Let’s say you didn’t position your portfolio perfectly. You didn’t take all the potential profits in the Standard & Poor’s 500 when it peaked on May 21 at 1669. You didn’t sell the Nikkei 225 on May 22 at its peak of 15,627. Might even still be holding some Brazilian stocks that you didn’t sell when the Bovespa topped out way back on January 3 at 63,312.
But you do recognize a sell off when you see one. Japan and some emerging markets such as Brazil are in bear markets—defined as down 20% or more—or very close to one. And you do know that as hard as these markets fall, they rally just as hard. In your painful study of the chart of the fall in Brazilian equities in 2013, you’ve also noticed moves in the other direction like the 28% rally from September 2011 to February 2012.
You don’t think these markets have bottomed yet, but you would like to have some cash on the sidelines when its time to jump in
So what do you sell now to build your kitty for those future buys?
Let me use the stocks in my Jubak’s Picks portfolio to suggest two kinds of stocks to think about selling.
First, there are what I’d call the defensive sells. These are stocks that you’re willing to sell now because you think the market has turned against the sector.
I’d put bank stocks in this category. The sector, as measured by the Financial Select Sector SPDR (XLF) has had a great run, climbing 24.7% from December 28 to May 30. Now it looks like it has stalled. Which makes perfect sense because the market now believes that interest rates are going up sooner rather than later and banks don’t do especially well when interest rates are climbing. Higher rates frequently mean slowing economic activity—so fewer loans to make—and higher rates frequently mean that banks will have to pay more to raise money in the short-term while they’re still collecting interest at lower rates from older loans. A less certain economy also leaves banks open to mistakes that can raise the need to increase provisions for bad loans or to mark down securities already owned in investment portfolios.
So, for example, at U.S. Bancorp (USB), a stock that I’ve owned very profitably (a 34.7% gain plus dividends) in my Jubak’s Picks portfolio http://jubakpicks.com/the-jubak-picks/ since March 2010, mortgage originations fell by 3% quarter to quarter in the first quarter of 2013. Standard & Poor’s is forecasting that net interest margins will decline by 1.3% in 2013 and that it will be tough to beat 2012 mortgage banking revenue in 2013. This is a stock that I’d sell to raise cash. And in fact I’ll be selling it out of the portfolio on Monday. (On the other hand, I’d keep my other bank holding in the portfolio Citigroup (C), not because it’s a better bank than U.S. Bancorp but because it’s not. The near-term gains in the price of Citigroup shares are likely to be driven
by the release of yet more reserves against loan losses rather than by the kind of improvements in banking fundamentals that are the basis for gains at U.S. Bancorp. Unless the U.S. economy really hits a wall, I think investors can count on another quarter or two or three of releases from loan loss reserves falling straight to the bottom line at Citigroup.)
Second, there’s what I’d call opportunity-cost sells. These are stocks that you’re willing to sell now because you think the potential upside is relatively small in these stocks versus the potential upside that you might see from buying at a bottom or near bottom.
U.S. Bancorp is also an example of this group. My target on this stock is $37, that’s just 5.7% above the June 14 closing price. (Standard & Poor’s calculates a $34 target price—below the June 14 close—and Credit Suisse calculates a $38 target.) Holding for a 5.7% gain when you can see the opportunity to put this cash to work for a 20% gain isn’t very attractive.
It’s important to also remember that target prices aren’t guarantees—they’re just your estimates of where a stock will trade at some point in the future. The degree of certainty you feel about a target price when you made that projection and when you look at it later should factor into a decision to sell/hold when you’re thinking about raising cash.
So I’d put Johnson Controls (JCI) down as a sell to raise cash in the current market because 1) I think I can do better than the 12.9% return to my target price, and 2) because I think the uncertainty in that target has gotten higher recently. Getting to my target price was contingent on fairly decent second half 2013 auto sales from European automakers—that looks less likely with the most optimistic projections now putting off economic growth in the EuroZone into 2014—and a pick up in orders in the company’s building energy unit. That too seems less likely as interest rates start to tick up creating a drag on commercial construction. I don’t think that either of these doubts rises to the level of major headwind, but given the likelihood of a better opportunity to put cash to work sometime in the next three to six months, I think Johnson Controls is also a good source of cash. I’ll be selling this stock out of Jubak’s Picks http://jubakpicks.com/the-jubak-picks/ too on Monday with a 48.7% gain since I added it to the portfolio in September 2009.
Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. When in 2010 I started the mutual fund I manage, Jubak Global Equity Fund http://jubakfund.com/ , I liquidated all my individual stock holdings and put the money into the fund. The fund did own shares of Johnson Controls as of the end of March. For a full list of the stocks in the fund as of the end of March see the fund’s portfolio at http://jubakfund.com/about-the-fund/holdings/
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