Let’s say you are a dividend investor.
As I write, you had built a dividend-based portfolio that consists of 10 stocks: A, B, C, … H, I, and J. From them, it is normal to find some that are doing okay and some that are not performing as expected. So, the question is this – ‘How do we optimize our stock portfolios so that we can boost their long-term returns?’
Well, this is dependent on how we measure the performance of our stocks.
How Do Most People Measure Stock Investment Results?
Presently, it is common to measure stock performance with capital gains.
For instance, if a person bought a stock at $10 a share and his stock has risen to $20 a share, that person would deem his investment to be successful. However, if his stock falls to $5 a share, that person could see that his investment had not been successful and would write it off as a failure. Thus, the measurement is:
Success = Stock Price Increase
Failure = Stock Price Decrease
If a person measures his stock performances like this, he will have the tendency to trade stocks. He may buy stocks in momentum and would sell to cut losses, if his stocks fell in prices. Also, he could sell off his stocks, if he believes that some news or events could potentially have a negative impact on his stocks.
As such, he could buy or sell stocks based on news and anticipation. Good news would prompt him to buy stocks and bad news may trigger him to sell stocks. In this light, it could explain why the stock market is volatile. The volatility is larger in markets that could be traded with leverage such as option trading, CFDs, and share margin financing (SMF).
The above is not what I do personally for my own portfolio.
How Do I Measure Stock Investment Results?
Personally, I don’t use stock price movements as my measuring tape for the ups and downs in stock prices is not something that I could control. Besides, I’m not a stock trader who trades for short-term profits. I’m a long-termer, who intends to keep whatever I had bought for long-term dividends and business growth.
So, my approach in assessing stock performances would be different.
My basis of assessment is on the stock’s income productivity for the long-term.
Thus, here is what I do for each stock that I own after investing in them:
On a quarterly basis, I’ll reassess the stocks’ fundamentals, by asking three easy questions as follows:
1. Have their business fundamentals changed significantly after I invested?
2. What are their latest financial results and position after I invested?
3. What are the latest status of their growth initiatives after I invested?
So, let’s say, I have 10 stocks in my portfolio, I would separate the 10 stocks into two categories. The first is where their fundamentals were either intact or have strengthened. The second is where their fundamentals have deteriorated. From them, I would consider selling off stocks that had deteriorated in fundamentals.
Then, from my pool of stocks that had either maintained or strengthened in the business fundamentals, I would recalculate their valuation ratios based on their current stock prices. If the stocks had become undervalued, I would consider an increase in their position, by buying more of their shares. However, if the stocks become fairly valued or overvalued, I would usually keep them. But if my stocks had become ridiculously overvalued (like spikes), I would consider selling them.
So in essence, here is how I manage my portfolio:
Business Fundamentals Deteriorated = Sell.
Business Fundamentals Intact + More Undervalued = Buy
Business Fundamentals Intact + Fairly Valued = Most Likely Keep
Business Fundamentals Intact + Super Overvalued = Sell
In this manner, I can consistently improve the fundamental qualities in my stock portfolio. I’ll sell stocks that have deviated in their fundamentals, recycle capital from these disposals, by reinvesting them into stocks that are better in business fundamentals. This could allow me to boost the income productivity of my own stock portfolio over the long-term.
So ultimately, I don’t buy or sell stocks based on news and anticipation. I buy or sell stocks based on their business fundamentals and valuation.
Now, the questions are:
1. How do I assess the business fundamentals of a stock?
2. How do I value a stock?
Here, I have prepared a free training session which is as follows: