Wall Street Strategies
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Mistake Number Three: Imbalanced Approach
By: Charles Payne, CEO & Principal Analyst

Distribution (spreading investing dollar amounts)

"I buy even amounts of each stock in my portfolio; it makes it easier to track." Yes, but it also makes it easier to wipe out great gains. Let's do the math:

If 200 shares of XYZ at $2.00 a share move to $3.00, you take profits of $200.

If 200 shares of ABC at $20.00 a share move to $19.00, you take a loss of $200.

Here is the problem; a 50% winner is wiped out by a 5% loser. It simply doesn't make sense to make uneven bets. At the end of the day, it is all about the percentage change of your account, not the numerical change. There will come a time when you may want to put more on a particular position, but that is based on greater fundamental conviction rather than a blanket approach that haphazardly sabotages your portfolio.

Tidbit: If you were to err on the side of improper allocation of funds, it would be wise to own more dollars worth of the expensive priced stock. Realistically stocks under $10.00 carry significantly more risk than those over $50.00 a share. Ideally, we think it is easier to own even dollar amounts across the broad and to never load up on cheaper priced stocks simply because you can get a lot of shares. Cheaply priced stocks are cheap for good reasons. Moreover, most of these stocks are overvalued not undervalued.

Diversity (distribution of risk across various sectors)

Has a publicly traded company issued an earnings warning and half your portfolio was hammered? This happens all too often in the market because a lot of folks believe diversification means owning different stocks, even within the same industry. While we think, there are times to be over-weight in a particular niche of the market that is all together different from exposing more than 20% of your portfolio to react to the same negative driver.

We see this mistake more often with investors that have loaded up on technology stocks, although in recent years there has been excessive exposure to energy stocks, too. This all comes about mostly for two reasons:

  1. Chasing performance
  2. Personal expertise giving a false sense of security

Chasing Performance

People chase performance, always have and always will (check out "Extraordinary Popular Delusions and the Madness of Crowds"). No matter what the asset class, from art to baseball cards and sports memorabilia (Mark McGuire's $3.0 baseball is now said to be only worth $1.0 million), to real estate, once assets get hot it attracts a serious crowd. It is such an interesting study of human psyche that folks are so much more willing to buy a stock at $50.00, which has been moving up for weeks or months, but would not buy a stock at $30.00 that has been stagnant, even when it is the same stock. There is actually a place for chasing stocks if you are looking to generate cash (see our Swing Strategies), but all too often investors load up just days before a hot stock becomes a Super Nova.

Personal Expertise

Throughout the years, we have witnessed doctors lose a ton of money in medical stocks and a ton of engineers lose money in high tech stocks. Sometimes a person can be too close to a particular industry and be enamored with it to the point where the hype overrules key aspects that are important to Wall Street. It is fine to leverage your personal expertise into smart investments, but make sure you see and acknowledge the faults and understand that companies that turn potential into earnings are the ones that will experience the greatest increase in share price.

Ideal Balance

If your portfolio is $100,000 or less, you should consider a maximum fund allocation of 7% per position and remember that cash is a position, too. Ideally, you would have at least 14% in cash, but it could be more in a sideways market or a market that is initially moving lower.

3 Mistakes that are killing your portfolio How WStreet Can Help
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