One thing that I’ve noticed over the years is that it is much easier for investors to invest new capital and build a portfolio than it is to manage it. Our portfolio models at Dividend Stocks Rock are somewhat limited in terms of the number of positions and we do not invest any new capital. This means that we are dealing with what most investors live with: we all need to apply portfolio management theories in the real world.
To make our lives easier, we created a simple process that uses all of the DSR tools to manage each of our 9 portfolio models. To inspire you to come up with your own methodology, I thought it would be a good idea to share how we review it quarterly. In most cases, trades are not about a specific stock per se, but rather about portfolio management and taking into account the global picture.
# 1 Look at your reviews
The very first thing I do for any portfolio (including my own) is to watch my DSR PRO ratings along with my dividend safety ratings. Of course, you can create your own rating system, but I strongly suggest that you rate your stocks. Even so, I’d like to highlight any stock that has a rating of 3 and below.
Let me be clear: There’s nothing wrong with having stocks with a rating of 3 (hold) or a dividend safety score of 3 (decent dividend). However, there is nothing wrong with wanting to improve these ratings, if possible!
Keep in mind I never act based on reviews alone. However, the reviews tell me where to turn my attention. I will use both ratings together to make a “10” rating. Technically, any stocks that don’t do 5 or better should be put on the sell list, and we should consider possible replacements for those stocks.
For example, if I look at the $ 100,000 portfolio (pictured above), I quickly see that I have three “normal or weak stocks”. The first is Disney. At first glance, it doesn’t make sense to keep this rating combination with the worst dividend safety score. Here is your invitation to the investigation! If I do my stock analysis, I’ll find that Disney has suspended its dividend indefinitely in 2020 due to the pandemic. This explains the poor dividend safety factor. However, after reading the investment thesis and looking at other financial metrics on the stock side, I realize that the company has many growth opportunities and will use that extra money to create more content for its streaming platform. Do I really want a 1% return on my investment or do I want Disney to build the second best streaming platform in the world?
The second company with a bad rating is Hasbro. While Hasbro shows the same combined score as Disney (4 + 1 = 5, 3 + 2 = 5), HAS doesn’t show great ratings. If we go through our analysis, I notice that the company has potential growth vectors (which explains the rating of 3) but has a bad dividend triangle:
At this point, it looks like Hasbro should be on my sales list.
Finally, when I look at the third company, Brookfield Infrastructure, which has a PRO rating of 3 and a dividend safety score of 3, it doesn’t look too bad after all. First, the company has a combined score of 6. This isn’t great, but neither is it terrible if a perfect score of 10 is nearly impossible in our model. After checking the share card, the safety factor for the GDP dividend is close to 4, with the last dividend increase being + 5%. Hence, there is no emergency that requires action related to this security. In fact, it fits nicely into the $ 100,000 portfolio with a return of close to 4%, good growth prospects, and a dividend safety score that is expected to hit 4 in the years to come.
# 2 Take a look at the sector mapping
After identifying companies to leave the portfolio (in this case, Hasbro), now is the time to review their sector allocation. I need to know if I am going to replace the stock with a company in the same sector or if I should use this trade to even out the sector allocation. If I continue with the $ 100,000 portfolio, I can look at the sector allocation chart:
This portfolio is already well balanced between several sectors. None of them have a weight of more than 20%, which would potentially expose the portfolio to higher volatility. Hasbro is in the cyclical consumer sector, which is already at 12.5%. I could go back to that sector or go for a lighter weight sector like real estate, energy, or communications services.
Sometimes more attention needs to be paid to sector allocation. I wouldn’t add more stocks in a sector that is already 20% or more of a portfolio.
# 3 Look at each bearing weight
It is important to make sure that the portfolio has a balance between different sectors, but it is also important to look at the weight of each stock. When looking at my own portfolio, I want to know that every position has the potential to move the needle towards better retirement. This means that I take care not to hold stocks less than 1% in weight in my portfolio. In an ideal world, I want each position to be around 3% of the portfolio. I also set a limit as I don’t want to invest 25% of my capital in a single stock. This forced me to sell Apple stock a few times in 2020.
Using the $ 100,000 portfolio, you will again find Procter & Gamble dominant (8.11% of the portfolio), followed by Sysco with 6.34% and Apple with 5.79%. This portfolio currently holds 21 different stocks. Technically, we should aim for a weight of around 4.50 to 5.00% (4.76% to be precise) for each stock. This tells me that at some point I will need to reduce PG if the situation stays as it is. I’m not the type of investor who trades stocks every time they are a little above average weight. There is also no point in multiplying trades. For now, I will be staying at 8% at PG and will be closely following that position over the coming quarters.
Often times the portfolio will rebalance itself when the market fluctuates. I have seen this with my portfolio where the USD lost value and reduced the weight of all of my US positions compared to my Canadian holdings.
# 4 Keep an eye on your goal – Forget the market and all the noise
As you have probably noticed, during the portfolio review I did not talk about the current market and economic environment. I would rather focus on the global picture (e.g. long term investing) than trying to catch the next trend.
Those who already assumed in September 2020 that the energy sector was the best to invest in are currently very successful. What will be your next step after you are done with “easy money”? Maintaining all of these supplies of energy may not reward them in the future. You have to look to the next big trend.
Sometimes the good choice is the hard choice
Finally, I just wanted to emphasize that when reviewing your portfolio, you inevitably face difficult decisions a lot. For example, I didn’t like selling my Hasbro stock in my portfolio last month.
Let me confess that I hate to be wrong. Hasbro did well in our DSR portfolios when it was selected in 2013, offering a total return of 130% for that period. Unfortunately, I added Hasbro to my portfolio in 2017. I haven’t lost any money, but I haven’t made much either (around 16% total return). Nobody likes to be wrong and lose money. I was lucky enough not to kill my portfolio returns, but it was time to admit my investment thesis was wrong. I am confident that in a few years I will feel better on this trade.
In the end, most of my portfolio is doing incredibly well for one reason only: I followed a meticulously disciplined investment process. If I want to repeat such returns, I have to keep trusting the process. My investment strategy revolves around dividend producers and their ability to outperform the market (in general) with less volatility. Hasbro doesn’t fit that strategy today and management hasn’t given me hope that they can turn the tide. As I told you before “Hope” is not an investment strategy.