The V20 Portfolio #27: When To Rebalance

By | April 11, 2016

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The V20 portfolio is an actively managed portfolio that seeks to achieve an annualized return of 20% over the long term. If you are a long-term investor, then this portfolio may be for you. You can read more about how the portfolio works and the associated risks here . Always do your own research before making an investment. Read the last update here . Note: Current allocation and planned transactions are only available to premium subscribers . After a volatile week, the V20 Portfolio declined by 3.2% while the SPDR S&P 500 ETF (NYSEARCA: SPY ) declined by 1.2%. The underperformance can once again be attributed to the largest holding, Conn’s (NASDAQ: CONN ). When To “Average Down” Recently our cash balance has grown as a percentage of the overall portfolio, which can be primarily attributed to the decline in portfolio value as opposed to strategic shifts in allocation. As mentioned earlier, the biggest laggard is Conn’s. You may recall that the V20 Portfolio will continue to purchase shares of a company if fundamentals have not deteriorated, even if price has dropped. In 2016, we did exactly that. Conn’s position would have been 42% smaller had we not made any purchases in 2016. But as share price has continued to drop since the last transaction, I have not yet made any additional purchases for Conn’s, which is a part of the reason why cash allocation has swelled to one of the highest levels since the portfolio’s inception. Why did I make that decision? The truth is that I’ve been looking for the opportunity to “pull the trigger” so to speak. This relates to my rebalancing philosophy. There are many ways to rebalance, but I break them down to systematic and discretionary. The former style follows a predetermined method (e.g. once every quarter according to some specification). As you probably guessed already, the V20 Portfolio’s rebalancing method is discretionary. I believe that too many factors are shifting to warrant a systematic method. However, discretion does not imply randomness. The V20 Portfolio seeks to allocate more capital to stocks with the highest expected rate of return while accounting for the possibility of permanent capital loss . I believe that the smallest position in the portfolio right now, Dex Media, actually has the highest expected return; but due to the high risk of shareholders being wiped out in the restructuring deal, it is not prudent to allocate a significant amount of capital to the stock, no matter the expected return. Bringing the discussion back to the topic of rebalancing; a position essentially shifts between “no exposure” to “too much exposure” at any given time. However, there is no specific number associated with these two groups. Let’s suppose that the ideal allocation is 10% for a certain stock. Should you rebalance when it falls to 9.99%? Or what if it rises to 11%? There is no good answer. However, if we examine the extremes, the answer can become clearer. Using the same example, I don’t think anyone will disagree that rebalancing would be appropriate if the allocation falls to 1%, assuming no changes in fundamentals. There are also short-term considerations. While the focus should be long-term, short-term fluctuations are very real. Each time you place a trade, you are implying that prices shouldn’t go lower, or else you would have waited. This implication exists even if your investment horizon is long-term . There are numerous factors that could lead to sustained mispricing. For Conn’s, the general macro picture for retail has been soft and the credit division’s results may not improve for a while. Both of these factors could put more pressure on the stock, providing better opportunities to accumulate shares. In conclusion, there is no “perfect” time to rebalance. I believe that Conn’s current allocation remains large enough to capture the stock’s significant upside. The allocation could be larger, it could be smaller. However, one thing is certain: if shares continue to fall in the future, there is no doubt that more capital would be allocated to the position. Performance Since Inception Click to enlarge Disclosure: I am/we are long CONN. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article. Scalper1 News

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