There has been much discussion lately, in the form of thoughtful articles, televised financial commentary and the popular press that it may be time to sell some stocks and take profits. Indeed, the market has rapidly risen to new highs. As a knowledgeable and disciplined investor, you are at least partially immune from the noise coming from Mr. Market. The question remains, however, when should one sell? I am not sure I have THE answer, but with some help from seasoned and successful investors, I can offer some credible guidelines.
For buyers of individual stocks it is not a stock market, but rather a market of stocks. Therefore, since we buy and sell shares of one company or another, the question we must ask in the case of any stock, are the shares fairly valued in accordance with the prospects of the company?
In a recent article that discussed the possibility of selling overvalued stocks, Chuck Carnevale brought us some of the wisdom of Warren Buffett gleaned from the Berkshire Hathaway 1996 annual report.
- "Inactivity strikes us as intelligent behavior."
- "If you aren't willing to own a stock for ten years don't even think about owning it for ten minutes".
- "Investment students need only two well taught courses: - How to Value a Business, and - How to think about market prices"
Chuck offers his perspective,
- "I only recommend liquidating a position if the risk of owning it is too great to hold any longer, or if you come across a compelling alternative that improves your overall portfolio position.
- "With this article I attempted to illustrate that valuation comes in many sizes, shapes and flavors, and each will dictate the appropriate behavior and actions required or necessary to deal with it."
A key word here is valuation, and that is often best appraised using FAST Graphs, which provides a visual story of the stock's valuation over a period of years. Valuation, to refer back to Buffett's remarks, goes hand in hand, with how you view market prices. That is, a stock is low in price if it is undervalued based on the fundamentals. Conversely, it is high priced if its price exceeds its earnings justified valuation.
David Van Knapp
Another Seeking Alpha author whom I highly respect is David Van Knapp. Allow me to quote a recent article on rebalancing of his portfolio.
- "As I look forward to 2013, I think I will be doing some creative destruction on this portfolio as I continue to pursue more diversification and a little higher yield."
This is something I can embrace and I recently did the same thing. To paraphrase what my investment banker cousin recently said, "I get nervous when the market goes down. I get more nervous when the market goes up." With the stock markets hitting higher highs on a regular basis, the risks involved in overvaluation, including a steep correction, are very real.
My Recent Trades
While I hold the belief that the average investor is better off not tinkering with his or her portfolio any more than absolutely necessary, my own overdose of self-confidence leads me to think I can better my situation by doing just that. Correcting this, that is trading less, is a potential growth area for me, as is developing more patience to buy at the best possible prices.
I do not hold up the above as examples of what to do, but rather as simply a record of what I did. I would have liked to sell a bit higher and bought a bit lower. Along with those sales, I also employed some dry powder from dividend and interest income in creating the new positions.
The net result of the above is an increase in the income my portfolio generates and some added diversity. Air Products (APD) is a needed addition to my industrial sector holdings for what I consider proper diversification. Triangle Capital (TCAP) is my second BDC, the other being Pennant Park (PNNT). They produce very high yields.
Dividends 4 Life
I subscribe to the Premium Service of D4L, a Seeking Alpha author who publishes a Dashboard of his holdings/watch list, and a Data sheet on these and other stocks, which he updates weekly. As part of this Premium Service, you also get an alert of the buy/sell action he makes in his portfolio. Here is a record of two recent transactions.
Today, I sold 15% of my MDT shares at a 55% gain. MDT's dividend yield is the lowest in my Dividend Growth Portfolio. I plan to continue trimming my position in the future.
Also, I purchased PG @$78.87/share with a 2.9% yield on cost. My position in this stock now represents 4.9% market value and 4.0% income of my income portfolio.
In his other recent trades, he initiated a position in XOM and added to his position in AFL. D4L is a methodical quantitative investor, and he keeps his trades to a minimum.
One way to keep over trading in check is to do it only as part of a well-defined written plan. Again, I quote David Van Knapp, "As many of you know, I believe that dividend growth investing (any investing) is best done in a businesslike fashion. The DGP [Dividend Growth Portfolio] has what I call its Constitution, which I examine at least once a year and amend as I learn more." Here is the section from David's Constitution, which deals with selling stocks:
Investigate and seriously consider selling any stock for these reasons:
(1) It cuts, freezes, or suspends its dividend.
(2) It bubbles or becomes seriously overvalued.
(3) You receive news of significant changes impacting the company.
(4) It is going to be acquired.
(5) It announces plans to split itself or spin off a separate company.
(6) Its current yield rises above 9 or 10 percent or drops below 2.7 percent.
(7) It underperforms the market in total returns for three years running
(8) Its size increases beyond 15 percent of the portfolio.
Conduct a thorough Portfolio Review twice per year.
The founder of Vanguard and leading proponent of low-cost index fund investing is John Bogle would assert that 15% is a very big number. In a Wall Street Journal video interview, available here, Bogle expresses his views. Bogle believes in diversification, and thinks that a 5% or higher holding in an individual stock can add risk to a retirement portfolio.
Morningstar recently included with its mailing of April Portfolio Reports a Tip, which listed seven good reasons to sell. While on the surface they all sound like good advice, after mulling them over I had some second thoughts. I recall a favorite saying of my first flight instructor, an "old salt" from the coast of Maine and a WWII veteran. Whenever I asked him what to do in a precarious situation, he would reply, "Don't get into a situation like that." While I have no issues with the first two items on the below list, I believe that many of the situations can be, and if possible should be, avoided.
Portfolio Management Tip, Seven good reasons to sell:
1. You need to rebalance.
2. The fundamentals have changed.
3. You misunderstood the fundamentals.
4. The investment is not living up to your expectations.
5. Your investment goals have changed.
6. You can get a tax break.
7. You just can't take it anymore (Even meeting your goals
isn't worth it if you wind up sleep-deprived along the way).
Let me admit to selling for all of the above reasons, and a couple more, which need not be revealed. The good news is that I am reducing my mistakes and the number of transactions I make with careful planning, due diligence and discipline.
Good luck in making your investment choices and in increasing your investing skills.