Ask Colin

Do you apply a particular system or approach for a disproportionate stockholding?

The detailed question was:

We are loving your website and the 3 books received a couple of weeks ago. Fascinating and absorbing reading! You've really given us a lot to think about and some clear ways forward in developing our investing strategy. Thank you so much.

I was just wondering whether you had a system for assessing overweight holdings in the portfolio?

Due to an inheritance and years in the DRP about half of our portfolio is currently in  shares in one bank. These pay a good dividend and franking credits but we would like to able to unemotionally assess the holding and make some intelligent decisions about how to manage it.

Do you apply a particular system or approach when analysing such a disproportionate stockholding?

 

First, I cannot legally make any comment to you concerning the bank whose shares you mention, or any other specific company. The comments below relate only to the issue of the size of a holding in general terms. How you apply those thoughts to any particular stock holding or a particular situation is a matter you have to decide for yourself, or seek advice from a licensed adviser.

 

Your narrow general question is “Do you apply a particular system or approach when analysing such a disproportionate stockholding?”

 

The narrow answer is simply: no I don’t because a holding of that size would be outside my investment plan and I have never contemplated having a holding of that proportion. Were I to inherit a holding of a size that was above my plan limit (might be a great problem to have), I would immediately sell it down to within the guidelines in my investment plan. Of course, there could be some special circumstance to do with the specific holding, but I have not encountered such a situation. If I did, I would have to adjust the timing of my action to suit that special circumstance.

 

The issue is to do with risk management. One of the most important ways that we manage risk is through diversification – we spread our portfolio over many stocks and avoid concentration in single sectors. My investment plan guidelines for this (which you will have read in Building Wealth in the Stock Market) is to not invest more than 6% of my capital in any stock and to not hold more than a few stocks in any sector (think above 12% of capital in the sector). If a holding doubles in value (a 6% holding would become 12% of the portfolio, all things being equal), I sell half of it, bringing my investment back to 6%. In the book I explained the psychology behind this. If the stock is not large enough to invest 6% of the portfolio, or I did not for some reason build it that far, I still sell half if it doubles in value. There are several examples on the Stock Investment Journals page of the members website.

 

Now, having told you what I do, it is important to understand that there are many ways to make money in markets and there are many different possible approaches. There are no absolute right answers. Each of us will have a different investment plan, simple because we bring different skills to the situation and we are different people in many ways.

 

For example, a great investor might not have any such diversification guideline and in fact have a deliberate policy of concentration of their portfolio. I am far more risk averse than that and I am not a great investor –they are a very, very rare breed.

 

So, you need to take all this on board, keep studying investing, think long and hard about all the conflicting issues you have to juggle in an investment plan and develop a plan that is right for you. It will take a long time and is in fact a never-ending intellectual journey, that is endlessly fascinating. Nobody can make that journey for you. I hope these thoughts help you work out this issue in your portfolio.  

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