To Sell or to Hold (Part 1 of 5)
http://forums.prospero.com/n/pfx/forum.aspx?tsn=1&nav=messages&webtag=ws-naic&tid=27826&redirCnt=1
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Introduction
Decisions on whether to hold or to sell are rarely easy, and often there are no "right" answers. Everyone makes mistakes. Those who are wise learn from their mistakes.
Both individuals and clubs face the question of whether to sell or to hold stocks numerous times during their years of investing. If stocks are carefully selected, sell decisions are apt to be less serious and less frequent.
Although NAIC investors adhere to a buy-and-hold philosophy, they should not buy stocks and forget them. Over time, the management,industry, political climate, or economy can change. Sometimes, an original SSG may have included overly optimistic judgment. In either case, the original SSG needs to be adjusted.
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1. Guidelines for when to sell
2. Guidelines for when to hold
3. Common selling mistakes
4. Common holding mistakes
5. Worksheet to aid in making decisions on whether to sell or to hold.
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When to Sell? (Part 2 of 5)
First, we'll deal with when to sell.
Arguably, the most important reason for selling is because you need cash for retirement, college education, or other life events. You will still need to choose which stock or stocks to sell.
1. You could sell a stock that will improve your portfolio's diversification. You may want to sell some of the shares of a stock whose value exceeds the percentage of your portfolio that you set for it. For example, if one stock out of your portfolio of 15 comprises20% of the value of your holdings, you may want to sell some of its shares.
2. You could maximize your potential return by selling those stocks with lowest potential total return. Be sure your SSGs and PERTs are updated. Sort your portfolio on projected total return.(Click on the thumbnail projtr.ppt below to open up an example. You will need PowerPoint or the PowerPoint viewer to view this attachment.) Remember some of those stocks with potentially lower returns may be your least risky stocks.
3. You could sell a stock that will improve the quality of your portfolio. For example, consider selling stocks with erratic sales and EPS growth as shown in Section 1 of the SSG.
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When to Hold? (Part 3 of 5)
Let's talk about when to hold a stock.
I won't dwell on this, as it mostly follows from the selling guidelines. If you don't sell, you've made the decision to hold. There are just a few points I want to emphasize.
1. Hold a stock when there is temporary bad news. That is, if the bad news concerns a problem that is short-term in nature, consider holding the stock or even adding to your shares. This is easy to say, but it is not always easy to determine if the problem is temporary or long-term. If you read all you can about the company, its competitors, the industry and the economy, you will be better able to determine if the problem is temporary or not. Again, if you keep notes on your companies, you will understand them and the industry much better. Review your notes to help you decide if the problem may be long-term or not.
2. If it is near the end of the quarter, consider waiting to see the earnings release, especially if it's a high quality company - however you define quality. Some companies provide indications of what the sales and earnings are likely to be before the end of the quarter. In those cases, changes are likely to be built into the stock price. Some companies do not do this, so you may not know about new products, changes in growth an so on until after the earnings press release after the quarter ends.
3. Hold a stock if the price is down, but the fundamentals are strong. In the long run, the price will follow the fundamentals. In the short term, it may not. This may be an opportunity to add to your position.
Do you have any comments or questions?
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Common Selling Mistakes (Part 4 of 5)
Let's talk about some common selling mistakes.
Although some mistakes in selling or holding stocks are due to lack of knowledge, most are due to emotion and/or irrational thinking. A vast collection of research shows that people often process complex information illogically. Thus, it is not unusual for people to make selling and holding mistakes. Some common selling mistakes follow.
1. Selling a stock just because the price goes down when the fundamentals remain solid. Some investors lose confidence in their judgments when a stock price goes down. They may adjust all SSG judgments downward due to the doom and gloom they feel from the downward price movements. During this last bear market, there were many comments on this Forum and on the I-Club-List indicating pessimism and fear. Think about how you feel when you check your stock prices and see lots of your stocks went down or one stock went down a lot or your stocks have gone down day after day after day. Do you feel happy? Worried? Nothing?
If the fundamentals remain sound, you may want to add to a holding, as buying at low valuations can bring a high return when investor fear and pessimism dissipates. NYSE stock prices fluctuate almost 50% in a given year on average, so don't panic if the price drops for no rational reason.
2. Selling a stock when there are short-term problems. Evaluate the long-term impact to prevent making sudden decisions that you may ultimately regret. Is this a company-specific problem? If it's due to the industry or economy, the problem is less likely to be long-term. Some company-specific problems may be short-term in nature too. Review your notes.
3. Selling winners too soon to "lock in gains." Investors sometimes become afraid that their winners will collapse if they hold them. They want certainty, so they sell out of fear. If you sell all your winners, you will be left with a portfolio of losers. Would you lay off your most productive employees when they exceed your expectations? Should your favorite baseball team trade its best player just because he has become such a big winner?
4. Selling a stock when its price has reached a predetermined price above or below the current price or your purchase price without regard to fundamentals. An executed stop-loss order will bring you less money than a sale at the current price. A limit order at a higher price, without regard to the fundamentals, may generate additional taxes and eliminate your chances of future gains. It doesn't matter where the price was when the stock was purchased. It matters where it is headed, and ultimately it will follow the fundamentals.
Do you have any experiences that you are willing to share?
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Common Holding Mistakes (Part 5 of 5)
Let's talk about some common holding mistakes
1. One mistake is to hold grossly overvalued stocks. Even the best run companies can become overvalued and be poor investments despite their good fundamentals. As soon as something diminishes investor enthusiasm for the stock, the price can plummet. Remember what happened with the computer hardware companies during late 1990s and early 2000? In the attached hardware.ppt, you can see how the prices of some well known hardware companies skyrocketed and then plunged when the Internet bubble burst.
We know we shouldn't hold grossly overvalued stocks, so why do we do it? A few reasons follow.
Investors often become attached to their stocks and see them through rose-colored glasses, particularly if they have owned them for many years and have large gains. Long-time employees who own shares of company stock are especially prone to attachment.
Some Investors avoid selling stock that is grossly overvalued to avoid paying taxes. By holding an overvalued stock, they assume more risk. Remember that you will have more after-tax funds if you sell when it is overvalued than if you sell after the price comes back to Earth.
Greed often blinds investors. They continue to hold stocks that are substantially overvalued, because they hope that the stocks will become even more overvalued. This is wishful thinking.
2. A second mistake is to hold stocks with deteriorating fundamentals. Sometimes you may buy a stock for sound reasons, such as growing fundamentals, but the company or industry subsequently changes. If the reasons you bought the stock no longer are in place, don't hold it. Ask yourself if you would buy the stock today under the current circumstances. If the answer is "no," holding it is likely a mistake. One example is the telecommunications industry. Can you think of other industries or specific companies where it changed?
Many investors become "married" to stocks and don't want to sell them even when the fundamentals deteriorate seriously, as they see their stocks through rose-colored glasses and wait for the company to turn around. This attachment is even more likely when it is the stock of one's employer, as it may seem disloyal to sell it. The latter situation is even more risky, as one could lose both employment and stock value if the company's condition worsens. You should have no sacred cows. It is prudent to cut your losses when things go wrong.
The difference between average and above average portfolio performance can hinge on what an investor does after making mistakes. All investors make mistakes, but most don't want to admit them. They focus on the amount of money they spent on the losers, and as long as they don't sell, they can cling to the hope of getting even. This strategy may cost money, as tax savings might be realized if the loser were sold to offset capital gains. The past cannot be changed; what matters is the future. You don't have to prove you were right, but you want to keep what you currently have. What is the best investment for the money? Do SSGs and SCGs on other stocks to see if another stock would provide a better return and less risk. Learn from your mistakes and move on.
Cognitive dissonance is the discomfort that is felt when someone encounters information that does not support a past decision. Investors have access to much information on the Internet, and there is data that will support almost any point of view. When investors encounter information that does not support a current holding, they tend to filter it out or discount it and focus on positive information. By doing so, they avoid cognitive dissonance. When I'm making notes on one of my companies, I find I have a tendency to filter out the negative news or risks. It is something I have to watch in myself.
