Q: How should I think about holdings in which I have lost money - should I buy more or sell?
This is a really great question and one that I get asked a lot when discussing portfolio management with DIY investors.
In my opinion, there are three things to think about here. But, before we get to those three things, a word on emotion. I know it can be difficult but, where possible, you should try to be objective when reviewing your portfolio. In the short term, it’s completely normal (and expected!) for markets to fall as well as rise. When I say short term here, I don’t just mean within the span of a couple of days, but rather months and sometimes even years. In investing, the ‘short term’ is typically anything from 3 days to 3 years.
Now that we’ve got that out of the way, let’s talk about the the three things to think about when your portfolio, or a specific holding within your portfolio, has fallen in value.
1. What was your original investment case?
When you’re managing your own investments, it’s important to not just buy and sell investments on a whim. It’s easily done; you come across a fund manager who tells a really compelling story or an investment with a jazzy name that sounds cool. Buying a fund for surface level reasons is like buying a house because it has a nice front door.
You should dig deeper and understand exactly what the investment does, where it allocates and what its objectives are. How does this align with your overall investment strategy and what purpose would this investment serve as part of this strategy? For example, you might allocate to emerging market equities for long term growth potential, or to a long/short fund for diversification.
Having a clear idea of what an investment is, what it does and what its purpose is within your portfolio at the outset allows you to be more objective later. If or when the holding falls in value, you can revisit your why. Do the original reasons why I invested in this holding still stand? Do I still think that this region, market, style or asset class offers potential within my portfolio? Have recent market conditions and world developments changed my view?
For example, let’s say that I’ve invested in emerging market equities because I have a long time horizon of 20 years and I believe in the long-term growth potential of those economies. In the short term, I may see these investments fall in value. Do I think that this short term fall has fundamentally affected the long term growth prospects for these economies? If not, I’d be inclined to retain my holdings and possibly top them up, as I can buy in at a cheaper price.
2. Is the performance in line with relative expectations?
When I say expectations here, I don’t mean the absolute return expectations. I mean relative performance, which is a measure of how your investment is behaving compared to a benchmark, the peer group or the market overall.
Accepting that investment values move both up and down, one thing to be mindful of is whether the holding is keeping pace with the market it’s invested in. Let’s say I’ve bought a UK large-cap equity fund. If the UK market falls, I would expect my fund’s value to fall too. The correlation isn’t necessarily of interest here.
What is more interesting is how much my investment has fallen relative to the market. If the market falls 10% and my fund’s value drops by 15%, I would want to understand why my fund is underperforming the market. There’s always a reason why a fund’s performance differs from the market and it’s often just a case of getting comfortable with this.
For example, let’s say that my UK large-cap equity fund has a significantly lower allocation to banking stocks relative to the market (in this case, the UK large-cap market would be measured by the FTSE100). With banking stocks having had a rough time in recent weeks, I would expect the fund in my portfolio to have fared a little better than the market overall. But if you go back 12 months, when banking stocks were performing well in a rising rate environment, you might expect a fund that’s underweight in banking stocks would have lagged the market at that time.
Equally, it’s important to keep an eye on performance and behaviour relative to a fund’s peer group and sector. What I mean here is not just comparing my UK large-cap equity fund to the market (measured by the FTSE100, for example), but also comparing the fund to the other UK equity funds that are available. These other funds are the ‘peer group’. On TILLIT, we show the performance for each fund in our universe against its peer group. For this example, where we’re talking about UK equity funds, the peer group benchmark is usually the IA UK All Companies
benchmark, which is made up of “Funds which invest at least 80% of their assets in UK equities which have a primary objective of achieving capital growth.” (1)
If the fund is underperforming its peers consistently and it’s not delivering on your expectations, but you do still want to have exposure to that particular market, style, region etc., you might consider swapping out your holding for another investment in the same peer group which you believe will perform better.
Do remember that past performance isn’t a guarantee of future returns and too-frequent investment switching can be detrimental to overall performance.
3. Do you want or need more diversification?
The last thing you need to think about is the overall balance of your portfolio and whether or not you need more diversification. Let’s say that I invested in a high-yield bond fund as I wanted to generate some income within my portfolio. The holding has gone down in value in the short term but, in answer to Question 1, I still believe there is value in having an allocation to high-yield bonds in my portfolio. In answer to Question 2, the fund has performed in line with my expectations versus both its benchmark and its peer group.
On the surface, it’s easy to say that given I still want the allocation and the fund is delivering in line with my expectations, I should use the fall in value as an opportunity to buy more of this fund, as I can do so at a better entry price. However, it is important to ask yourself whether you have enough diversification.
How large is your existing holding in your overall portfolio? If greater than, say, 5-10%, do you want to add in a different high-yield bond fund to spread your risk? Do you have sufficient diversification away from high-yield bonds? Is there a different asset class you should consider to spread your risk further?
Conclusion: it’s never black or white.
While there’s not a clear cut rule for what to do when your investments fall in value, my view of the best approach when reviewing your portfolio or individual holdings is to:
1. Re-visit your original investment rationale (many investors keep a diary for this
2. Look at performance on a relative basis, not just in absolute terms; and
3. Consider the overall balance and diversification of your portfolio.
Above all, try to remain objective and, as always, don’t allow short-term noise to distract from your long-term goals.
Looking for more information? We have over 50 Insight articles available to read on TILLIT, why not take a look? In particular, we have this article on the importance of being clear on your rationale before making an investment.
1. Source: IA Fund Sector definitions, 06/04/2023. https://www.theia.org/industry...
Date of publication: 06 April 2023
The information in this post is not financial advice, it is provided solely to help you make your own investment decisions. If you are unsure about whether an investment is appropriate for you, please seek professional financial advice. You can find more information here.
When you invest you should remember that the value of investments, and the income from them, can go down as well as up and that past performance is no guarantee of future return.