When is dumping a stock a good decision?

Study suggests one factor that is nearly two and a half times as likely to add value

When is dumping a stock a good decision?

Stock-picking is notoriously difficult to get right consistently, and research suggests stock-selling is even harder. But by paying attention to one piece of a company’s financial data, portfolio managers might help their odds.

In an analysis of institutional portfolios where managers made daily trades and demonstrated skill in stock selection, investment data firm Inalytics found that stock sales rarely add value, reported Institutional Investor.

Out of the 271 portfolios studied for trades conducted from January 2015 onward — excluding trades that yielded extremely good or bad results — eight tenths (79%) lost out on potential gains by unloading shares at a bad time.

That finding mirrored another 2019 study on the trading ability of portfolio managers. Conducted in collaboration with academicians from the University of Chicago and Carnegie Mellon University, it found that while portfolio managers showed “clear skill” in picking stocks, they underperformed “substantially” when it came to selling them.

But when stock sales were done in reaction to an earnings announcement, Inalytics found in their latest study that 48% of portfolios added value: the stocks they chose to shed went on to underperform by an average of 5.2%, suggesting that portfolio managers successfully avoided lagging returns that were just waiting to happen.

While those managers were effective at announcement trades, Inalytics found that they were “unsuccessful when selling for other reasons.” Specifically, they found that stocks sold under any other circumstances went on to outperform by 1.6% on average — meaning the sellers could have added to their gains had they just held on instead.

“[T]his proves that when the decisions are based on sound fundamental research, skillful managers are getting it right,” Inalytics CEO Rick Di Mascio said in a statement to Institutional Investor.

 

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