Sensing a turnaround in the markets Eagle Eye decides to cash in two of our stocks to maximise profits and provide cashflow to reinvest once the correction is over
There is a theory which decrees that “what we fear will manifest itself”. It certainly seems to be coming true for the stock markets at the moment. Those of you who follow this column may recall a couple of articles over the last couple of years which follow the mantra of ‘Sell in May and go away’. Indeed, if you look at the circled areas on the S&P table below, we can see that not only did the market capitulate but it took almost a year to recover. With the wall of woe refocused on Europe and Spain and the small slide in the index value since the last article, I believe it is time to seek some form of protection and take back some level of our profits perhaps.
There is no doubt that it is large scale institutional investors who drive markets and to ignore what they are doing is financial folly. It is worth noting that this is the first time this year that the market volumes are red (which indicates more selling than buying) for a consecutive two-week period. I suspect this means that the markets could be preparing for a retreat.
Couple that with the strong rise in investor sentiment (as per the Vix index) and we have the makings of a market correction possibly two weeks earlier than what we would have seen last year (see Table 2).
Once again notice the correlation in the rise of the Vix index during a similar period in 2011. The big challenge with investor sentiment is once it changes, it can take a long time to be placated again.
Portfolio
As we can see from the account summary, we are up 5.5 per cent since inception, leaving aside the dividend effect of owning these high yielding dividend stocks.
Account summary
Position Value €98,048
Cash €7,461
Account Value €105,509
However, I am inclined to propose and follow through on selling some of our more profitable stock to have cash available to reinvest post- correction and gain even higher yields. In a market correction, cash is king as it allows us to reinvest in the stocks we previously owned at a lower price and at a higher dividend – a key reason to always rebalance and review portfolios. Warren Buffet might not concur with the notion of actively trading stocks, but at the same time, he has a tendency to be able to create his own market conditions which you and I cannot mirror.
To see how our portfolio currently looks see Table 1 above. I have sold the Intel and Merck stocks to bank the profits which will not only give us cash, but also ensure that we can look to reinvest in these shares once the correction has happened. As much as I might like to, I cannot sell the Pfizer shares as we already have these pledged in a covered call which does not expire until July. With its relatively low share price and more importantly the fact that we bought this stock with a 4.4 per cent dividend yield, I am more than happy to hold these shares and look to continue to trade covered calls to enhance the returns.
By selling the Merck and Intel stocks we have now released an additional €22,700 in cash which puts our portfolio in a strong position (see Table 5).
New account balances:
Position value €75,290
Cash €30,130
Account value €105,420
Overall portfolio value 5.42%
One share which I am holding for at least a couple more weeks is Du Pont (DD:NYSE). There is some buying interest in this stock and it has not yet reached its peak in terms of previous price points. Again it does carry a worthy 3.4 per cent dividend from when we bought this stock (DD). With the volatility starting to hot up, I am inclined to stay away from covered calls this week. However, I thought I would finish the article by looking at the whole notion of when to hold shares and how a correction can be beneficial and we can still benefit from dividends.
There is a term in stock investing called the ex-dividend date. This effectively means that if you hold shares in a stock after this date, you are still entitled to the dividends that have been declared up to this particular date. If we look at Intel for example, its ex-dividend date is 03/05/12.(Table 6) By selling this stock before 5 May, we will not be entitled to the dividend due of $0.21.
This does represent a cost of 0.75 per cent. This is not a big amount given the level of profits we have accumulated. Nevertheless, having this knowledge in a brief correction phase of a market could yield a more positive position when engaging in a trade.