Regional Express (REX)

My biggest blunder of the year has definitely been Regional Express (REX).

The initial attraction for investing was the relatively high net profit margin of REX compared to other airlines like QAN and VBA. Running with a load factor (how full their planes are) in the 60% range and still being reasonably profitable made Regional Express worthy of further investigation.

Despite these and other promising elements, such as low earnings multiple, manageable debt, and access to low cost pilots through their in-house training school, REX has been overwhelmed by fuel costs and the downturn in regional Australian tourism to post lower profit guidance for FY11.

My doubts finally confirmed, I offloaded my stock for a 19% loss. What stings the most is that if I was more disciplined I wouldn't have gotten involved with such a dog in the first place.

Lessons learned:

1. Avoid the airline industry altogether. Mad Hedge Fund Trader does a nice job of outlining the key reasons why investing in airlines is a recipe for disaster, even though he recommends some stocks as a hedge against lower oil prices.

2. Uncertainty about future earnings
When I bought shares in REX in late 2010, the most recent shareholder presentation stated that management could not provide profit guidance - which should have been a huge red flag. I should have doubted investing in a business the management couldn't share a short-term expectation on.

3. Vulnerabilities
Even though REX was exposed to some decent upside if passenger numbers grew, and had a reasonable margin of safety thanks to their low debt and good profit margins, I didn't account for areas where the business was vulnerable to factors outside management's control. Fuel prices and the potential for instability in the middle east sending oil prices into orbit meant that REX was never a safe bet because of its downside exposure.

My approach to Value Investing is to find business which are robust to any major downside exposure and selling for a discount to fair value. REX might be cheap, but getting into a business with such huge downside exposure ran contrary to everything I supposedly stand for.