“No One Ever Went Broke Taking A Profit”

You’ve heard it a hun­dred times. A stock you own has had a good run, you’re sit­ting on a fat gain, and some­one (your bro­ker, your broth­er-in-law, the voice in your own head) tells you to take some off the table. Lock it in. Bank the win. Nobody ever went broke tak­ing a prof­it.

And maybe you won’t go broke tak­ing a prof­it. You just won’t bank as much mon­ey as you might have if you’d con­tin­ued hold­ing. Prof­its you nev­er see don’t end up on a bro­ker­age state­ment. They are invis­i­ble. It’s the four-bag­ger you sold when it had dou­bled. It’s twen­ty years of com­pound­ing you swapped for one good year.

Let me show you what I mean, using a stock Tony pulled apart on the show this week.

NRW Hold­ings. Tick­er NWH (which always con­fus­es me). An engi­neer­ing and con­tract min­ing out­fit out of Perth. I bought it in my super port­fo­lio in May last year and it’s up about 150%. I also hold it in one of the Light port­fo­lios from a few weeks ear­li­er, where it’s up 158%. Its neigh­bour in the sec­tor, MacMa­hon Hold­ings (MAH), is up 101% in the Light port­fo­lio since Novem­ber. Over the last twelve months NRW has run 123% and McMa­hon 201%. Mate­ri­als was the best-per­form­ing sec­tor on the ASX, up 41%.

NRW’s QAV score today is 0.04, well below our 0.10 cut-off, so it isn’t on our buy list today. Not because it isn’t a great com­pa­ny but because it is no longer a great BUY. It was when a great buy when we bought it. The score fell BECAUSE it worked.

QAV is qual­i­ty at val­ue. The qual­i­ty half of NWH has­n’t gone any­where. The busi­ness is run­ning hot, rev­enue up 19.5%, EBITDA up 36.5%, under­ly­ing prof­it up 42%, an order book north of sev­en and a half bil­lion dol­lars. What changed is the price. We bought it cheap. It isn’t cheap any­more. As the price climbed the val­ue half of the equa­tion col­lapsed, and the score came down with it. A falling score on a stock you already own does­n’t mean sell. It means the stock did exact­ly what you bought it to do.

This is where the take-a-prof­it brigade get to work. The score’s gone. The PE looks ter­ri­fy­ing (53 times, though that’s warped by a one-off write-down I’ll spare you). It’s had a mon­ster run. Sure­ly you sell and give your­self a pat on the back?

The aca­d­e­m­ic data is unkind to that instinct. Ter­rance Odean went through 10,000 bro­ker­age accounts from 1987 to 1993 and found the win­ners peo­ple sold went on to beat the losers they held onto, by 3.4% over the fol­low­ing year. Investors are bril­liant at water­ing their weeds and cut­ting their flow­ers. Peter Lynch said it best: “Sell­ing your win­ners and hold­ing your losers is like cut­ting the flow­ers and water­ing the weeds.” War­ren Buf­fett liked that line so much he rang Lynch up to ask if he could bor­row it. Tony nev­er asked, but he bor­rows it con­stant­ly.

Jesse Liv­er­more worked it out the hard way a cen­tu­ry ago. “It nev­er was my think­ing that made the big mon­ey for me. It always was my sit­ting.”

So do we just hold every­thing for­ev­er and hope for the best? No. This is the part that sep­a­rates QAV from a hunch.

We sell. We sell all the time. We just don’t sell because a num­ber got big, or a chart looks top­py, or our palms are sweaty. We sell when the rules tell us to. NWH has a three-point sell trend line, and right now the stock is sit­ting a long way above it. As Tony said on the show, it would have to fall a long way from here before that line breaks. Until it does, we hold. If it does, we’re out. No debate, no attach­ment. Just rules.

That is the whole trick. The deci­sion to sell is made by the method, not by me, and def­i­nite­ly not by some­one on Tik­Tok telling me you can’t go broke tak­ing a prof­it.

And if you’re wor­ried about how much you’d lose while the price drops down through that sell line, I get it. But we’ve done back­test­ing of our rules and found that, more often than not, they make us mon­ey. Sure — some­times things would have worked out bet­ter if we’d sold ear­li­er, or not sold at all. But sta­tis­ti­cal­ly, it goes well for us more often than it does­n’t. They only need to work for us 51% of the time to pay off.

One thing worth being clear about, because it mat­ters. Hold­ing NRW and buy­ing NRW are two com­plete­ly dif­fer­ent deci­sions. At these lev­els it’s a Josephine, it’s well above our val­u­a­tion, and it is absolute­ly not a buy today. If you don’t own it, this is not me telling you to go and get some. Tony’s pulled pork was a look at a stock that has already done its job. But if you got in ear­ly, back when it was bor­ing and cheap and nobody was writ­ing it up, then the ques­tion was nev­er “how much prof­it should I grab.” The ques­tion is “has my sell rule trig­gered.” It has­n’t.

The finan­cial press now run­ning glow­ing pro­files of NRW and MacMa­hon had noth­ing pos­i­tive to say about these stocks when they were cheap and we were buy­ing them. They tend to dis­cov­er a win­ner right about the time we’ve already made our mon­ey on it.

The dis­ci­pline in this game isn’t in the buy­ing. Any­one can buy. The hard part, the part that actu­al­ly com­pounds, is the sit­ting. Hold­ing a good stock through the noise, past the point where cash­ing out feels clever, until the rules and only the rules tell you the run is done. To para­phrase Jer­ry — any­one can TAKE a posi­tion, but do you know how to HOLD a posi­tion?

Okay so.… maybe no one ever went broke tak­ing a prof­it. But “not going broke” is not the goal. Max­imis­ing returns — that’s the name of the game.

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QAV Myth Killers is a week­ly col­umn in the QAV newslet­ter, tak­ing apart a piece of
invest­ing con­ven­tion­al wis­dom. Read the series, or
get it by email every Fri­day.

Gen­er­al advice only. Space­craft Pub­lish­ing Pty Ltd
trad­ing as QAV is a Cor­po­rate Autho­rised Rep­re­sen­ta­tive (CAR 001292718) of MF & Co.
Asset Man­age­ment Pty Ltd (AFSL 520442). This is gen­er­al infor­ma­tion and does not take your
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dis­clo­sure.