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Secrets of a Strong Portfolio

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Everyone wants that magical portfolio of stocks that go up more than they go down. Most know that patience pays, but being a strict buy and hold investor doesn't always pay off. I want to share some key ideas that investors should use to make sure your portfolio is and remains strong in any market condition.

Along with the key ideas for a strong portfolio, I want to show you where I challenge conventional wisdom. It would be hard to make a living doing that all the time, but here and there it can really pay off. Let's review the lessons that I have learned in building a strong portfolio.

Being Well Positioned

The single biggest driver of a strong portfolio is positioning. The idea of positioning can mean several different things, so let's go through the three most important.

First is that you have to have positive macro tailwinds in your favor. This means that the stocks you hold should have catalysts that work for them in place. This can be higher or lower interest rates, administration policy or increasing worldwide demand for the product or service they sell. This will give support to your investment over the long haul.

Second, try to avoid having one stock turn into the monster that ate all your money. This is a long way of saying don't let the allocation of one stock or holding dominate the entire portfolio. This brings on too much risk and even the best companies can have hiccups that could be disastrous to your portfolio.

Finally, I am a fan of overweighting sectors that are outperforming. Instead of putting all your eggs in one basket, spread the wealth throughout the sectors that are seeing great performance. When they have good macro tailwinds at their back, you should see some smooth sailing.

Rotations Roll Up On You

Sector rotations happen from time to time for many reasons. The big players move in and out of sectors and that can cause a dramatic shift in the value of your portfolio. The lesson here is to be aware of potential rotations as they happen and be ready to act if need be. As they say, passive investing works until it doesn't.

It is important to not try to guess when a sector rotation is about to happen. This can be a very dangerous prospect. What is best is to follow the markets and look for large shifts in several stocks to confirm that one is already underway. You don't have to catch all of a sector rotation to benefit, and you shouldn't expect to get completely out of the way of one either.

Once you have confirmed a sector rotation it is best to stay in it for as long as you can. A good sector rotation can boost your portfolio for several months if not half of a year. The strongest rotations can continue to pay benefits for more than a year, much like the run that semiconductor stocks have enjoyed.

More . . .

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Diversify, But In Moderation

The old school investor would tell you that you need diversification. This might also lead to being invested in sectors that are weak just for the sake of feeling "safe." Investors trying to be fully diversified can end up costing themselves and weakening their portfolio.

I am not suggesting that you put all your eggs in one basket; that is not a wise move at all. There is a need for diversification, but do it in moderation. Just because there are utility stocks doesn't mean you need exposure to them. A good rule of thumb is to not have more than 33% of your portfolio in one industry and try not to have one stock that is greater than 15%.

Position sizing was already discussed, but don't think that adding three names in the same sector is a bad idea. When things are working across an entire industry, spreading the risk across multiple names will yield powerful results even if things turn around.

Short People Have No Reason

I love that song that states 'short people have no reason to live'; it just makes me happy considering I am called vertically challenged by many. I generally like to go against the grain so when I hear that song, it warms my heart. But let's not confuse short people with short sellers.

We all know that the shorts do more homework as they are truly risking much more than just the amount invested. A short that doesn't work becomes a bigger and bigger liability, so they need to be correct. Thus there is a double edged sword when an investor looks at short interest. It can provide added incentive when the shorts are facing an uphill battle, but that is not often the case.

Few people have ever told me that they got rich from a short squeeze. Buying to cover does happen, but shorts are generally very disciplined so they don't often cause big run ups as they move out of names. If you want a strong portfolio then it is a good idea to make sure you don't have stocks with high short interest. Anything under 10% of the float is acceptable.

Riding Risk On

I love "risk on" markets, they just make me look so smart. Of course a strong portfolio will not confuse a bull market with big brains, but even the dimmest bulb sees the light that this has been a huge bull market. Staying long and positioned for a healthy amount of risk will make for a strong portfolio.

Several long-term catalysts are in place to support a risk on market staying that way for months to come. A good interest rate environment has helped for a long time. Now we are expecting more government spending, deep tax cuts and less regulation. That all spells more investment and higher stock prices.

Now is the time to be in the small caps, especially the names that have been forgotten by the pros. The single-digit stocks look poised to move dramatically higher thanks to several macro tailwinds. Sector rotations have benefitted several sectors and several runs look to be just getting started. These same small priced stocks will be where the big players look when they need to add some growth through M&A.

I'm following several promising stocks with irresistible entry points in my Zacks Stocks Under $10 portfolio.

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Best,

Brian

Brian Bolan is our aggressive growth expert and the editor of the Zacks Stocks Under $10 portfolio.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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