Watching For Fundamental Shifts

10/03/2013 9:00 am EST


Michael Khouw

Partner, The Options Edge

Frequent CNBC guest Michael Khouw shares what factors or changes will cause him to sell a stock.

SPEAKER 1:  Hi.  My guest today is Mike Khow.  Hi, Mike and thanks for joining me.

MICHAEL KHOW:  My pleasure.

SPEAKER 1:  You know we were talking a little bit earlier about evaluations of companies and fundamental analysis.  In my line of work, I don’t often see fundamental analysts anymore.  Everybody wants to trade and day trade and they think they can make a zillion dollars.  Then you have the guys like Warren Buffet who still say well I’m going to buy something because I think the fundamentals of the company are very valuable and I’m not changing my mind about it next week or next month unless something major happens.  You sort of feel the same way in that hold on to until.

MICHAEL KHOW:  I think the only reason I would ever sell a security.  There’re really two.  One, something has fundamentally changed.  Those fundamental shifts can be something that you would anticipate that’s just evaluation based or they could just be a secular shift in the marketplace.  What’s an example?  Well, I think we’ve seen this in the PC markets, right, and all of the industries that are linked to the PC market.  If you went back 15 years ago, it was hard to imagine that laptops might not be relevant or desktop PCs wouldn’t be relevant.  It was hard to imagine.  We didn’t really know what the Smart phone boom would be about and we hadn’t really seen tablets.  If I had looked at companies like AMD and Intel and companies like Dell and Microsoft.  These are industries that are very closely linked to the PC industry.  We might have expected that their growth trajectory wasn’t likely to change.  Now we know that it is likely to change unless they can adapt to the new market place.  That would be one reason. 

The other reason is the same reason I got into a stock in the first place, evaluation.  You look to purchase stocks where you can buy $1 for $0.50.  If I do a net present value calculation and I say all the future cash flows of this business are worth $1 and it’s trading for $0.50, I’m not going to sell it at $0.60.  I’m not going to sell it at $0.70.  I’m not even going to sell it at $1 because even at $1 I have fair value and unless I find a better investment opportunity I’m not likely to switch but if it starts trading at $1.20, now it’s probably time to start looking for an exit strategy.  You can still even hang on in those situations in the absence of a better investment opportunity by keeping your cost basis down.  In this particular instance, you could for example sell calls against your existing position.  All of that time you’re going to be collecting premium.  You could caller up your position.  There are other things you can do to hang on to them if you think this is maybe going to continue but in general, if you find a good investment stay with it until you have real reasons why it no longer is.

SPEAKER 1:  Then for an individual investor they say okay, well then how do I know.  How often do I check this?  I mean, should I be reevaluating my stocks every week or it is once a month, once a quarter unless something major happens, of course. 

MICHAEL KHOW:  For one thing, the average investor probably has somewhere between maybe 30 to 50 names in their portfolio.  It could be less.  It could be more depending on their own strategy.  If you have a couple hundred, you’re going to have a very hard time keeping up so I’d probably shy away from that.  Assuming you just look at it every day, you’re going to know if something in your portfolio shot up 50% in one day that’s probably time to examine it.  Or, a major news event or some other bit of information that comes to you that affects some of the industries where you’re invested that might be time to examine it.  Most of the long-term investors I know will look at the same securities, the same industries every single day and do nothing until something really big changes.  My new changes I really don’t think they’re anything more than a distraction.  I’d leave it alone at that point.

SPEAKER 1:  Good advice, thank you.


SPEAKER 1:  Thanks for joining us at the Video Network.

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