Selling Winners and Keeping Losers

A common mistake of many inexperienced financial advisors and investors is in the way they manage their portfolio: selling the winners too early and keeping the losers for too long.

Take Mr Tan for example, a private banking client, who has a unique policy of selling securities with a 10% profit. To him, what goes up will come down and what goes down will come up; based on this logic, all prices will eventually even out.

Unfortunately, this is false. Over the years Mr Tan has been winning the pennies but losing the pounds due to this policy. His portfolio includes blue chip automobile and oil stocks, downgraded junk bonds, and commodity-block currencies. He also has US bank stocks, which he has been holding since the last global financial crisis. When queried about this policy, Mr Tan said that he didn’t like to cut losses and has the time horizon to wait for his portfolio to recover.

At Eu Capital, the way we approach portfolio management and investment selection is different from mainstream institutions. To begin with, we look at each investment as an investment in a business.

A good example is this. Three years ago, you invested in two coffeeshops. Coffeeshop A, located in an inferior location, has a poor tenant mix and doesn’t serve good food. As a result, it has poor patronage. Coffeeshop B, on the other hand, is bustling with business, with full tables even during off peak hours. Business is so good that they are looking to expand. If both coffeeshop managers asked you for more money to invest now, who would you give your money to?

In securities investing, investors can be too fixated on price profits and fail to conduct good due diligence on the underlying business. This is where our financial analysis and valuation skills come into play.

Our conversation with Mr Tan has been challenging, but we understand his concerns. We have advised him not to see selling the losers as cutting a loss, but rather a strategy towards buying better winners that are able to move him closer to his financial goals. However, he was sceptical of our advice, and reluctant to cut his losses and work on correcting the mistakes. As he sees it, the problem lies in the Relationship Manager at his private bank, the person responsible for recommending the ‘right’ products to him.

Everybody makes mistakes. Recently, Warren Buffet sold all his airline stocks due to the coronavirus. Even though he took a huge loss in this transaction, we applaud him for his courage and foresight to recognise that the airline industry will take a while to be profitable again.

Recalling a Lao Tzu quote: “The words of truth are always paradoxical.” When assessing your own portfolio, ask yourself: What are the changes you are willing to make?

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