3 Lessons BP Should Teach You

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The Gulf oil spill has cost thousands of people their livelihood and caused billions of dollars in envrionmental and economic damages. And with nearly $90 billion cut off BP's (NYSE: BP  ) market capitalization, the company's shareholders have certainly taken it on the nose as well.

As painful as the oil spill and its aftermath have been, investors can take some valuable lessons from the BP episode. Even if you don't own shares of BP, you can help yourself avoid a similar catastrophe for your portfolio if you learn from this experience and apply these lessons to your own investments.

1. Stocks fall hard.
It's sad but true: Stocks usually take months or even years to rise substantially, but when they fall, they can plummet in a matter of weeks or days. It took only six weeks for BP to lose half its value. To put that in context, the last time BP shares traded below $30 per share, adjusted for splits, was 1996.

That phenomenon isn't limited to BP. Fannie Mae (NYSE: FNM  ) and Freddie Mac (NYSE: FRE  ) , which just decided to delist themselves from the New York Stock Exchange, lost 98% and 99% of their value respectively in just two months between July and September 2008. Countless other companies, from GM to Enron to Worldcom, saw similar drops at the end of their illustrious histories.

Yet even though stocks fall quickly, they often don't fall so quickly that you can't get out at reasonable prices. A week after the spill, you could have gotten out of BP with a 5% haircut. Fannie Mae and Freddie Mac had been falling for months before their final nosedive to penny-stock status. You have to pay attention and come to the right conclusion about whether a price drop is a cheap opportunity or a value trap, but if you do, you can avoid some of the worst losses imaginable.

2. Dividends can go away.
Another key lesson is that no stock is so secure that its dividend is bulletproof. BP's decision to eliminate its dividend in favor of establishing an escrow account to pay claims is just the latest example of dividend killings that have been happening especially frequently over the past two years.

Last year, General Electric (NYSE: GE  ) shocked longtime investors by cutting its dividend by two-thirds. Dow Chemical (NYSE: DOW  ) , which had paid uninterrupted dividends for nearly a century, made a similarly deep cut in its payouts. And perhaps most notably, financials like Bank of America and Citigroup, long seen as potent income-producing stocks, had their dividends cut almost to nothing by the federal TARP bailouts.

You shouldn't give up entirely on dividend stocks. But betting the farm on any one particular stock is a bad idea. No matter how much of a sure thing a stock may appear to be, all it takes is one mistake to have it all come crashing down.

3. Don't double down on company stock in your 401(k).
Many 401(k) plans offer shares of employer stock as an investment option. That may seem like a no-brainer; after all, you probably know more about your own company than any other stock you could invest in.

BP employees are among those who have such an option, and unfortunately for them, they've taken full advantage of it. According to Brightscope, BP stock is the most popular investment among the company's workers in their 401(k) plan, at a whopping 32% of plan assets. No other investment option comes close.

BP isn't the only company whose employees arguably have too much faith in their employer. Within the oil industry, ExxonMobil (NYSE: XOM  ) and Valero Energy (NYSE: VLO  ) employees have far more exposure to employer stock even than BP.

The problem with putting your money into your employer's stock is that you're already financially dependent on your employer for your paycheck. Putting most or all of your extra cash into employer stock creates a double-whammy when something happens to your employer.

I haven't seen any class action lawsuits filed on behalf of BP employees yet, but it's just a matter of time. Other company employees, from Ford to Citigroup, have sued their employers when their stocks fell. Even if those suits prove successful, which is far from a sure thing, the safer alternative is simply to limit your employer stock exposure to a small portion of your 401(k).

Learn 'em well
If you're a BP investor, then you might feel like it's too late to learn from your mistakes. But actually, making mistakes is a key element to building experience as an investor. And even if you've never owned a BP share in your life, paying attention to the BP story could help you if you ever face a similar situation in your own portfolio.

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Fool contributor Dan Caplinger has narrowly avoided many value traps, though he owns shares of General Electric. Ford Motor is a Motley Fool Stock Advisor recommendation. Try any of our Foolish newsletters today, free for 30 days. School's never out for the summer with the Fool's disclosure policy.

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  • Report this Comment On June 21, 2010, at 6:31 PM, Pandorabelle wrote:

    Those are great points and lessons, however BP is a relative exception in the regard that it may be one of very few companies whose decisions and misteps can result in this magnitude of varied and far-reaching damages. BP's actions have caused massive death and destruction of wildlife, loss of human lives and livelihoods, economic hardship, severe environmental pollution and toxicity, and a potentially crippled eco-system in the Gulf region (if not much more widespread) indefinitely. All of this with NO END IN SIGHT. As much as the offenses of the banks and contrived products may have cost our economy, to my knowledge there were no deaths or environmental repercussions from that mess. This monster has tentacles that reach into human pockets, hearts, land and sea, has no mercy for any of the innocent life it smothers, and there is no indication that it will be over anytime soon. In fact, it is likely to become much worse before it gets better.

    We are all partly responsible as we all rely on the oil to some degree, but we have the choice to flail or unify in our finest hour. If we commit to minimizing that dependence and chosing eco-friendly options, this debacle has the potential to be a springboard for transforming the way we live for the better.

  • Report this Comment On June 22, 2010, at 9:57 AM, Purpleheartfool wrote:

    Why the Obama administration forced (or at least denied BP authorization to drill in shallower, safer water) BP to drill in unknown territory (5,000' deep ocean water) and then failed to supervise/overview their operation is a mystery. While there are a plethora of reasons that this disaster has magnified from an incident to a catastrophe, the bottom line is that the United States needs petroleum for sustained prosperity.

    I find the timing of the incident (coincident with the President's opening up further offshore drilling areas) suspicious (could there be people who would manufacture a disaster to further their agendas?). Rahm has stated that no crisis should be wasted. What better way to change national policy than to build on a disaster (manufactured?) and push a "green" initiative.

    And then to compound the problems by throwing thousands, maybe even hundreds of thousands of people out of work by issuing a moritorium on ALL drilling in the offshorer waters during the worst economic times in our lifetime has to be a fiscal blunder of epic proportions.

    As an avowed Capitalist, I find that the policies of this White House are frightening. The government has nationalized much of our economy (banks, auto manufacturers, health care and now threatening to "seize" BP or energy industry). I fear there may be a Greece-like insurection when the people finally realize what Obama is doing. This is a good time to review our Constitution and see if there is any thing in there that might be helpful if the government gets too overbearing (see Second Amendment). Where government fears the people there is Liberty, where the people fear the government, there is tyranny! (Kudos to TJ).

  • Report this Comment On June 22, 2010, at 2:55 PM, pkluck wrote:

    Counterpoint: I've invested heavily in my 401(k)s through and with my employers stock, in some cases up to 65% in company stock and I've made a killing. There obviously is risk but life is not without risk. I have investments outside my retirement accounts but they haven't done nearly as well. If you work for a solid company the risk is not that high. The US is going to be dependent on oil for decades and since the US refuses to use the oil it has I'm buying heavy in the oil industry. If you limit supply the price has to go up, when the world comes out of this recession demand for oil will increase dramatically. Obama has stated he would like to see a gallon of gas at $5+ and I think we'll see it within 5 years.

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