Personal Finance

Winnipeg Free Press - PRINT EDITION

Look to the stars to see what to dump -- or keep

By: Kevin Greenard

Posted: 02/4/2012 1:00 AM | Comments: 0 (including replies)

IF you had all your savings in cash today, what stocks would you buy?

It is perhaps the best way to look at investment decisions.

People have the tendency to cling to losing stocks because they want to recover their initial investment. This is really not a healthy way to position a portfolio for the future. Setting up for the year ahead involves selling your weakest names and looking for the best opportunities with the proceeds.

Let's start by creating a five-star ranking system for the stocks you currently own. If you were to rank each individual investment, with one star being the least favourite and five stars being the best, how would your portfolio look?

To help with this exercise, rank the stocks on how you feel they will perform in the coming year -- not on how they have performed.

The following is an example of how you could design your star categories.

One star

Characteristics of this category would be stocks expected to lose money in the coming year. The company doesn't pay a dividend. Analysts have either dropped coverage or have a predominately high sell ranking on the stock. Stocks in this category may be in jeopardy of being removed from key indices because of declining market capitalization. There also may be no clear direction from management on how the company will turn around. Environment or conditions are not favourable for the company. Investors should be concerned about the stock's long-term viability to remain a going concern. Recommendation is to sell immediately.

Two stars

These stocks will have declining earnings in the upcoming period. If the company is currently paying a dividend, it might be in jeopardy of being cut or cancelled. Stocks in this category may have significantly declining fundamentals. Companies in this category often have low cash levels or a high debt-to-equity ratio. Recommendation for a two-star stock should be to sell.

Three stars

Stocks with earnings that are not expected to grow or decline significantly in the coming year. In some cases, these stocks might have been four- and five-star funds but have lost their shine. In other cases, they could have fundamentals that are improving. People looking for longer-term stocks might see opportunity in this category, but likely not in the year ahead. In other cases, this category may include stocks that have increased in value and you see very little additional opportunity in the year ahead. Recommendation for a three-star stock would be to consider mapping out a sell strategy. Setting a limit order at a slightly higher price may be one strategy, or a stop-loss order to protect profits. We recommend you begin looking for switch ideas.

Four stars

Analysts typically come out with a buy, hold or sell recommendation on the stocks they cover. In my opinion, the four-star classification would be comparable to a "hold." Stocks in this category may have good earnings and growth, but the valuation of the stock price might not justify this being a four- or five-star stock. It is important that investors look at the market price of their stocks in this category to determine if it is among the best-priced stocks to currently own. Even great companies become overvalued. Recommendation would be to monitor the stock and possibly set a higher sell-limit order if the stock continues to appreciate in value.

Five stars

These stocks are the best to own for the year ahead. Be careful not to just include stocks that have done well in your portfolio in the past. Characteristics of this category are stocks that have a high overall expected rate of return. This could be through both an increasing stock price and dividends. It is typically a good sign when you are projecting that a company may increase their dividend.

Hopefully, your portfolio has more four- and five-star positions. This exercise helps map out those stocks that you should sell either immediately or map out a plan to sell. You will also be able to determine the estimated cash proceeds from those sells.

We also recommend you look at the tax benefits or consequences of selling. Tax-loss selling is something every investor who has non-registered investments (cash or margin account) should look at this time of year. You might be able to obtain some tax benefits by selling your underperforming positions. When you do this analysis, you should first look at whether you can reduce current-year taxes, and second, whether you can recover taxes paid in the previous three years (if you have net capital losses in the current year).

Whether you are dealing with current cash on hand or proceeds from sells, the next step is to look at the best stocks to buy for the coming year. If we use the same classifications as above, then your focus should be on five-star positions. Investment advisers can discuss investment ideas that meet your investment objectives and risk tolerance.

Kevin Greenard CA FMA CFP is a senior wealth adviser with The Greenard Group at ScotiaMcLeod in Victoria.

-- Postmedia News

Republished from the Winnipeg Free Press print edition February 4, 2012 B12

(You must be logged in to post your reaction)

Your reaction?

More Personal Finance

Undock

You can comment on most stories on winnipegfreepress.com. You can also agree or disagree with other comments. All you need to do is register and/or login and you can join the conversation and give your feedback.

The Winnipeg Free Press does not necessarily endorse any of the views posted. By submitting your comment, you agree to our Terms and Conditions. These terms were revised effective April 16, 2010; View the changes. New to commenting? Check out our Frequently Asked Questions.