Many investors who run their own portfolios via their stock brokers often end up with a “neglected portfolio” or become frustrated with the performance of their portfolio, according to Geoff Blount, MD of BayHill Capital.
“In my experience, one of the key drivers of this frustration is that most portfolios managed by private investors suffer from both over-concentration and over-diversification,” said Blount.
“How is this contradiction possible? They typically have a few shares that have done very well and come to dominate the portfolio and many shares that have done very poorly and start to become insignificant in the portfolio,” he said.
“It is important to examine and assess your portfolio at regular intervals to ensure that it remains true to its goals.”
With that in mind, Blount provided eight ideas on what to watch for in your portfolio to avoid potential frustration.
Review winners to avoid over concentration
If shares perform well, don’t be afraid to take some profits, said Blount.
“If the share continues to do well, you still have some in your portfolio, but if its fortunes do decline, at least you have taken some money off the table. No share can outperform the market indefinitely and even the greatest companies will eventually give market-like returns.”
Avoid “Long Tails” through not selling out and buying more losers
Most investors like to look for new ideas in their portfolios and they typically don’t like to sell shares because they reason that either it has done well so don’t sell it, or it has performed poorly so don’t sell as it might bounce, noted Blount.
“Hence, over time, the portfolios get more and more names in them, with smaller and smaller weights. This is called a “Long Tail”.
“You want to avoid long tails.”
To avoid these long tails, Blount recommended that you look at the holdings that make up small fractions of your portfolios, for example 0.2%. This is because even if these shares double in price, they won’t make a material impact on the portfolio’s performance, meaning you should either sell or take them up to a material weight in the portfolio (at least 2%).
“If the original motivation for buying the share is intact, and it’s near term sentiment that has pushed the price down, then top up. If, however, the price has fallen because the original motivation to buy the share has gone, then sell,” he said.
Avoid biases towards well-known large cap shares
“Most investors often have a strong bias to large cap, blue chip shares,” said Blount.
However while they give security, over time, mid cap and smaller companies often outperform large companies so it is vital to ensure you have a few good quality mid and small companies in your portfolio that have attractive growth prospects.
Be aware of single factor drivers in the portfolio
The reason for a diversified portfolio, with several different shares, is to diversify one’s risk: if one share blows up, it won’t sink the whole portfolio. However, make sure that there is not a single common theme or driver of the portfolio, said Blount.
“Common themes to watch out for are a weak rand view (favours rand hedge stocks), consumer stocks (very popular until recently), resource shares, banks and financial stocks, Africa-facing companies, property and so on.”
“This is not to say you shouldn’t take a view on a theme and build a portfolio around it, but just be aware of the risks if a theme dominates the stock selection. A high quality portfolio is one that owns many shares that have different drivers, rather than a single-factor driver.”
Watch rights issues and other corporate activity
“Don’t ignore correspondence that your stockbroker sends you,” warned Blount.
“Sell rights issues or use them to buy more stocks. Understand the impact of mergers or other corporate activity, or taking scrip dividends or cash. Whenever you get some correspondence about a share that you own, call your broker and ask them for an opinion on what to do.”
“They are paid to help you with this.”
Be aware of cash and dividends
“Over the last 60 years, the South African stock market has delivered a total return of 7.7% p.a. ahead of inflation. But only 3.3% of that came from capital growth and, staggeringly, 4.4% of this growth came from re-investing dividend flows. Put your dividends back into your share portfolio.”
A corollary of this is: don’t forget to include companies in your portfolio that have a high, sustainable dividend yield, even if they are not as sexy as the “hot stocks” said Blount.
Beware of minimum trade costs
“Stockbrokers charge a stockbroking fee as well as a minimum fee per transaction. For smaller investors, or smaller trades, beware that the minimum charge does not make the transaction unviable.”
“For example, a R100 minimum charge on a R5,000 trade is a 2% charge. If you are both selling and buying another share, that implies a 4% trade cost which means that the share you are buying needs to go up 4% before you start making a profit.”
Consider your time frame for each share
When you buy a share, note if you see this as a long-term investment holding or a shorter-term speculative trade – this allows you to manage your emotions and better guide your decision if there is a big price shift, said Blount.
“If the share rallies and it’s a speculative holding, exit the share rather than keep hoping for more. Likewise, if it falls and it’s a speculative share, sell out. But if it is a long-term investment, consider buying more.”