Re­bal­anc­ing your port­fo­lio

Finweek English Edition - - INVEST DIY - BY SIMON BROWN

It’s the end of Fe­bru­ary and that means it i s t i me f or me t o re­bal­ance my t wo mo­men­tum port­fo­lios (Top 40 and Mid-cap), so this week I’ ll look not only at the con­cept, but also at the process.

The con­cept i s sim­ple: buy t he pre­vi­ous year’s win­ners and hold them for a year and then again buy the pre­vi­ous year’s win­ners, and so the process goes. At its core is the fact that trends tend to con­tinue for longer than we ever ex­pect and there are many ex­am­ples of stocks that have gone higher year af­ter year.

Mostly, we fear stocks mak­ing new highs, but we shouldn’t. A stock mak­ing a new high to­day has seen ever y pre­vi­ous new high fol lowed by an­other new high and buy­ing the ear­lier new highs would have made one a profit. Trends can con­tinue for years and in some ex­treme cases even decades.

So the mo­men­tum port­fo­lio works on the the­ory that the win­ners carry on win­ning, so we buy them.

For me, the process is as sim­ple as do­ing a scan of the stocks within the Top40 and Mid-cap in­dices, look­ing at just their re­turns (in­clud­ing div­i­dends) over the last year. I then buy the top f ive per­form­ers from the Top40 and the top six from the Mid-cap and hold them for a year.

You can do this scan via most on­line bro­ker web­sites, a chart­ing soft­ware pack­age or even man­u­ally.

The cur­rent Top 40 port­fo­lio holds: Aspen, Capco, Mondi, Naspers* and Stein­hoff, while t he Mid-cap

Brait, Coro­na­tion, Grindrod, Telkom, Om­nia and PSG. The stocks were bought on 3 March 2014 (the first trad­ing day of March last year), and the re­turns at the time of writ­ing have been around 27.5% for the Top 40 and some 43.5% for the Mid-cap. Th­ese re­turns in­clude trans­ac­tion costs and are well ahead of the re­spec­tive in­dices.

The aim of the port­fo­lio is rel­a­tive out­per­for­mance com­pared to t he re­spec­tive i ndices and so f a r I’ve achieved that in three out of ev­ery four years (last year the Top 40 mo­men­tum port­fo­lio re­turned a pos­i­tive re­turn but be­low that of the in­dex).

You sell ex­actly a year later and you then pre­pare to buy the new stocks in the port­fo­lio. There is no stop loss and that is a lit­tle scary, but I’ve found that no mat­ter how I use a stop-loss sys­tem, it never im­proves re­turns.

For ex­am­ple, at one stage in the last year, Naspers* was off some 20% from my en­try but is now up 25%. Had I ex­ited on a stop loss, I would have locked in the loss.

I run the two port­fo­lios over the tax year − 1 March to 28 Fe­bru­ary − but you can pick any 12-month pe­riod and re­bal­ance in a year’s time. You can also use shorter time frames, such as do­ing it quar­terly, but I have found the best re­sults come from a full 12-month pe­riod.

As a last point, I do not use any gear­ing and of­ten get asked why I don’t. The an­swer is that while gear­ing would be great in a year, such as the one just gone, what about the bad years? If the port­fo­lio was geared some seven times us­ing con­tracts for dif­fer­ence (CFDs), and we see the mar­ket off 15% in a year, we would wipe out the port­fo­lio.

Keep an eye on Finweek.com, I will pub­lish the new stocks on­line as soon as I know them.

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