Herbalife, a seemingly innocent international nutrition firm, has seen its stock price fluctuate since hedge fund manager William Ackman accused the company of being a pyramid scheme in late 2012. But instead of being shut down by the government, Herbalife continued operations uninterrupted. Worse, recent backing by billionaire hedge fund manager Carl Icahn has lent the company some credibility. Now that New York State Attorney General Eric Schneiderman is finally investigating the company, Herbalife’s stock price has dipped yet again, and hopefully for good.
While investment behemoths like Ackman and Icahn can handle volatility, ordinary investors cannot. Investment decisions should not be swayed by the actions of a few fund managers. Investors should rely on personal research and stick to their beliefs about the company. Shareholders should avoid companies that are in the middle of a war between two billionaires since the stock’s volatility will certainly increase without a proportional increase in expected return.
The media have made shorting stocks seem like the work of evil speculators who want to destroy companies. This viewpoint is almost always wrong. When an investor shorts a stock, he or she borrows and sells a stock now only to buy it back later. This means investors profit on a short position when the stock price falls. More often than not, investors short stocks in order to hedge their positions and minimize risk in their well-diversified portfolio, not to purely bet against the company.
That being said, Ackman’s standing against Herbalife is a rare occasion in which the media depicted the scenario accurately. Ackman shorted the stock and took took steps to expose Herbalife as a pyramid scheme. An investigation revealed that Ackman had his team organize protests and news conferences to spread the word about Herbalife.
Even if Herbalife is a pyramid scheme, the average investor should try his best to avoid the stock. Considering the ongoing investigation of Herbalife that has yet to conclude, it would be difficult for an individual with limited resources to determine Herbalife’s legitimacy. Although Herbalife appears to be an easy money-making venture if the company goes under, there is a lingering risk that the company is illegitimate and the short position will suffer. And who wants to be caught in the crossfire of two billionaires, anyway?
Betting on Herbalife is as sure an investment as a trip to the casino. Herbalife’s stock price fluctuations seem random and are the result of a struggle between two super forces. Herbalife should serve as a reminder to investors that the only information that can be trusted is their own — not the insincere assurance of self-proclaimed investment gods.
A version of this article appeared in the Thursday, April 17 print edition. Adam Fazilbegu is a staff columnist. Adam’s Angle is published every Thursday. Email him at [email protected].