To succeed and beat the market as an investor, your best bet is a buy-and-hold strategy. Traders who jump in and out of stocks constantly invariably miss the market's biggest gains, and people who get skittish and sell during short-term dips don't get to be part of the rebounds. So when a stock you own takes a tumble, you should take a breather and do nothing.
But what, asks listener David, should you do if the factors behind that tumble have you questioning the reasons you bought the stock in the first place? What if, as a buy-and-hold investor, you just don't foresee this losing stock performing as well as other investments in the next few years? Should you sell and reallocate the cash to a more promising investment? In this segment from MarketFoolery, host Chris Hill and senior analyst Ron Gross talk about the circumstances in which it's not so bad to cut your losses.
To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. A full transcript follows the video.
This video was recorded on June 17, 2019.
Chris Hill: Question from David Burton, who writes, "I'm a relative newcomer to investing and have found The Motley Fool podcasts to be invaluable. Thus, I became a member of your Stock Advisor service." Welcome! "Learning every day, keep up the great work. I often hear the guidance, to not sell when a stock falls and to hold it for an extended period to ride out the drops, which seems sound in general, but I keep asking myself, if I don't believe a stock will recover as fast as other investments are likely to grow, then is it not wiser to accept a loss and reallocate the capital to a stock that is likely to grow faster? I have shares of Swedbank that have been hit by a money-laundering scandal."
"They lost 35% of their value within two months. The underlying business is likely to recover, as it is a well-capitalized bank that I believe in for the long term. But for the next two to three years, I believe the stock price will struggle to beat the market. I could hold and eventually not realize a loss, but is it not wiser to sell the stock at a loss and move my capital to other stocks that I believe are likely to grow faster in value than my current holding? Your perspective would be greatly appreciated." Great question!
Ron Gross: Yeah, for sure! I feel like he actually answered his own question in a roundabout way. Whether a stock has a gain or a loss on it is absolutely irrelevant to whether you hold that stock or not. It all is about the future. And in this particular case, it sounds like, A, I'm not sure you want to be an owner of a company involved in money laundering. You've got to think that through. B, it sounds like he's saying he thinks it's going to be dead money for the next two or three years, or if not completely dead, certainly not market-beating money. At any given time, you want your portfolio to be allocated in a way that gives you the best fighting chance of beating the market. If you're admitting, for lack of a better word, that this piece of your portfolio will not beat or will be dead money, there's absolutely nothing wrong, at all, with selling it and reallocating that capital to something that you do think will perform better.
Hill: Every case is individual. One other thing to consider is, obviously, what sort of cash on hand do you have? It is the sort of thing where, if you have cash on the sidelines that you're looking to deploy, then it makes it at least a little bit easier to say, "OK, I'm just going to leave this here. I'm going to park it. I'm not going to worry about it. I'm going to allocate that other cash." But yeah, I think part of it depends on the time horizon. As you said, when you're highly confident that it's dead money for a couple of years, then maybe what you do is, you pair the sale with the sale of a stock that has a gain, and you minimize your taxes.
Gross: Oh, that's a good idea, too! You also want to look at what you think the potential of that investment will be after the dead money period ends. It's really all about average annual total return when you get down to it. If that's not going to earn you a lot of money for two or three years, and then in year four, you're going to get a pop of 30%, then divide that 30% by the three years it took, and you're earning 10% or less on that investment. Maybe you could do better elsewhere.
Hill: I kind of want to know more about the money laundering.
Gross: [laughs] Yeah, that's interesting!