of what I call ‘terrible shares’. And a lot of these terrible shares are junior explorers. Now, I don’t have an issue with savvy business folk trying to make it big, but as an investment, junior explorers are a bad idea in my opinion. For every Twiggy Forrest and Fortescue Metals Group Limited (ASX: FMG), there are thousands of stocks you’ve never heard of… And never will again.
Show me the money
My main issue with investing in junior explorers is that, in my view, they have terrible business fundamentals. The companies need to raise (your) capital to acquire tenements and to perform test drilling. All in the hope that the results are favourable. There is no product, no pricing power, no brand, no moat and certainly no operating cash flow.
Given the size of most junior explorers, they can often be more thinly traded than their large cap counterparts. This can cause problems for investors that don’t utilise limit orders to buy these ASX shares. It also lends itself to people with a vested interest in the share price over-hyping the stock.
You work hard for your money
Most people’s money comes from their business or their job. Now I work really hard to earn an income and I bet you do too. Having a punt on junior explorers can be thrilling, and great for the office banter. But at the expense of your hard earned cash, it’s an expensive undertaking.
You should only be investing with cash that you don’t need in the next few years. Drill down even further (hilarious mining pun), and if you do want to try and become the next Gina or Clive, allocate an appropriately small portion of your stock portfolio to it. If it goes to zero, you only want a little! If it goes to the moon, you only need a little!
Man who said buy Kogan shares at $3.63 says buy these 3 ASX stocks now
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Motley Fool contributor Lloyd Prout has no position in any of the stocks mentioned and expresses his own opinions. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.