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This Investment Has Nearly Doubled… Now What?

It’s been a long break…  I’m excited to be back and appreciate your patience and understanding while I was gone!

When I wrote this blog post, BAC.WSA had closed at $5/warrant.  Yesterday, the warrant closed at $8.03, resulting in a 60% return since my blog post.  The warrant is 90% up from my average purchase price of around $4.17.

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Honestly, I could not have predicted that the warrants would go up so fast or so soon.

What I did know was that Bank of America equity, and consequently the BAC.WSA warrants, seemed way more likely to be under-valued than not, and after reviewing the numbers and investor sentiment against the stock, I felt I had hit value investing jackpot.

It helps that the Oracle himself, Warren Buffett, is also in Bank of America warrants.  His warrants aren’t the same, but actually pretty similar, to BAC.WSA.

I wanted to post an update because the economics of this investment opportunity have changed.

I would not be a buyer of warrants at these levels, but neither would I sell any more.  (For full disclosure, I sold 20% of my BAC.WSA holding to lock in some gains and diversify my portfolio — I was 88% in one security, after all!)

Here’s why:

Why I Wouldn’t Buy: I wouldn’t advise my friends or family to buy the warrants at these levels because simply put, the margin of safety (aka “room for error”) has grown smaller as the price has gone higher.  Even though I still think there is some profit to be made, when investing you should also consider your risk.  A lower margin of safety means greater risk, therefore, I sold 20% of my BAC.WSA holding at a nice ~90% profit but am leaving the rest in.

Why I Wouldn’t Sell: I think BAC stock, and therefore, BAC warrants can go higher.  After all, if the stock hits accounting equity value, then the warrants would be worth around $11.  Further complicating matters are taxes.  If you hold an investment gain for less than a year, you increase your taxable income.  Holding an investment gain for longer than a year can cut your tax burden by up to 20 percentage points or more.  Thus, you get to keep 20% more of your profit if you hold for a longer period.

Put simply, as long as BAC.WSA doesn’t drop more than 20% from these levels when I finally sell after a year, I come out ahead because of tax implications.  Add to this the fact that I think $8 per warrant is still kind of low, and I believe that the odds are that the warrants can still go up.

Another way to think of holding the stock is that the 20% gain you get simply by changing your tax basis is far superior to the performance of most investment managers.

When Would I Sell?  Basically, I’m waiting for one of three things to happen: 1) I hit my long-term capital gains threshold, and will likely sell a chunk then; 2) the warrants hit $11 or higher, which I would think starts to get irrational and I start exiting because of my smaller margin of safety; or 3) I find a much, much more attractive opportunity on a risk/reward basis.

Do you hold Bank of America?  What are your plans for your investment?

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