Roughly speaking, you can divide my portfolio into profitable high quality optimistically priced growth stocks, more modestly priced dividend-paying slower growth stocks, and higher risk unprofitable cash burning growth stocks. As you can imagine, the last six months has been negative for me, given my portfolio skews to the growthier side of things. But the later category, the unprofitable cash burning growth stocks, are the ones that have led the declines.
As you can imagine, I have been wishing I had less money in these loss making companies, even despite the fact I have still been able to sell some of those stocks at attractive prices. Once the tide goes out, the investors in these cash burning companies are naked for all to see. Suddenly, the prospect of these companies having to raise capital again has become rather horrifying, because depressed share prices mean the companies will lock in the value destruction by diluting at low prices. Now, the risk of needing to raise more capital is worse than it was before. That is the reflexivity of investing in cash burning companies, and that’s the main reason they are so much more risky than profitable stocks.
Now, I’m not proposing to rid my portfolio of every company that can’t make a profit. But in the current risk-off, inflationary regime, it seems to me that the companies that look most likely to need to raise more capital are the least attractive of the bunch.
Today, we are seeing a big bounce in these higher risk names. Perhaps it is short covering, perhaps it is the fact that the sell off is over done, but there’s nothing to really suggest that this would be the end of the inflationary cycle. Therefore, I’ll probably use today as an opportunity to reduce my position size in some of my higher risk investments.
If it turns out that the market truly has bottomed, that will turn out to be a mistake. However, given my portfolio is still full of growing companies, I will definitely benefit massively from an end to the risk off, inflationary cycle, no matter what. Rather, I’d prefer take some of my capital out of the riskiest companies that are displaying the reflexive spiral whereby a lower share price truly does impact the valuation because it increases the amount of dilution you need to factor in, over the long term.
I’m not sure which stocks I will trim right at this moment, but I am sure I’d prefer do my trimming on a bounce day like today, rather than in the depths of despair as growth stocks hit new lows, as per Monday. Psychologically, I have found it is better to sell the bounce rather than sell the new lows.
I don’t know if it’s wise to be selling or not. But if you’ve got a few stocks that you feel over-exposed to, you’re generally much better off trimming on a big green up day, than capitulating as it hits new lows. Ironically, on the down days our impulse to sell is much stronger. So today, I’ll be remembering how I had to resist that impulse earlier this week, and if the share prices of my lower conviction stocks do bounce, I might just reduce my holdings a bit.
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Please remember that these are personal reflections about markets by an author. This article should not form the basis of an investment decision. It is an investment diary valuable only for the cognitive process it demonstrates. We do not provide financial advice, and any commentary is general in nature. Please read our disclaimer.