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Some investors will purchase a stock when its price dips, allowing them to get in on lucrative names at easier entry points. Although there are plenty of success stories from investors using this method, it may not always be a smart idea.
“Here’s the hard truth that nobody wants to say out loud: Buying the dip isn’t always the smartest thing to do because sometimes the dip is there for a reason and stocks drop because they genuinely overvalued or fundamentally broken,” Wall Street veteran Kenny Polcari argued on Trader Talk.
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Polcari cited former hot investments, like Enron and Lehman Brothers, as examples. After years of prosperity, Enron shares saw a continuous decline from August 2000 to December 2001 as the company dealt with an accounting scandal. By the end of 2001, shares were priced at mere pennies and the company filed bankruptcy, marking the then-largest Chapter 11 bankruptcy in history.
Lehman Brothers superseded that claim in 2008, reporting $639 billion in assets at the time of filing. Those who invested in these companies saw severe losses.
“Investors kept buying those dips, believing the market was overreacting right up until the stocks hit zero,” Polcari recounted of the two companies. “Now, buying the dip should be a disciplined strategy, not a blind religion.”
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It’s not that buying shares when they’re low is a particularly bad move for investors hoping to see significant returns — it’s about ensuring those dips are not indicative of grimmer fates for the company.
“Successful investors look carefully at earnings, revenue growth, debt levels, competitive advantages, and overall market conditions,” Polcari continued. “If you’re buying dips just because prices fell, you’re gambling, not investing. Before you put your money in, ask yourself: Why did the stock drop? Did the company miss earnings? Or is it a broader market correcting temporarily if the fundamentals are still strong?”
The Wall Street veteran argued that an investor needs to evaluate if the long-term valuations of the company make up for the current dip in share prices. Doing research into the company and its projections should reveal if buying at the dip is a smart financial move or if the stock was “overpriced from the start.”
“The smartest investors understand the difference between price and value,” he said. “They don’t automatically jump in every time the market pulls back. They patiently wait for genuine opportunities using discipline, not emotion, as their guide.”