3. When someone inherits a portfolio from a spouse or parent, misplaced loyalty can cause that person to hold investments that are not appropriate for his or her current circumstances. For example, the portfolio may be full of income investments when the inheritor needs growth stocks. The inheritor identifies the portfolio with the deceased and views changes to it as betrayal. It is important to realize that the loved on wanted you to make money, not to hold those investments forever.
4. Sometimes a stock can become a large percentage of one's portfolio. It may be overvalued or the company's fundamentals may have grown rapidly. Consider adding to other stocks in your portfolio. If you don't have money to add to other positions in your portfolio, consider trimming back the number of shares of the dominant stock, especially if it is the stock of your employer.
5. Some investors think that "buy and hold" means "buy and forget." They don't keep up with their companies and don't adjust their SSGs.
Have you encountered other holding mistakes? Do you have any comments or questions to share?
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Defensive and Offensive Portfolio Management (Ellis Traub)
http://biwiki.editme.com/portfoliodesignandphilosophy
Portfolio Management
Portfolio Management is the buying and selling of stocks primarily based upon their fundamentals and secondarily based upon their valuation to optimize your portfolio's return.
After you've purchased a stock
We'll assume you have purchased a selection of 12 stocks that are well diversified by size of sales, sector, & industry. This is the job of BetterInvesting's Stock Selection Guide & Stock Comparison Guide.
These forms aid you in finding a quality company at a reasonable price. Now how do you manage them?
Portfolio Management Terms
Two terms you will constantly run into are defense and offense. These terms are used by Ellis Traub in hisToolKit 5 manual and in his book, Take Stock. They are taken from his experiences playing football.
Defense is practiced when the other team has the football. Withexcellent defense you'll prevent the other team from ever scoring and the worst you'll do is end in a tied game 0 - 0. With poor defense you could lose 0 - 70. Defense is important. Very Important.
Offense is practiced when your team has the football. It earns youpoints. If you have a strong defense and a strong offense could win 70 - 0. Defense prevented them from scoring any points and offense scored you a lot of points.
PERT Report
The PERT Report is the primary BetterInvesting tool used to follow a portfolio. To learn more about the PERT Report, click here.
Defensive Portfolio Management
With a portfolio of twelve stocks your goal will be to monitor their quality by quarterly checking that their fundamentals of sales, pre-tax profit,and eps growth and pre-tax profit margin are meeting or exceeding your forecasts.
This is called defensive portfolio management. If you don't check on your stocks and one develops a serious problem you will be holding a stock whose price is not rising because sales or earnings are not rising. If you sold this stock and bought another whose sales and earnings are still rising you would see a price increases. By holdingthe troubled stock you lose the potential return from the healthly stock.
This damage from holding a fundamentally flawed stock is the most important problem to avoid.
Offensive Portfolio Management
Once you have checked that your stock's fundamentals are intact you can proceed to offensive portfolio management.
The other case you'll have to look out for is when the stock's price gets way ahead of what its sound fundamentals will support. It has become grossly overvalued. Another way of looking at this is that the price has climbed much further than one would expect and will either come back down or just stay there until the fundaments catch up with it.
You could replace this fundamentally sound stock with another of equal quality whose price is in line with its fundamentals or behind its fundamentals and capture the excess profit of the first stock. You'd be capturing some extra profit.
Replacing quality (fundamentally sound), grossly overvalued stock with stock of equal quality and fair value to capture excess profit is called offensive portfolio management.
It is less important than defensive portfolio management, but to obtain maximum return potential you'll need to practice both. You don't have to perform offensive management. You must do defensive management.
Monitor Diversification
You started your portfolio with guidelines for the number of stocks you'd like, the maximum percentage of the portfolio you'd like in one stock and a desire to not be concentrated in too few sectors or industries.. You need to check these values periodically
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