One of the most important things a good investment manager possesses, and something many financial salespeople and DIY investors lack, is what is called a sell-side discipline. What this means is that there is a calculation or a specific set of rules to decide if and when to sell a position. This discipline helps protect against emotional decisions that can wreak havoc on your portfolio. Without it, investors often wait too long to move their money to protect against overexposure or to shift into a new investment that appears likely to produce superior results going forward. Without this strategy, investors often deceive themselves with thoughts like:
- “I’ll sell when I make back what I put into it”
- “I can’t sell, the price is at a low” or
- “My dad or mom gave me that stock”
These “reasons” can actually significantly harm portfolio performance. History is peppered with lessons about stocks that never made it back, but that many investors held onto until the bitter end.
To have a sell-side discipline you need to have ongoing and regular monitoring of your investments. This sounds like a no-brainer but many consumers are surprised to learn their salesperson/investment advisor does not have an obligation to review investments after a purchase has been made. Working with a Registered Investment Adviser (RIA), who must act as a fiduciary for you can help. Assuming you do have an ongoing review of your investments, you should ask what your advisers “sell strategy” is and understand why he/she may recommend selling a position.
Two of the valid reasons to sell a position are overweighting and underperformance.
- Overweighting is when a position has had strong performance and now represents too high a percentage of your portfolio, resulting in increased risk. These sales are called taking profits.
- Underperformance typically means the investment is lagging the performance of other similar investments. Lagging performance can be subjective, so it is important to set specific percentages or numerical limits to trigger the sale. We often see portfolios with nearly half the positions underperforming their peers.
Buy and hold is a good concept, but there are good reasons to decide to sell. The key concept is to have a well-crafted set of rules to determine when to sell a position. Investors need to inquire about, and understand these disciplines in the advisors they seek.