Portfolio management is an important skill for any investor.
This management involves not just monitoring your stocks and their underlying businesses but also involves decisions to be made when share prices move up or down.
For some of your stocks, they may do well and their share prices will soar.
On the flipside, some of your stock picks may decline in value as their businesses come under pressure.
Let’s take a look at the first scenario where your stock surges in price and determine what you should do.
A happy problem
When one of your stock surges, it becomes a happy problem in deciding how you should react.
On one hand, it’s tempting to want to lock in the gain by selling your shares.
But on the other hand, it may also make sense to ride the rally to see your profits multiply even more.
It can be painful to sell your shares as they continue to rise, thus making you feel like you missed out on future profits.
Yet, selling makes sense if you believe that these shares may be poised for a sharp fall.
In such scenarios, what should you do and how should you evaluate the situation?
We have a simple rule-of-thumb to recommend – observe the business behind the stock ticker to help you to arrive at the correct decision.
Massive over-valuation
As you may be aware, share prices are affected by all manner of news events and announcements.
These range from industry and competitor news, new product launches, acquisitions and mergers, or earnings announcements.
Investor sentiment also plays a huge role in determining how share prices move.
During a bull market, share prices usually head upwards without regard to business fundamentals as hot-headed investors chase their profits.
Hence, it’s important to analyse the situation to determine if the business may be overvalued.
This evaluation should be based on a rational expectation of the business based on its products, services, market position, and future plans.
A good example is Zoom Video (NASDAQ: ZM).
Zoom was a poster boy of the pandemic as people were forced to stay home and rely on the company’s videoconference software to stay in touch and conduct business meetings.
From around US$73 in December 2019, shares of Zoom hit their all-time high of US$559 in October 2020.
What investors failed to anticipate back then was that the pandemic would eventually end and many people will revert back to their original habits of meeting up physically.
Although businesses and individuals still use Zoom for virtual meetings, its usage will not be as prevalent as during the pandemic.
Since then, Zoom’s shares have tumbled sharply and are now trading close to US$68, even lower than pre-pandemic levels.
Back in fiscal 2021 (ending 31 January 2021), Zoom’s revenue shot up 326% year on year as numerous customers embraced its suite of videoconferencing tools.
Growth has since slowed considerably, with revenue for fiscal 2024 inching up just 3.1% year on year.
An investor would have done well to recognise that shares were overvalued and to sell them to lock in their profits.
The same situation occurred with glove companies that produced nitrile gloves for the healthcare industry.
One of these was Top Glove Corporation Berhad (SGX: BVA).
The group was trading around S$0.49 back in December 2019 and saw its share price soar to around S$3 in October 2020 as countries started ordering gloves in droves.
As the pandemic eased, the stock also collapsed and is trading at just S$0.32.
Revenue for the fiscal 2021 (FY2021) ending 31 August 2021 more than doubled year on year to RM 16.4 billion.
Net profit for that fiscal year shot up more than fourfold year on year to RM 7.8 billion.
It was a sharp contrast for FY2023 as revenue plunged almost 60% year on year to RM 2.3 billion.
The glove maker reported a net loss of RM 926.6 million, a sharp reversal from the net profit of RM 225.6 million in FY2022.
Rosy prospects
It’s not always the case that shares end up overvalued.
Some businesses do go on to do very well, thus justifying the surge in their share price.
One example is iFAST Corporation (SGX: AIY).
The fintech saw its share price soar 607% in the past five years, going from just S$1.02 to the current S$7.22.
iFAST rode the wave of money inflows that helped to push its assets under administration (AUA) to new highs.
It also benefitted from the clinching of a large contract to digitalise the Hong Kong electronic mandatory provident fund (MPF) system.
Net revenue for 2023 jumped 36.7% year on year to S$161.7 million while net profit leapt 340% year on year to S$28.3 million.
For the second quarter of 2024, AUA once again hit a record of S$22.4 billion.
iFAST also upped its second interim dividend from S$0.011 to S$0.015.
The first half of 2024 saw net revenue climb 90.2% year on year to S$119.5 million with net profit soaring 364.8% year on year to S$30.5 million.
The group believes that it will do well in 2025 with its digital bank contributing next year while its Hong Kong eMPF contract continues to show healthy progress.
In such a case, it makes sense to continue holding on to your shares to ride the rally.
Get Smart: Focus on the business behind the stock ticker
The examples above clearly show how you should react to share price surges.
It’s important to focus on the business behind the ticker to determine if it may be overvalued, or if there is still growth potential.
If overvalued, it makes sense to sell your shares before the price tumbles.
But if the rally still has legs, you should hold on tightly to those shares for the future.
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Disclosure: Royston Yang owns shares of iFAST Corporation.
