Diary of a Private Investor

Six of the Best Investment Lessons from 2016

Seeing as I have a bit of spare time over the holiday period, I decided I would write a mini-series of “Six of the Best” articles, starting with my most valuable investment lessons of the past 12 months.

I began the year building a broader portfolio around 3 core investment strategies; (compound) growth, (focused) income and special situations. I managed to miss much of the January dip as I was in buying mode and managed to pick up several “bargains”. Things were going well through to May and then the whole Brexit uncertainty and subsequent vote turned things upside down. In short, I bottled it and turned nearly half my portfolio into cash a week before the referendum vote. With the further uncertainty of the Brexit process, the US election and European banking weakness, I remained cash rich until shortly after the US election, after which I became fully invested again. One of my largest purchases at that time was Avesco (AVS) and three days later it received a takeover bid at 125% premium. This pretty much transformed my portfolio performance from acceptable to good.

So, what lessons am I taking away from this crazy, topsy-turvy year?

Diversification is Key: I have never really been an income investor and moving into this area over the past couple of years, I suddenly had a lightbulb moment during the period when I was sat heavily in cash. I had been pursuing a focused income strategy and this was completely wrong. When investing for income, the key is to have a lot of diversification. Alongside my AVS success, I also had a corresponding disaster in CIU. As part of a broad, diversified basket of income shares, CIU had only a minimal negative effect on my portfolio and it was only the prospect that the dividend was at risk that prompted me to sell at a small loss.

Weightings are Critical: It is through weightings that risk and reward are managed. In the examples of AVS and CIU, weightings worked in my favour. However, there will be times when a high conviction holding goes wrong and then I have to be comfortable with the risk I am taking. At present, I have roughly a third of my portfolio in each of the three strategies. Over the next three years, my plan is to shift the balance to the income shares with lower weightings in growth shares and only speculative punts in special situations. But I am still in growth mode and need to take somewhat higher risk in order to reach my “retirement number”. A couple of weeks ago, I had the opportunity to see the impact of my current weightings when my largest holding AAZ (special situation) fell 24% in a week and yet, that week my overall portfolio performance was only down 2%. I will continue fine tuning this fascinating weightings machine as 2017 unfolds.

Over Trading Sucks: Ultimately, I would like to be managing a perpetual portfolio that requires minimal tinkering but I am a long way from that point I fear. Having gone through the process of building, selling and reconstructing a portfolio, this year has probably been the most profitable for my brokers in terms of my contribution to their cause. I need to put some clearer rules in place to limit my trading activity while still enabling me to fine tune and optimise my portfolio.

Timing the Market is Folly: I got super lucky when I doubled my AVS holding just three days before a takeover bid. It was a sweet moment but one that is not likely to be easily repeated. Against that, I sat with 40% cash burning a hole in my pocket for nearly six months of the year waiting for the market to unravel. This cost me particularly dearly in lost dividend income. One useful tip I picked up from @rhomboid1MF for remaining fully invested is to have “safe” large cap income shares to park cash in while riding out periods of market uncertainty. One aim I have for 2017 is to add more of this type of share to my income portfolio so that I can remain fully invested and still sleep at night.

Let Compounding do its job: I believe it was Albert Einstein who described compounding as the eighth wonder of the world. Well, that might be true but my period spent overweight in cash this year has meant compounding has not done its job nearly as much as I would have liked. Sure, I’ve been able to recycle some capital gains from shares like AVS and GVC into a selection of sensible growth shares but I have missed out on income that could have accelerated this process. The more diversified approach (I currently have 41 holdings overall), especially to my income portfolio should enable me to reinvest significantly more dividend income next year and perhaps, I will have another couple of successful growth shares that enable me to cascade more funds into my income portfolio.

Momentum Matters: I have always been a fundamental investor and have rarely had any time for technical analysis. However, I have become increasingly aware of how important momentum is to overall share price performance. I am less concerned with this in my income portfolio as the primary reason for holding is the dividend income rather than capital appreciation. Growth shares on the other hand are a different matter. While I don’t want to find myself trying to time the market and trade all the peaks and troughs, I have come round to appreciating that momentum is worth paying some attention to – “let the trend be your friend”, as the saying goes. The main consideration here is to try and buy growth shares as momentum is rising in an attempt to avoid value traps. I will continue to use my “stop-loss-decide” when shares fall out of favour and I will also continue to sell out of companies when they first issue a profit warning as per @dosh100 and Stockopedia’s recent research.

I haven’t published the numbers yet but the headline performance of my portfolio this year will show a decent overall gain. While it has seemingly been a good year, it has also probably been the most uncomfortable year in my investing career. Perhaps that is why I have learned so many lessons – nobody ever said learning was comfortable I guess. 2016 is a year I will be glad to put in the rear view mirror, richer for the experience but seeking more calmness, stability and predictability in 2017 and beyond.

Still to come in this article mini-series (which I will aim to publish between Xmas and New Year):

Six of the Best Growth Shares in 2017

Six of the Best Income Shares in 2017

Six of the Best Takeover Targets in 2017

Happy Xmas everyone!
Simon (@BrilliantLeader)


Disclosure – At the time of writing I currently hold shares in GVC and AAZ

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