Rebalancing your portfolio
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.