“You reap what you sow” — that’s certainly true in investing.
Like a patient gardener, the seeds you sow today will bear the fruits you savour in the future.
Similarly, your decisions on what stocks to include or exclude have a direct bearing on how your portfolio will perform.
Managing a portfolio is not a simple task.
It requires constant care and attention, just like how a gardener looks after his or her plants.
You may not be a natural at gardening, but you can learn and improve your skills as you invest your money.
In fact, I think that portfolio management is a vital skill that you need to master as you grow and diversify your investments.
Plant the right seeds
At the heart of portfolio management is an intimate understanding of the stocks you own.
A simple rule is to never buy a business that you do not understand.
Similarly, a gardener should only cultivate plants that he knows well as each has unique conditions to survive and thrive.
Having a garden with too many types of plants is like filling your investment portfolio with a collection of random stocks.
As the number of stocks grows, it becomes tough to monitor all of them.
By focusing on stocks that you understand well and limiting the number of positions to around 10 to 20, you can ensure your portfolio is manageable without needing to spend excessive time on it.
One suggestion is to split your portfolio into two segments – core and satellite (non-core).
The core positions could be in blue-chip stocks such as DBS Group (SGX: D05) or Singapore Exchange Limited (SGX: S68) that demonstrate resilience and boast a solid track record.
These stocks form the foundation of your portfolio and their familiarity and reliability mean you can be more hands-off.
Meanwhile, the satellite positions can include riskier stocks with less of a track record but boast faster growth rates.
These can form the “icing” on the portfolio and provide it with more fuel to grow even as the core layer supplies steady and predictable dividends.
Like a garden, an investment portfolio should also have sufficient diversification.
Gardeners have to face unpredictable weather which they have no control over.
Along these lines, some plants are more hardy than others and can survive different adverse conditions, just as certain stocks do better than others as the economic cycle turns.
As an example, banks generally perform well in a rising interest rate environment whereas debt-laden construction companies may flounder.
Retailers that sell necessities, such as Sheng Siong (SGX: OV8), can continue to report good numbers during a downturn while luxury retail brands such as Prada (HKSE: 1913) and Louis Vuitton (EPS: MC) are more susceptible to consumers’ fickle tastes.
Water the flowers and pull out the weeds
Regular maintenance is necessary when managing your investment portfolio.
A gardener cannot just forsake his plants and must tend to them periodically by watering them and exterminating the weeds.
These simple acts ensure that the plants remain healthy and free from pests and their growth is not choked off by weeds.
As an investor, you should regularly review your investments and only include those with solid long-term prospects.
In other words, you should continue to water the flowers (keep the good performers) while pulling out the weeds (selling the poor performers).
Many investors make the common mistake of watering their weeds when they allow losers to fester within their portfolios.
By selling your winners too early, you end up killing the proverbial golden goose as these winners could go on to pay out higher dividends for many years to come, thus helping to lift your portfolio’s value.
On the other hand, adding more to dying businesses in the hope of breaking even will just add to your losses.
For your portfolio to attain new highs, you must learn to retain the strong stocks and quickly sell off the lousy ones.
A word of caution – how stocks are classified as “good” or “bad” should hinge on their business and not share price performance.
Should a business experience a chronic decline in revenue, profits and cash flows, it may be better to part with it and reallocate this money to a more promising candidate.
By actively ridding your portfolio of lemons, you will slowly build up a robust portfolio of winners that can multiply your wealth and better prepare you for retirement.
Enjoying the fruits of your labour
As you progress on your investment journey, do not forget to enjoy the fruits of your labour in the form of dividends.
Gardeners also periodically savour the fruits of their efforts as their plants produce juicy and succulent fruits.
A growing stream of dividends is the best endorsement of your portfolio management skills and lets you know that you are headed in the right direction.
Income-seeking investors understand that managing their portfolios well will result in not just a larger stream of income in the years to come, but also endow you with a portfolio that grows faster than the inflation rate.
Sowing the seeds of compounding
The goal in investing is more than just receiving rewards from the investments you possess.
Remember that a gardener not only savours the fruits that grow on the orchards and trees he planted, but he also uses the seeds from these fruits to enable more plants to grow and flourish.
You should be doing the same with your portfolio.
This process is known as “compounding” and involves reinvesting the dividends you receive from your investments into the very same stocks that paid out these dividends.
By doing so, you end up with a full “garden” of high-quality investments that slowly rise in value over time.
A simple example can help to illustrate the power of compounding.
Imagine receiving distributions from a solid REIT such as Parkway Life REIT (SGX: C2PU).
Rather than spending these dividends, you can reinvest them back into the healthcare REIT so that you own more units as time goes by.
These units, in turn, generate even more dividends, allowing you to build and grow an increasing stream of passive income.
This process, when rinsed and repeated, is the essence of building a robust retirement portfolio that not only helps to beat inflation but also supplies you with a steady stream of income into your golden years.
Get Smart: It is easier than it looks
Managing your investments is an important skill to have and can be likened to a gardener tending to his plants and trees.
By following the simple rules above on how to structure your portfolio and refine it over time, you can slowly but surely end up with a portfolio of winners that can help you compound your wealth.
Time and patience are required to sharpen your skills and learn from mistakes.
But if you are conscientious and diligent, you can master the techniques and discipline needed to maintain and grow your investment portfolio.
Note: An earlier version of this article appeared in The Business Times.
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Disclosure: Royston Yang owns shares of DBS Group and Singapore Exchange Limited.
