Identifying your investment errors is not as easy as you might think. Apart from the psychological difficulty of admitting that you were wrong, investment results arise from both luck (randomness) and skill. A bad decision can be skated onside by good luck and a sound decision can be side-swiped by unforeseeable events.
The question to ask is: Was it the right decision, given what should have been known at the time? When investing in stocks, the right decision will always include putting the long-term odds in your favour.
Here are three of the major investing lessons that we learned in our first decade at Longview Asset Management, where we recently recorded a decade of annualized investment returns of more than 17 per cent in our global stock portfolio.
Avoid too much activity
A useful review we engage in after the end of each year is to see how our results for that year compare with how we would have done had we made no changes to the portfolio during the year. We have always prided ourselves on relatively low portfolio turnover – that is, infrequent buying and selling of stocks.
Despite this, in more years than we would have guessed, the changes we made to the portfolio hurt our return in the short to medium term. The mistake had less to do with the companies we purchased than with the companies we trimmed or sold. It was not uncommon for us to sell shares in a company at a materially higher price than we had paid but, thanks to the continuing outperformance of the business, then watch the price continue to rise for many more years.
It’s easy to ignore the opportunity cost of not owning a company that you sold, but that cost is real. Portfolio turnover has a further disadvantage. A sale triggers tax and, therefore, prevents you from compounding your gains on a before-tax basis. When you own part of a good business run by a highly competent management team, then, in the words of Warren Buffett, “Inactivity strikes us as intelligent behaviour.”
Recognize the durable advantage of today’s technology stocks
The last time we checked, no one had repealed the laws of economics or human nature. However, the global economy has evolved rapidly over the past 20 years.
Today, it is dominated by large, oligopolistic technology companies. We own a number of these companies, but were initially slower than we should have been to recognize their value. Historically, investors have looked to such sectors as consumer products and transportation to find businesses with long, relatively predictable futures. Technology businesses had, on average, shorter business lives.
Today, however, companies such as Amazon, Alphabet (Google), Meta Platforms (Facebook) and Microsoft have durable competitive advantages. This is owing, in part, to network effects – more participants increase the value of the services these businesses provide – and the low incremental cost of providing services to the new customers. We believe these companies, with their strong cash flows and fortress balance sheets, are likely to continue to increase their profits at well-above-average rates for years to come.
Minimize cash holdings
Prior to 2016, the average cash weighting in our portfolio was above 10 per cent. When we trimmed or sold a position, we would often wait, sometimes for extended periods of time, before reinvesting. We justified this on the basis that having cash would allow us to move quickly if an opportunity arose. In the meantime, we would be protected if the market fell.
Most people intuitively like this argument because, at first blush, it sounds prudent to have some “dry powder” at hand. However, investing is necessarily a probabilistic endeavour, and your ability to predict the future is far less than you think. We may believe that we know better than the other market participants that an opportunity has arisen, but even the greatest investors are unlikely to be right more than 60 per cent of the time. And, while we wait for a possible opportunity, our cash is earning almost nothing.
The stock market increases in value more often than it falls. Several long-term studies have shown that sitting on cash in an equity portfolio will, over time, hurt your returns. Today, we generally remain fully invested. (We encourage our clients to hold some cash, but to do so outside their equity portfolio.)
Continuous improvement requires a recognition of errors and a willingness to change your mind. We hope these lessons will prove helpful – not only to us, but also to other investors.
-- Biff Matthews, Doug McCutcheon and Emily Won, partners with Longview Asset Management.
This is the Globe Investor newsletter, published three times each week. If someone has forwarded this e-mail newsletter to you or you’re reading this on the web, you can sign up for the newsletter and others on our newsletter signup page.
The Rundown
Psychedelics stocks were all the rage a year ago. What happened?
It was barely a year ago that psychedelics stocks were all the rage among investors, drawn to grandiose promises by companies that drugs such as LSD and magic mushrooms could produce game-changing treatments for anxiety, depression and addiction. But that investor euphoria peaked in March, 2021. Since then, despite a handful of promising clinical trials, and a growing number of U.S. states introducing bills to decriminalize psychedelic substances, shares of many psychedelics companies have performed poorly, sharply declining in value over the past six months. The Globe’s Vanmala Subramaniam went looking for the reasons why.
A little-known method could help you earn income yields of 20 per cent or more
Many investors aren’t aware they could be earning an extra 20 per cent or more in income on some of their stocks. Moreover, there isn’t much risk: It’s like discovering some money of yours was in a storage bin you didn’t know existed, and it could be claimed after completing a form. When an investor opens a margin account with a broker, they will typically be asked to sign an agreement that allows the broker to lend out securities in the account. The broker can then lend the securities to short sellers and collect interest from them. As Larry MacDonald tells us, there are a couple of brokers in Canada where you can get a share of the short sellers’ loan payments.
Ontario Finance Minister calls on OSC to review banks’ decision to stop selling third-party investment funds
Ontario’s Finance Minister is calling on the province’s securities watchdog to review a move by several of Canada’s largest banks to stop the sale of third-party investment products by their financial planning divisions.
Investors bet Powell’s Fed will get more aggressive on inflation
Investors are betting that newly renominated Federal Reserve chairman Jerome Powell will need to step up the pace at which the central bank is normalizing monetary policy to better grapple with surging consumer prices. David Randall of Reuters reports.
Also see: Bond investors ramp up U.S. inflation, rate-hike expectations: survey
Markets are not really in uncharted territory
With the global economy and markets roiled by the pandemic, predicting where stocks are headed is particularly challenging these days. Although there is a consensus that the market currently is somewhat overbought, veteran and novice investors alike are uncertain as to what will come next. To the faint of heart, it may well appear that we find ourselves in uncharted territory. Are we overdue for a ‘correction’ or even a full-fledged ‘bear market’ – or will stock prices continue their lengthy upward trajectory? Long-time technical analysis analyst Ron Meisels believes markets will continue to reward long-term investors, and provides a road trip analogy to explain why.
Others (for subscribers)
Tuesday’s analyst upgrades and downgrades
Wednesday’s analyst upgrades and downgrades
Tuesday’s Insider Report: A look at two dividend stocks with big recent purchases
Wednesday’s Insider Report: CEOs of three companies buy shares on recent price weakness
Number Cruncher: 15 stocks with surprisingly strong earnings momentum
Globe Advisor
How advisors are managing crypto funds as client interest grows
Are you a financial advisor? Register for Globe Advisor (www.globeadvisor.com) for free daily and weekly newsletters, in-depth industry coverage and analysis, and access to ProStation - a powerful tool to help you manage your clients’’ portfolios.
What’s up in the days ahead
Rob Carrick looks at how the millennial and Gen Z dream of home ownership is being exploited by new investment products that just make houses more expensive.
Click here to see the Globe Investor earnings and economic news calendar.
More Globe Investor coverage
For more Globe Investor stories, follow us on Twitter @globeinvestor
You may also be interested in our Market Update or Carrick on Money newsletters. Explore them on our newsletter signup page.
Compiled by Globe Investor Staff