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When Should You Sell Your Funds
Education | 01 June 2010
By: jason.liew
Articles (66) Profile

When Should You Sell Your Funds?

In the previous two articles on Unit Trusts – Pertinent Points To Look Out For, I have elaborated on the points which investors have to look into before they purchase the fund. After having purchased the fund, it is good to conduct a periodic review on your funds, even though they are managed by professional fund managers. Below are some of the points to consider for your review.

Fund size growing too much, too fast

The asset or fund size of the fund is equivalent to the market capitalization of the fund (i.e. NAV per share of the fund x the number of shares outstanding). For example, five years ago, Person A wanted exposure to small caps stocks, thus he invested in a small cap fund. The fund, through its astronomic growth, morphed into a large cap fund over the years. This would pose problems to Person A from two angles.

Firstly, the current large cap fund would have difficulty in investing in small cap stocks. This is because the small cap stock, being a company with small market capitalization would have an insignificant contribution to the large cap fund. Secondly, for the small cap stock to have some contribution to the fund, the fund may have to buy a substantial portion. This would almost certainly push up the share price to unreasonable highs. Besides purchasing the shares, selling the shares may be a problem. The fund may have difficulty taking profit without exerting a significant downward pressure on share price.

In view of the above problems, fund managers may mitigate this problem by closing the funds after a certain portfolio size is reached. Alternatively, they may change their portfolio strategy or focus from small cap to large cap. This would bring forth the problem from the second angle which would be discussed in the following paragraph.

Change of strategy

With reference to the above problem of excessive growth in fund size, some fund managers may alter their strategy from buying small cap stocks to large cap stocks. However, this would have deviated from Person A’s initial investment objective of wanting exposure to small cap stocks through investing in a small cap fund. Besides, Person A may already have a big cap fund in his portfolio and this will result in duplication, instead of diversification.

Person A would have to review his investment objective and decide whether this “small-turned-large cap” fund still fits in his overall portfolio and investment objective.

Performance which diverges too far from benchmark and peers

Stark underperformance from benchmark / peers

An underperformance for a year may not be something that keeps us awake at night. However, if the fund which we painstakingly research and invest in consistently lags its benchmark or peers by a large extent, it is time to ask some hard questions. Perhaps there is a change in fund manager or a change in strategy. Perhaps the benchmark is not an appropriate benchmark. Or, perhaps the fund managers are less skillful than the others. We have to understand the likely cause for the continual underperformance and may have to cut loss on the fund, before the loss escalates to larger quantum.

Significant outperformance from benchmark / peers

Some readers may think that this is a typo or an error here. Nope, there is no error. Although, a significant outperformance from benchmark may look good on paper and a good brag after some drinks, we should look into the returns further to decide whether the outperformance was due to astute stock picking cum portfolio management skills or assumption of excessive risks or deviation from the desired asset allocation.

For example, if your balanced portfolio (i.e. 50-50 in equity and bonds) returned 200% in 2009, outperforming its benchmark by a colossal extent, you should start to question what your actual asset allocation was in 2009; what strategies the fund managers employ to warrant such outperformance etc.

Exodus of fund managers

Not all changes in fund manager spell doom for the funds. Firstly, funds run by two or more managers, or index funds, are less affected by changes in fund managers than single manager active funds. Secondly, well known funds such as Fidelity have many skillful fund managers who can replace the outgoing fund managers easily. However, smaller fund names may not have the luxury of a strong team of fund managers. Therefore, changes in fund managers are of more concern to investors, if the fund is:

  • run by a single manager;
  • an active fund where there is a wide range of possible returns;
  • part of a small fund family where there are less talented fund managers to replace the outgoing fund manager.

Change in needs & preferences

Your preferences may have changed over the years. For example, as you age, your risk profile should tilt towards less aggressive portfolios. Thus, the small cap portfolio which you have invested thirty years ago may not be a suitable fund for you now.

In addition, over time, some of us may have an increasingly bias against a certain sector or a certain country. Some of us may shun investments in Chinese firms, perhaps from our bad experiences with some of the SGX listed S-chips or due to our business dealings with the Chinese firms. Consequently, we may decide that we are increasingly uncomfortable with our Chinese funds and this may be a trigger to consider to sell our funds.

Rebalance

Rebalancing may yet be another factor to consider selling a portion of our funds. This is because our asset allocation would likely be skewed as our equity, bond, alternative asset funds change in value, especially after the significant run-up in the equity markets last year. It is a good practice to rebalance the portfolio periodically. Proponents of “rebalancing portfolio” believe that this would instill investment discipline, force us to take profit from funds which have appreciated, and buy into the funds that have dropped. This rebalancing method ensures that we adhere to our asset allocation and also assist us to “buy low and sell high”.

Other requirements for the cash

Although it would be good to have unlimited cash, there are times where we require large amounts for cash for other attractive investments or for some unforeseen circumstances. As a result, we may have no alternative but to liquidate the funds.

Conclusion – still have work to do despite outsourcing to fund managers

In a nutshell, although we have outsourced the management of our funds to fund managers, we still have to monitor the funds regularly. Readers should consider the above factors in their fund review. If some or all of the factors occur, it would be good to start considering the option of selling part or the entire fund holdings.


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