Apologies

High Yield Portfolios: To Dabble Or Not?

By Stephen Bland (TMFPyad )

December 12, 2003

One rule I set myself for the high yield portfolios (HYP) I portray here is that there is never any voluntary trading of the shares, so the only changes that occur are those mandated by some action from the companies such as takeovers or reorganisations. There are two principal reasons why I set the no-dabble rule.

Firstly, it is simply the route of least work. I intended the HYP idea originally for income investors, probably retired, who once invested need hardly worry themselves ever again with capital matters, leaving them free to enjoy the income and pursue their personal ananda.

Secondly, I believe a large proportion of investors do not possess the skills to make successful changes to a long-term portfolio anyway, essentially because they may be far too easily influenced by short-term events, press comments and so on, that in practice matter little in the long run.

As a result, poor calls on changes are made that with hindsight demonstrate shortsight. This view is not scientific, but based on personal anecdotal evidence of having observed many small investors over the years during which the buy and holders outperformed most dabblers. I conclude that for long-term HYP investors, sheer indolence is a fine strategy.

My theoretically ideal HYPer was a person disinterested in the market yet willing to take the risks with income and capital that characterise an equity portfolio compared with fixed interest alternatives like gilts. The demo portfolios I run are there to prove that my ideas have merit (or not), though it will take quite a time for this to be shown since they are intended for the very long term. They are just my ideas and I am not suggesting this is the only way to go for HYPs. Clearly everyone who runs an HYP will do it their own way in any event but since I write about the strategy, I write about my preferred way while realising naturally that it will not suit everyone. You can’t please ‘em all, so I tend to aim my version of the strategy at my theoretical HYPer, that granny in Hove whose daughter has set up a permanent portfolio.

However, many readers on the HYP discussion board have expressed themselves to be uncomfortable with the idea of a total lack of trading. I see two main situations where trading can be desirable. One is where a share cuts, or maybe even merely holds, its dividend and the other is where it has risen very strongly thus reducing the running yield so that in both cases, a better income could be obtained by selling and reinvesting in a higher yielder if a suitable choice is available — not always that easy.

The first situation is likely to produce a loss and the latter a certain profit but the question arises as to whether these approaches are worth considering. The answer is yes, if you are sufficiently confident in your skills and have sufficient interest in the market to encourage such action, such that the replacement share turns out to be a better investment long term than the one sold. This latter point is the key to it.

Income is the main aim of an HYP, even when it is reinvested by long-term investors using the strategy for growth, so that increasing the income by selling a share and reinvesting in a higher yielder should be a good thing. It is similar to my value investing style, where shares are bought cheap and sold when the value has outed, even if that results in a loss sometimes. The difference is that value investing seeks to make capital gains with a bit of income on the side, while the HYP approach seeks income with a bit of trading on the side if desired.

Unfortunately, there is no way I can see of proving over a very long period whether trading or holding is the superior approach to a HYP. If you trade, you will never know what would have happened if you had not. If you don’t trade, you will never know what would have happened if you had. On balance though, I am convinced that for most small investors, avoiding trading is the way to go, plus it sits well with the disinterested approach that I advocate. But if investors think they can do better by trading then go for it, it’s your money. My view is though that you will probably lose out to a pure buy and holder.

> High Yield Portfolio discussion board .