When we buy and sell

[Oggy]

As per our Chairman's recent post, I said I would describe how our old online share club used to decide when it was time to buy or sell, to promote discussion about how this club should approach things.

The key to this is deciding: what is the ideal number of different investments we should hold at any one time?. This is a balancing act.

Risk and reward: As a club we do need several different investments in order to spread our risk, but if we have too many our portfolio starts to look like a tracker fund and we're reducing our chances of beating the market.

Dealing costs: Spreading our money across a large number of shares costs slightly more, due to one-off dealing costs

Analysis: It's harder to keep track of a large number of shares and decide which to sell and which to keep

So it's something we need to decide on, and the ideal number may change as the club grows. In our old club, what we did was something like this:

I think we decided on 5 as the optimal number of investments to hold at any one time. Every month, we would either buy or sell a share. Initially, we would always buy - until we reached our optimum number of shares (5). From then onwards, we would alternate between buying and selling so we always had around 5 investments at any one time. The procedure for selling was similar to that for buying: according to a rota (but sometimes with volunteers), 3 members would each be asked to nominate a share to sell (from our existing holdings). A poll would run for a set time (a week or so), and then we would automatically sell the share that received the most number of votes (chairman gets the casting vote)

Now you might say that this approach lacks flexibility. What if you one month it didn't seem like a good idea to sell any of our shares? A natural concern, and we found that members were ,always keener to buy a new share than sell an old one.

But I would argue that, as an online club, we benefit from having a fixed process that forces us to choose - and hence means we don't get tempted to build up too many different investments. It also releases funds for us to invest in a new share

The questions of how much to invest and how often do we buy/sell are interrelated. It makes sense to try to spread our money as evenly as possible across our investments, but it will not always be practical to do this.

In the short term, our club can't commit to monthly buy/sell decisions because we don't know the level of funds that will be available. But what we can do is come up with a formula that says "We make a new investment once our cash balance exceeds the average of our existing holdings."

Let's say for the sake of argument we decided on a target of 5 investments. We currently have 4 (we should ignore our holding in Share PLC for this purpose) worth a total of £2267.25 - an average of around £567 per holding. So as soon as we have at least £567 in spare cash to invest, we should do so.

Once we go above our optimal number of investments (i.e. we reach 6) then the next decision we take should be to sell one of them. So our number of holdings will then keep switching between 5 and 6 as we buy and sell.

The advantage of this approach is that we have fixed criteria for when we are supposed to make buy and sell decisions, rather than relying on someone to start a discussion and then debate it at length bfore we even get any share nominations! I think an online club such as ours can only be workable with fixed rules like this.

What does everyone think about this approach?

BTW When I do our next valuation (next weekend) I expect we'll have enough funds to make a purchase under the above formula. So the sooner we agree on this process and get a next set of nominations, the better

[garindan]

I just wanted to add something into the mix on this topic. We also need to consider:

...our current holdings and if it actually makes sense to INCREASE this rather than anything else.

[garindan]

I have some thoughts on the way this system worked and the potential upshot in our case.

At the moment we have been building a portfolio. At the time of writing this post (things change so regularly...) my review of our holdings is as follows:

- SHRE - I just ignore this one for the moment and it seems like it might have hit the trough low point

- UU - this is a steady share compared to the rest of our holdings over the time we have had it. It has a reasonable DIVI and seemingly only lost a bit of value last year when the contamination event happened. I've been pretty happy with it to be honest. Currently worth what we paid, exluding the DIVI we have received, so in essence we are up.

- GSK - has been down for a fair while but is in a recovery mode that currently sees it down by only a small margin. Including the DIVI we are up I think.

- ITV - has been in the positive for us the majority of the time and we had a reasonable DIVI. We haven't had this one too long to have a decent appreciation of it yet... Excluding the DIVI we are up.

- SBRY - this is the very unpredictable one. It has been incredibly interesting looking at the value of this one go up and down and in such an weird way. What I have found fascinating is how the value has reacted in the opposite way I would have expected. One example is when they predicted improved trading results - the share rose ~15% or so. Then when the ACTUAL results were posted that basically met the expectations the share price fell! When Tesco put in good results the value of SBRY also rose and when bad results are posted by say Morrison the share price goes down. This has been a real bit of learning... We have been hit by international turmoil, supermarket sector chaos and now the prospect of an Home Retail Group takeover. It certainly cannot be said that owning SBRY has not been interesting. Currently, seeing speculation that the HRG deal might be off the share is about ~12% down. We have received reasonable DIVIs and we are still down overall on the share purchase price. What does the future hold though? What will happen if a deal for HRG is made? What if it doesn't happen? When will SBRY announce the results of the NETTO experiment? Lots of potential scenarios with this company.

So the short story is I am happy holding GSK, UU and ITV. We are doing OK with those. The big question is SBRY. Are we best in or out? Now getting to the scenario for buying or selling. Pretending if we had 5 shares and the 5th is in the order of the three I am quite settled with we'd almost definitely be looking at selling SBRY. In this case it would be for ~13.5% loss (excluding DIVI payments and including transactional fee). Am I happy about that idea? Certainly not! To me there is a chance SBRY will go back to at least the price we paid. If the HRG deal falls through I'd be predicting a pretty reasonable rise in the share value, potentially back to what we paid. I might feel more comfortable selling then but not yet.

