WHEN TO SELL

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WHEN TO SELL

• By Lynn Ostrem
• Crow River Investment Club www.bivio.com/crowriver

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Considerations for Selling

• NAIC says
• Adverse Management
• Declining Profit Margins
• Deteriorating Financial Condition
• Competition affecting profits
• Dependence on a single product
• To balance our portfolio

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Adverse Management

• A CEO or CFO leaves abruptly without notice or
  explanation
• An officer of the company is under investigation
  for fraudulent activities
• An unproven team is brought in by the board or by
  corporate raiders
• Management doesnt accomplish what it has
  promised in the Letter to the Shareholders.

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Declining Profit Margins

• Ellis says
• Declining pre-tax profit is nearly always a
  precursor to a disappointing earnings report.
• We have an opportunity, using Pert, to get out
  before the price falls.

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Deteriorating Financial Condition

• We choose to invest in low-debt companies so that
  when hard times come, they wont be overwhelmed
  by interest paymentswhich affect earnings.
• Substantial increases in Debt is a consideration
  to sell.

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Competition Affecting Profits

• Competition can take away market share and can
  force a company to lower its priceswhich reduces
  its profit margins.
• The key is to watch the profit margins.

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Dependence on a Single Product

• Severe competition can cripple a company that
  doesnt have a diversified product base.
• Beware of companies with too few products or
  customers.

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To balance our Portfolio

• NAIC says
• No one company should account for more than 15
  of the value of our overall portfolio.
• When this happens, it might be time to sell a
  portion of the stock to diversify our holdings.

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Other Considerations

• Temporarily overpriced
• To improve the quality of our portfolio
• Disappointing growth rate
• To payoff a departing member
• (Personal Portfolio) You need the money.

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Temporarily Overpriced

• Companies can do so well they become overpriced.
  This is reflected by an expected return in the
  single digits, or a negative Upside Downside
  ratio.
• The stock can be replaced by a more attractive
  stock or sold to lock in profitsonly to be
  bought back when the price becomes more
  reasonable.

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Improve Portfolio Quality

• Our goal is to earn a 14.9 return on our overall
  portfolio.
• Sometimes stocks are sold to improve the
  Upside/Downside Ratio or Expected Total Return.

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Disappointing Growth Rate

• Sometimes we make mistakes!
• Sometimes the company fails!
• Rather than allowing our mistakes or the
  companys bad fortune to affect our portfolio,
  its prudent to sell.

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To Payoff a Departing Member

• Club members will come and go. We use this
  situation as a learning experience.

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You Need the Money

• This could be for
• Unexpected unemployment
• Buying a house
• Funding a college education
• Buying a new car
• Retiring
• Etc.

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The best way to know when to sell a stock

• is to know why we own it in the first place!
• This is why we must be diligent about writing
  down our reasons when we make our initial
  purchase.

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Reasons NOT to Sell

• The price hasnt moved
• The price is down
• Temporary bad news

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Wrong Reasons for Selling

1. Emotional attachment to the stock
2. Hate to admit we made a mistake
3. Hate to take a loss
4. Tax reasons.

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Determining When to Sell

• Part One Ellis Traub
• Defense vs. Offense

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Defensive StrategyLooking for Disappointments

• Saleslook for a decline on the Pert. Only
  catastrophic changes can influence a statistic as
  stable as sales.
• Pre-Tax Profitdeclines here can detect impending
  negative earnings.
• TTM EPSlook at 12 months
• because one quarter isnt significant.

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TTM means Trailing 12 months.
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Defensive StrategyLooking for Disappointments

• Trend Reportlook for two dis- appointing
  quarters in a row. This should trigger research.
• Pert A--look to see if the problem has been going
  on for awhile.
• Internet Newscheck to see of theres any bad
  news.

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As you can see, the Trend Report for ACF shows
2 declining quarters. A look at the Pert A
shows 7 quarters of decline. Was there time to
get out before the price fell??
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Defensive StrategyLooking for Disappointments

• Finally
• If the problem is deemed to be long term, SELL.
• If the problem is deemed to be short term, let
  management do their job.

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Offensive StrategyLooking for Overvalued Stocks

• Pertsort by U/D Ratio or Total Return. Look for
  poor returns or U/D ratios where the risk is
  higher than the reward (such as .51)
• Before replacing, do a very optimistic SSG. If
  the risk doesnt change, consider selling.

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On the Pert, were looking for companies that
are not meeting our Upside and Total Return
requirements.
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Determining When to Sell

• Part Two Joe Smith
• 4 Strike Strategy

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Joe Smiths 4 Strike Strategy

• If you are considering sellingUpdate your SSG
  using the next 4 quarters estimates to give you
  the most optimistic future high and low prices
  and the lowest P/E Ratios.

Then
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Joe Smiths 4 Strike Strategy

1. If the P/E is still over 150 of the 5-year
   average P/Ethats Strike 1.
2. If the stock is still in the sell zone after
   estimating an optimistic future high pricethats
   Strike 2.

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Joe Smiths 4 Strike Strategy

1. If the U/D Ratio is 11 or lowerthats Strike 3.
2. Finally, if the compounded total return is less
   than current money market rates or 12 month CD
   ratesthats Strike 4 and the stock should be
   SOLD!

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Determining When to Sell

• Part Three Dan Hess
• More suggestions

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Dan Hess Suggestions

• Dan follows Ellis strategy. He adds
• If its close to quarter-end, wait for the
  quarterly release before deciding to sell.
• For retail stocks, watch their monthly same-store
  sales reports. These can be an advance warning.

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Dan Hess Suggestions

• Rely on the trend on Pert. Determine if any
  degradation is temporary or permanent.
• Use the company press releases and conference
  calls to identify the cause of any problems and
  managements plans to correct them.

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Dan Hess Suggestions

• Look at recent news as well as analyst reports.
• Compare the company to its closest peers to see
  if the problem is company- unique or
  industry-wide.
• Finally, compare the sell candidate to the watch
  list for equal or better quality with a better
  total return.

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And remember

• Buy and Hold
• Dont Buy and Forget!
• The End