Tend to your investments as you would a garden
Managing a portfolio requires care and regular maintenance, just as a gardener looks after his plants
IT’S often said that you reap what you sow. That’s true even in investing. Like a patient gardener, the seeds you sow today will bear fruits in the future.
Similarly, your decisions on what stocks to include or exclude have a direct bearing on how your portfolio is likely to perform.
Managing a portfolio is not a simple task. It requires constant care and attention, just like how a gardener looks after his or her plants. You may not be a natural at gardening, but you can learn and improve your investing skills.
I think that portfolio management is a vital skill that you need to master as you grow and diversify your investments.
Plant the right seeds
At the heart of portfolio management is an intimate understanding of the stocks you own. A simple rule is to never buy a business that you do not understand.
Similarly, a gardener should only cultivate plants that he knows well; each variety has unique conditions for it to survive and thrive. A garden with too many types of plants is an investment portfolio with a collection of random stocks.
BT in your inbox
Start and end each day with the latest news stories and analyses delivered straight to your inbox.
As the number of stocks grows, it becomes tougher to monitor all of them. By focusing on stocks that you understand well and limiting the number of positions to around 10 to 20, you can ensure your portfolio is manageable without needing to spend excessive time on it.
One suggestion is to split your portfolio into two segments – core and satellite (non-core). The core positions could comprise blue-chip stocks such as DBS Group or Singapore Exchange that demonstrate resilience and boast a solid track record. These stocks form the foundation of your portfolio; their familiarity and reliability mean you can be more hands-off.
Meanwhile, satellite positions can include riskier stocks with less of a track record but faster growth rates. These are the “icing” on the portfolio, providing fuel to grow even as the core layer supplies steady and predictable dividends.
Like a garden, an investment portfolio should also have sufficient diversification. Gardeners at times face unpredictable weather which they have no control over. Some plants are more hardy than others and can survive adverse conditions, just as certain stocks do better than others as the economic cycle turns.
As an example, banks generally perform well in a rising interest rate environment whereas debt-laden construction companies may flounder. Retailers that sell necessities, such as Sheng Siong, may continue to report good numbers during a downturn, while luxury retail brands such as Prada and Louis Vuitton are more susceptible to consumers’ fickle tastes.
Water the flowers, pull out the weeds
Regular maintenance is necessary when managing your investment portfolio.
A gardener must tend to his plants periodically by watering them and removing the weeds. These simple acts ensure the plants remain healthy and free from pests, and their growth is not choked off by weeds.
As an investor, you should regularly review your investments and include only those with solid, long-term prospects. In other words, you should continue to water the flowers (keep the good performers) while pulling out the weeds (selling the poor performers).
Many investors make the common mistake of watering their weeds when they allow losers to fester within their portfolios. By selling your winners too early, you end up killing the proverbial golden goose as these winners could go on to pay out higher dividends for many years to come, helping to lift your portfolio’s value.
On the other hand, adding more to dying businesses in the hope of breaking even will just add to your losses. For your portfolio to attain new highs, you must learn to retain the strong stocks and quickly sell off the lousy ones.
A word of caution – how stocks are classified as “good” or “bad” should hinge on their business and not share price performance. Should a business experience a chronic decline in revenue, profits and cash flows, it may be better to part with it and reallocate the money to a more promising candidate.
By actively ridding your portfolio of lemons, you will slowly build up a robust portfolio of winners that can multiply your wealth and better prepare you for retirement.
Enjoy the fruits of your labour
As you progress on your investment journey, do not forget to enjoy the fruits of your labour in the form of dividends. Gardeners also periodically savour the fruits of their efforts as their plants produce juicy and succulent fruits.
A growing stream of dividends is the best endorsement of your portfolio management skills and lets you know that you are headed in the right direction. Income-seeking investors understand that managing their portfolios well will result in a larger stream of income plus a growth rate faster than inflation.
Sowing the seeds of compounding
The goal of investing is more than just receiving rewards from the investments. Remember that a gardener not only savours the fruits of the trees in his garden, but he also plants the seeds from the fruits to grow even more plants.
You should be doing the same with your portfolio. In investing, compounding returns involve reinvesting the dividends from investments into the same stocks that paid out the dividends. By doing so, you end up with a full “garden” of high-quality investments that slowly rise in value over time.
A simple example illustrates the power of compounding. Imagine receiving distributions from a solid Reit such as Parkway Life Reit. Rather than spending the dividends, you can reinvest them back into the healthcare Reit so that you own more units over time.
These units, in turn, generate more dividends, allowing you to build and grow an increasing stream of passive income. When repeated, this process is the essence of building a robust retirement portfolio that not only helps to beat inflation but also supplies you with a steady stream of income.
Get smart: It’s easier than it looks
Managing your investments is an important skill to have and can be likened to a gardener tending to his plants and trees. By following the simple rules above on how to structure your portfolio and refine it over time, you can slowly and surely end up with a portfolio of winners that can help you compound your wealth.
Time and patience are required to sharpen your skills and learn from mistakes. If you are conscientious and diligent, you can master the techniques and discipline needed to maintain and grow your portfolio.
The writer owns shares of DBS Group and Singapore Exchange. He is portfolio manager of The Smart Investor, a website that aims to help people invest smartly by providing investor education, stock commentary and market coverage.
Copyright SPH Media. All rights reserved.
