Showing posts with label improving returns. Show all posts
Showing posts with label improving returns. Show all posts

Friday 5 March 2010

How can the average investor improves his investment returns in stocks?


How can you improve your investment returns in stocks?

The adage, "Buy low and Sell high" and pocket the profit, is well known. I like to also remember it this way: "Never buy high and Never sell low".
The subsequent discussion applies to investing in high quality good stocks bought at a bargain only.

How can the average investor improves his investment returns in stocks? More specifically how can an average investor improves his return to 10% annually? Even better, to above 15% annually and consistently? Let us examine some factors affecting investment returns.


1. Stock selection
This is important. You wish to have a stock that gives you a good total sustainable return over many years. You will need to invest in those stocks with a high ROE of at least 15% or more. Also, these stocks should have good earnings growth (EPS growth) that is consistent and sustainable. Such companies run businesses with a huge competitive advantage over their competitors with a large moat.


2. Buy when the selected stock is selling at a low price.
This is the better way to get superior return - the potential return is higher with concomitant lower risk. Invest in "value stocks". A good portfolio should always have cash available to benefit from a bear market or a correction or panic sell in a bull market/or a specific stock.


3. Taking profit
Profit should be realised from sales of stocks in the following situations:
(I) when the stock is obviously overpriced, or
(II) when the sale of the stock frees the capital to be reinvested into another stock with potentially better return.

Not taking profit in the above situations can harm your portfolio and compromise its returns. In other circumstances, let the winners run.

Underperforming stocks should also be sold early. Hanging onto underperforming stocks is costly too. There is the opportunity cost that the capital can be better employed for higher return. Also, hanging onto these lack-lustre stocks reduces the overall return of your portfolio.


4. Reducing serious loss
When the fundamentals of a stock have deteriorated, sell to protect your portfolio. This decision should be make quickly based on the facts and situations, in order to keep your losses small.


5. Diversify, but not overdoing it
According to Buffett, adding the 7th stock to the portfolio reduces the return without reducing the overall non-systemic risk. of the portfolio. Select the best 6 stocks. If you need to add money to your portfolio, buy more of these preexisting stocks when they are offered at a good or bargain price. If you identify a better stock to invest, perhaps, this should replace one of the preexisting stocks in the portfolio.


6. Asset allocate according to your risk taking ability

It is perplexing to know of investors whose days are affected by the swings in the market. You should not bet your total networth into the stock market. Allocate the amount that you are willing to risk.

Many long-term investors are always riding on a significant amount of gains. This means that they will only lose their capital in very unlikely extreme situations.


7. So far so good. The hardest part: getting wired like Buffett!

To invest like what Buffett, you need to be knowledgeable and able to execute 'coldly' (or cooly) without being affected by emotions. These are among the harder skills to master. Have you wondered what drives this blogger to write on investing? Through writing, rather than lurking, you can focus on the facts and solidify your knowledge, philosophy and strategy.

Admittedly, there is no single philosophy or strategy; but you should have one to guide your investing. It prevents you from over-reacting to emotions and circumstances, that may harm your portfolio and investing returns. As this discussion assumes the portfolio contains only good quality stocks, it prevents you from "Buying high and Selling low" due to falling prices in the market. It may allow you to benefit hugely from the volatilities and follies of the market; making volality your friend.

Understanding and mastering this field of behavioural finance is yet another challenge to higher investment returns for the investors.

Thursday 23 July 2009

How can investment returns be improved?

How to improve on my returns on my investing?

Always keep cash for emergency use. Also, always have cash for opportunistic investing. This is not a problem for those who have constant stream of cash incomes. For others, keeping cash:stock in the ratio of 25:75, gives a return quite close to those who are 100% invested into stocks.

Next, would be selecting the right stocks. Using my QVM method, we aim to select stocks that will give us good sustainable returns for a long time. We should aim for a return of 15% per year, if possible, and always going for high probability events that give high returns at low risks. Returns can also be sought from badly beaten down stocks (undervalued stocks) that will give great returns when they are repriced at fair values.

Maintain a concentrated portfolio. Bet big on those stocks you have conviction in. Do not over-diversify. The company specific risks are fully diversified when you have 6 stocks in your portfolio. An additional stock added to the portfolio after the sixth may lead to lower returns without the benefit of reducing further the risks. The market risks cannot be diversified, but can be partially managed through asset allocation.

It is important to manage the portfolio actively. This also incorporates asset allocation. There will be time when the market is bubbly, when one may need to pare down exposure to stocks, though, never completely. There will be times, when one's exposure to stock will be relatively high, especially at the end of a severe and prolonged bear market.

Always monitor the business of the stocks in the portfolio in your readings of the papers, business magazines, etc. Track their business performance every quarter through their regular financial releases.

Two active strategies are employed to improve on the returns of our portfolio. Firstly, the defensive strategy. This is to prevent harm to our portfolio. This occurs when the fundamentals of the business of the stock have deteriorated, sometimes suddenly, for various reasons. Another reason maybe "creative" accounting. In these situations, sell the related stocks quickly. Do not hesistate. Speed in selling is important in reducing severe damage to your portfolio, by limiting the losses.

The next is termed offensive strategy. Of 5 stocks one invest into, expect 1 to perform exceptionally well, 3 to be fairly well and 1 to do "not so well or badly". You have time to apply this strategy leisurely. There is no urgency as like the situation previously described.

Review and rebalance your portfolio at regular intervals. Perhaps, once per month or even less frequent than this. You may wish to sell or trim the stocks where the prices are too high, reducing the upside potential and increasing the downside risk. You may also wish to sell or trim those stocks where the potential for upside gain is assessed to be low. (Remember you aim for 15% return on an annual basis.) The cash derived from their disposals should be re-deployed into those stocks which have a higher potential for gain.

Sounds simple, but trust me, active investing and active management of portfolio are both challenging and take effort. However, the returns can be good for those employing a disciplined investing philosophy and strategy.