On Price Targets and Portfolio Building

Jeff from Milan (two days in a row for him) asked a question that, despite his being good naturedly heckled, could make for a useful post. He asked a question that I took to be about how to set price targets and time horizons for stocks.

Jeff will not like my answer, but here it goes: I construct diversified portfolios from the top down. My idea of diversified means to always have some exposure to each of the ten big S&P 500 sectors. Embedded in that is the overweighting and underweighting of each of the sectors based on what I think is going on in the world and then filling in those sectors with stocks or funds of different countries, volatilities, cap sizes and so on.

Each holding then becomes a proxy for a certain part of my outlook and so plays various roles in the portfolio. It would be great to be so correct with a stock pick that it starts out as the best proxy and then remained the best proxy for ever. I bought Bank of America (BAC) many years ago thinking it could be held forever and I did hold it for quite a while. Fearing big mergers, I sold it when they announced that peculiar Merrill Lynch deal. I've owned Johnson & Johnson (JNJ) for many years and I hope to hold it forever, but if it ever does something so obviously stupid I would not hesitate to sell it right away.

So a stock can be a very useful proxy, the best way to capture a sector or whatever (obviously, this is subjective), and then something changes either slowly or overnight and a change should be made. Recently, I said goodbye to another longtime friend by selling Plum Creek Timber (PCL). This was more of a slow change in the story, and quite possibly the change may have just been changes of perception, but I lost faith in its ability to act as a diversifier. Additionally, there is probably less need to hold onto as many diversifiers now compared to two years ago even if there is one more scare the hell out of them decline.

One type of trade I have done over the years (and blogged about) is selling down and or buying back up a position. The best example might be Statoil (STO). I first bought it years ago around $14, sold partial positions above $40 twice and bought some back in the mid-teens during the panic. The stock has always been the best proxy (again this is a subjective opinion) so I have continued to want to hold it but at times it became too big and the one time it got too small. I imagine it will have some sort of very fast move again at some point where it gets ahead of itself (like both previous runs above $40) and if that even happens I'll sell it down again.

I tend not to make price targets a top priority. The drivers for making changes tend to be turning out to be wrong about a stock (either it not working out as hoped for or the story changing after having bought it), rebalancing (as mentioned above) or the top down need to make a change in the portfolio (like changing a sector weight or taking defensive action). Another catalyst, and this doesn't happen too often, is the need to work in a new theme like water or infrastructure.

Comments

[Plant the s...:]

What I struggle is weighting best in sector, valuation and outlook with limited time to analyze

Nov 02 11:24 AM