Should you keep your winners and sell your losers?
Many people are getting their 2011 investment statements and I’m fielding lots of requests from people who want an objective second opinion on their portfolios. Because of the markets, many of these people are tired of losing money and want to see if there’s anything they can do to improve their returns. In fact I am getting enough of these requests that I thought it would make sense to share one of these case studies and my response with all my readers.
Keep your winners and sell your losers
It’s human nature to love your winners and hate your losers. Jack is a prime example of this. He has a portfolio in his group RRSP plan. Here’s how his investments performed last year:
- Bond Index Fund + 9.66%
- Moderate Asset Allocation + 1.88%
- Canadian Equity Index – 8.73%
- Global Fund – 6.28%
- International Equity – 9.85%
Jack’s gut reaction is to keep his winners and turf his losers. In fact, his natural reaction is consistent with most people’s instincts. Jack loves his bonds and hates his stocks. Jack is so frustrated with the stock market that he plans to sell his losing stocks and move more money into bonds.
Would that be your natural reaction too?
Buy low, sell high works better
If you practice keep your winners and sell your losers, you are in fact buying high and selling low which is the opposite of the one strategy that guarantees investment success.
Instead of buying high and selling low, the better strategy to making money is to buy low, sell high. If you think about it, that means selling some of your bonds to buy some equities. The problem is that’s not easy to do. The challenge is your instinct or emotions cause so many people to do the wrong things at the wrong time.
Keep your winners is like chasing performance
Back in 1999, I did a bunch of research on chasing performance for my best selling book, Mutual Fundamentals. I’m not exaggerating when I say I spend a lot of time, effort and money researching whether this strategy works for investors. My conclusion is simple: Chasing performance does not work
Others have also written on some the topic of chasing performance and although the research is different, the conclusion is pretty much the same
- A gloomy year, even for award winners
- When hot investments go cold. If you used asset class winners of 2010 t pick your investments for 2011, you were probably disappointed.
Forecasts are useless
I suggested to Jack that chasing performance does not work and that he may be better off rebalancing the portfolio to sell some of his bonds and buy more stocks. Jack was quick to point out that the forecast for the economy and the stock market did not look too good.
The problem is most forecasts and predictions are wrong and therefore useless. My favorite forecast comes from Dan Borolotti, the Canadian Couch Potato, “Of course, the crystal ball gazing is well under way for 2012. My only prediction for the year is that these forecasts will prove just as unreliable as always. Tune them out, build a portfolio for the long-term, and stick to your plan.”
I could not agree more. I was quick to point out to Jack that I do not have a crystal ball on the future and I am not able to forecast the direction of the markets to any degree of accuracy. In fact, I believe that anyone that puts to much effort in forecasting the future is wasting his or her time and effort.
What do you think about Jack’s strategy and my advice? What are you doing with your portfolio? Are you rebalancing? Or are you keeping your winners and selling your losers?