So, you have stocks in your portfolio whose value has dropped. It happens to all of us. No sense beating yourself up about it. This does not mean that it’s OK to ignore them. What you must do is find out why your losers are, well, losing. The reasons will help you decide what to do about each one.
Why we have loser stocks in our portfolio
We invest our hard-earned in stocks we believe will make us money. How do we end up with losers in our portfolio?
- The market is down
- The sector/industry is down
- Seduction of a high yield
- Blinding narrative
- Pink-colored glasses
- Potential risks escapism
- Overconfidence in sustained dividend payments
The market goes up and down all the time, because of recessions, geopolitical tensions, interest rate changes, poor corporate earnings, financial crisis, investor pessimism, etc.
In a down market (think onset of the pandemic in 2020), look at how much your stocks are down. Anything that moves similarly to the overall market doesn’t require immediate attention. It’s normal. They are likely still good holdings that will bounce back with the market. If you review your stocks quarterly, you should be able to spot stocks that fail to recover with the market, warning of other problems.
A whole sector or industry can be down; in a booming economy, consumers spend more, and most companies in the consumer discretionary sector do well. Facing a gloomy economic forecast, e.g., rising inflation or interest rates, or hints of a recession, they suffer. This can explain a stock losing value. If the company has solid fundamentals, it could be a great time to buy more rather than sell. Understanding an industry’s strengths and vulnerabilities will help you detect whether or not the fluctuations are normal and likely temporary, and act appropriately.
A company performing below the market or sector/industry, has problems of its own. It ended up in our portfolio because:
- we failed to see the warning signs during our quarterly review of our holdings
- or we made mistakes when buying it in the first place
While unpleasant, recognizing our mistakes is crucial; it helps us to not repeat them, and gets us to sell our losers confidently.
Seduction of a high yield
A common mistake is concentrating too much on the generous dividend yield prior in your decision to buy or keep a stock. Appealing as a high yield might be, the reality is that it is often a warning sign.
Blinding narrative
We love a good story. Companies tell good stories, growth potential, competitive advantages, diversification, strong management, the sky’s the limit! Overemphasizing the exciting narrative in your analysis is frequent error. Rely on company fundamentals and metrics; they either back the narrative or reveal it as fiction.
Pink-colored glasses
We buy a stock because we believe it can make money. It’s tempting to simply hope for the best and minimize the impact of the worst. It’s a misstep to not pay attention to a company’s flaws or changing fortunes.
Potential risks escapism
It’s easy to overlook the potential risks for a company, preferring the narrative. No company is invincible. Being aware of the risks it faces is a good defense, e.g., awareness of a company’s dependency on the housing market will alert you to monitor its results when interest rates rise. Just as it helps to spot a problem stock and wisely sell it, risk awareness can also prevent bad buying decisions.
Overconfidence in sustained dividend payments
Trusting management to keep paying dividends no matter what is misplaced. Management usually prioritizes its own interests; the company’s financial health (hence their salaries) first, then shareholders. If their plan means a dividend cut, they won’t hesitate.
Another mistake that makes a loser stock more painful is investing massively in a single stock, thus granting it a lot of weight in your portfolio, without considering what a dropping stock price will do to your portfolio.
What to do about loser stocks
Wait? Sell? And when? Never sell your losers simply because you’re losing money. In other words, don’t sell blindly. A 10-20% drop could mean that you were unlucky and bought at the wrong time, e.g., MSFT in 2022. You must find out why you are losing money on a stock.
In a down market, like it was at the onset of the pandemic or the invasion of Ukraine, the best action is to sit tight and weather the storm.
In a down sector or industry, ask yourself, is the company performing worse than the sector? If it is trending like the sector and the reasons why you bought it initially are still valid, think about how long it might take for the sector to bounce back and whether you are willing to wait.
If the company is performing below market and sector/industry, investigate. Is it a momentary drop due to a one-time event? Has the downward trend been in the works for several quarters?
Equipped with answers, you can confidently sell now and not look back, or wait.
Beware! Waiting to break even on your loser stocks might take a long time, requires much higher returns than the drop, and while you wait, your money is idling.
My guidelines for selling a stock
I will sell a loser stock if:
- The company no longer meets my investment thesis.
For example, I buy stock in a company because it shows impressive growth by acquiring competitors. Later, the company shows a trend of weak results, and has abandoned the acquisition strategy.
- The company cut its dividend.
There are exceptions to this, like major events such as the pandemic.
Build a replacement list
Build a list of mouth-watering stocks that you’d like to have. If you’re feeling down about selling losers, buying yourself something nice is a great way to move on.
Original Post
Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.
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