One thing I’ve noticed throughout the years is that it is much easier for investors to invest new capital and build a portfolio than to manage it. Our portfolio models at Dividend Stocks Rock are somewhat capped with the number of positions and we don’t invest new capital. This means we deal with what most investors live with: we all have to use portfolio management theories in the real world.
To make our life easier, though, we have designed a straightforward process using all the DSR tools to manage each of our 9 portfolio models. To get you inspired into creating your own methodology, I thought it would be a good idea to share how we review them quarterly. Most of the time, trades are not about a specific stock per se, but a lot more about portfolio management and keeping the global picture in mind.
#1 Look at Your Ratings
The very first thing I do for each portfolio (including my own) is to watch my DSR PRO ratings along with my dividend safety scores. Obviously, you can create your own rating system, but I stronly suggest you do rate your stocks. That said, I want to highlight each stock with a rating of 3 and under.
Let me be clear: There is nothing wrong with having stocks with a rating of 3 (hold) or a dividend safety score of 3 (decent dividend). However, there is also nothing wrong with wanting to improve those ratings if it is possible!
Keep in mind I never trade based solely on ratings. The ratings will tell me where to direct my attention though. I will use both ratings combined to create a scoring on “10”. Technically, all stocks that don’t make 5 or better should be put on the sell list and we should consider potential replacement of those securities.
If I look at the 100K USD portfolio for example (screenshot above), I quickly see that I have three “ordinary or weak stocks”. The first one is Disney. At first glance, that rating combination doesn’t make sense to hold with the worst dividend safety score. Here’s your invitation for investigation! When going through my stock analysis, I’ll realize that Disney suspended indefinitely its dividend in 2020 due to the pandemic. This explains the poor dividend safety score. However, after reading the investment thesis and looking at other financial metrics on the stock page, I realize the company has plenty of growth opportunities and it will use that extra cash to create more content for its streaming platform. Do I really want a 1% yield on my investment, or do I want Disney to build the second-best streaming platform in the world?
The second company with a poor rating is Hasbro. While Hasbro shows the same combined score as Disney (4+1 = 5, 3+2 = 5), HAS doesn’t show any great ratings. By going through our analysis, I then notice the company has potential growth vectors (which explains the rating of 3), but shows a poor dividend triangle:
At this point, it looks like Hasbro should be on my sell list.
Finally, when I look at the third company, Brookfield Infrastructure with a PRO rating of 3 and dividend safety score of 3, it doesn’t look that bad. First, the company has a combined score of 6. This is not awesome, but it’s not terrible either assuming a perfect score of 10 is nearly impossible in our model. Plus, after reviewing the stock card, the BIP dividend safety score is close to a 4 with the last dividend increase being +5%. Therefore, there isn’t an emergency demanding action on this security. In fact, it fits well in the 100K USD portfolio with a yield close to 4%, a good growth perspective, and a dividend safety score that will likely reach 4 in the coming years.
#2 Look at Sector Allocation
Once I have identified companies that should leave the portfolio (in this case Hasbro), it’s now time to look at the sector allocation. I must know if I will replace the stock with a company in the same sector or if I should use this trade to balance the sector allocation. If I continue with the 100K USD portfolio, I can look at the sector allocation graph:
This portfolio is already well balanced between several sectors. None of them shows a weight over 20% which would expose the portfolio to potentially higher fluctuations. Hasbro is part of the consumer cyclical sector that is already at 12.5%. I could pick again in this sector or opt for a sector with a smaller weight such as real estate, energy, or communication services.
Sometimes, the sector allocation needs more attention. I wouldn’t add more shares in a sector that already represents 20% or more of a portfolio.
#3 Look at Each Stock Weight
Making sure the portfolio shows a good balance between various sectors is important, but it’s equally important to look at the weight of each stock. When I look at my own portfolio, I like to know that each position has the potential to move the needle toward a better retirement. This means I make sure not to hold stocks with less than 1% weight in my portfolio. In an ideal world, I would like each position to be around 3% of the portfolio. I’ve also set a limit as I don’t want to invest 25% of my capital into a single stock. This forced me to sell Apple shares a few times in 2020.
Again, using the 100K USD portfolio, you will notice that Procter & Gamble has a dominant position (8.11% of the portfolio) followed by Sysco at 6.34% and Apple at 5.79%. This portfolio currently holds 21 different stocks. Technically, we should aim at having about a 4.50-5.00% (4.76% to be exact) weight for each stock. This tells me that I will eventually have to cut down PG if the situation remains as it is. I’m not the type of investor that will trade stocks every time it goes a little over the average weighting. There is no point in multiplying trades either. For now, I’ll stick with PG at 8% and follow this position closely in the coming quarters.
Many times, the portfolio will rebalance itself as the market fluctuates. I’ve experienced this with my portfolio where the USD lost in value, reducing the weight of all my US positions compared to my Canadian holdings.
#4 Keep Your Goal in Mind – Forget about the Market & All the Noise
As you probably noticed, I didn’t talk about the current market and the economic environment while doing the portfolio review. I would rather focus on the global picture (e.g. long-term investing) than trying to catch what the next trend will be.
Those who figured that the energy sector was the best one to invest in back in September 2020 are doing very well right now. However, now that they are done with the “easy money”, what will be their next step? Keeping all those energy stocks may not reward them going forward. They must be looking at the next big trend.
Sometimes, Making the Hard Choice is the Good Choice
Finally, I just wanted to highlight that you will inevitably face hard choices often when you review your portfolio. For example, I didn’t like selling my shares of Hasbro last month in my portfolio.
Let me confess that I hate to be wrong. Hasbro did good in our DSR portfolios when it was selected back in 2013 and offered a total return of 130% for that period. Unfortunately, I added Hasbro to my portfolio in 2017. I didn’t lose money, but I didn’t make much either (about 16% total return). Nobody likes to be wrong and lose money. I was fortunate, HAS didn’t kill my portfolio returns, but it was time to admit that my investment thesis was wrong. I’m confident I’ll feel better about this trade in a few years.
In the end, most of my portfolio is doing incredibly well for one single reason: I’ve followed a meticulously disciplined investing process. If I want to repeat such returns, I must continue to trust the process. My investing strategy revolves around dividend growers and their ability to outperform the market (in general) with less volatility. Hasbro doesn’t fit this strategy today, and the management hasn’t given me “hope” that they can turn the tide around”. As I have told you before; “hope” is not an investing strategy.