The above gives the potential scenario for selling under a fixed rule. If we only have a small portfolio of low amount investments it increases the impact of losses and is hard if not impossible to sustain. I'm very skeptical that having a rule to enforce a sale is beneficial under these circumstances. If we had say 10 or 12 diverse investments and or maybe much larger holdings in less risky shares it may be possible to sustain. Currently we are just not in that situation.

Additionally - I think we should be looking to building a holding of good DIVI payers. Why would we want to sell them? If we have say a diverse set of perhaps 4 DIVI payers that were low risk investments we could continually add to those holdings and increase our earnings. I see GSK and UU as players in this classification.

We do need to also speculate though, as there does need to be some kind of interest element to the club! To me ITV and SBRY fall into the speculation classification. We bought ITV off the back of potential interest in a takeover and their growing profile at getting quality productions in their portfolio. We saw SBRY as a better bet than Tesco (good choice as it happens) and the potential to make a bit on the share price before selling. One is up the other is down... that's the risk.

I have to stop here as I have something else I need to do but there are more thoughts to come!

[borderjoe]

Thanks for this post-it helps me to get my head around it all.

[richard@imutual]

So to follow up on this, let me assume for the moment that the majority of us are happy with 5 investments being the optimal number. That's how many we have now, with the recent purchase of Shell. So if we want to make a further investment in a new share, we'd need to sell one.

My suggestion is that we hold the "sell" vote first, because then we can use the proceeds of that sale for the subsequent purchase, and avoid having unused funds sitting in the bank account. So next steps would be:
- Start the "Which to sell" poll, listing all of our current investments and possible candidates
- Ask for members to nominate 3-4 candidates for our next investment

Thoughts, everyone?

[garindan]

I have to say I am not keen with this idea at all. The trouble I see with this approach is that we will either no longer continue holding shares that might pay a good dividend or we'll end up selling shares repeatedly at a loss, or both at the same time... I don't see where we'd make money unless one of those is compromised.

If this was the strategy in place and we had to vote right now - I'd vote for Shell as it would lock in a profit, rather than Sainsbury, which would lock in a loss. I don't want to sell Shell. Any of the others would also lock in a loss. So we'd take a quick buck on a long-term share and lose the opportunity of income from it, which would (currently) be more in a year than the profit of a quick sell. But why would we sell for the sake of having a poll when we don't actually have to? Trading is about predicting what shares will do and when the right time is to pull the plug and take your leave - whether in profit or not. I don't think it is about arbitrarily deciding it is time to buy and sell. In an AIM market maybe it might work better but we are in a FTSE market.

I can only really see the value of my investment going down over time, even if we sold Shell for a profit to begin with. I would suspect Sainsbury would run Shell close or win in a poll, meaning my fear of continued loss would begin to be realised from the off!

For me personally, the idea of forcing buying and selling of our shares for seemingly no real reason makes it considerably less attractive to be part of the club.

[parchedpeas]

Any reason why we have to sell lock and stock, instead of reducing our ownership down to 33% (or some other arbitrary amount) with a time-scale set in for review before clearing our holdings?

Say, sell down to 33%, hold for a month, if no improvement, drop them totally and invest remaining amount in our best performing share?

[garindan]

Any reason why we have to sell lock and stock, instead of reducing our ownership down to 33% (or some other arbitrary amount) with a time-scale set in for review before clearing our holdings?

Say, sell down to 33%, hold for a month, if no improvement, drop them totally and invest remaining amount in our best performing share?

This might work when we have larger holdings but in smaller holdings like we have we don't really have much leeway for multiple transactions, when considering selling and buying costs. We'll lose ~1.5% of our money on every trade at £525 and at smaller amounts it will be a greater percentage.

That said - good policy to think about when we have more clout in our purchasing

[Richard Frost]

I am not keen on the the idea of restricting to 5 shares only. I would like to see eventually a broad portfolio. With Buy and sell being decided on the merits of individual shares. There is nothing to stop us investing in further shares in the same company if we see them as a good deal.

Like underdog I would like more people to give an input into the CIC. We have 17 members with core contributors to the forum of around 5 people. The remaining need to have a say about how their money is invested.

[richard@imutual]

I am not keen on the the idea of restricting to 5 shares only.

It doesn't have to be 5, but I think as a club we have to have some view as to what the optimal number should be. Otherwise, we just keep buying more shares and end up with so many different ones we won't be able to keep track of them properly. + the other arguments I put forward in the original post.

If this was the strategy in place and we had to vote right now - I'd vote for Shell as it would lock in a profit, rather than Sainsbury, which would lock in a loss. ..... So we'd take a quick buck on a long-term share and lose the opportunity of income from it

I agree that this would be a bad reason for selling. And therefore we can put forward that argument as part of the "Which share to sell?" poll. This was a mistake that happened with our previous club; we couldn't bring ourselves to accept that we'd made a mistake and "take the hit" by selling a bad investment at a loss. So we'd cash in the good shares, and lose out on further growth.

That's not to say selling Shell would be the wrong decision. But we should ignore whatever we paid for our shares and just ask ourselves "Which one is likely to perform the worst in future?".

This will release funds to invest in new opportunities. Which must make sense unless the club takes the view that we already hold the 5 best shares in the entire stockmarket

An additional reason for having this "system" built around an agreed optimal number of investments is that it gives club members regular opportunities to discuss and make decisions. Which is very much the point of the club