What does It Mean to "Catch a Falling Knife"?
To catch a falling knife is a phrase used in investing terminology to describe a risky investment strategy. If you buy a stock that is dramatically lowering in value, you do so in the hopes that it will rebound shortly after you purchase it. The danger in trying to catch a falling knife is that the stock will continue to drop, causing you to lose money on an increasingly worthless investment. The phrase is a metaphor based on the idea that if you literally try to catch a falling knife, you may cut your hand.
Experts believe that new investors are most likely to try to catch a falling knife, as it allows you to buy at a low price. However, it can also be a threat to investors who follow a long-term strategy, as they can assume that a plummeting stock will eventually turn around. Trying to catch a falling knife can pay off in the long run, but it is a calculated risk. If you have a large stock portfolio, a certain amount of money can be used for this variety of investment, but it is highly risky to have a large proportion of your investments be of this type.
If you are planning to invest in a falling knife stock, you should carefully consider several factors. First, you may wish to investigate how long the stock has been falling and why it is falling. According to some experts, many freefalls take place when a stock was initially overestimated in value, and are a result of the market balancing. You will also need to figure out if it is mid-freefall or is close to hitting the bottom of its value. This may truly be a guess, but purchasing a rock-bottom stock is a much lower risk than one that has fallen only half as far as it will.
Looking closely at the trends of similar stocks may help you determine whether the stock is a falling knife or one that has already hit the ground. Try to determine if the fall is due to company procedures such as scandals or management changes, or if it is a market-wide issue. This strategy can help you determine the likeliness of a rebound in the stock. Small company issues such as a management change will likely resolve quickly and result in a rebound, while market-wide issues can take much longer to resolve.
To catch a falling knife without losing money requires luck, courage and good market savvy. Freefall strategies are not recommended for those with only a small amount of money to invest, or an undiversified portfolio. However, for investors who view the market as a game as well as a financial opportunity, the risk and chance involved make this an attractive strategy.
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