The Cohan Letter up 15% in 2006
In thinking over the performance of the stocks mentioned this year, I was struck by how difficult it was to find stocks that did well. Thus the 2% stop loss rule which I’ve been using for the last several years played a very big role in cutting losers before they could do much damage.
Compared to 2005, four more stocks fell at least 2% this year from the price at which they were mentioned. Specifically in 2006, 22 out of 36 stocks fell at least 2% below the price at which they were mentioned compared to 18 stocks cut in 2005.
These figures suggest that most of my stock picks are lousy. In 2005, when the stock picks were up 23.2% compared to 3% for the S&P 500, fully 50% of the stocks I mentioned proved to be money losers while in 2006, 61% dropped at least 2%.
This analysis suggests that a big part of investing success is following a strict discipline for selling losing stocks before they can do much damage.
But merely not losing is not enough to win in the investment game. Finding stocks that go up more than the market averages is also important. And this year, of the 14 stocks that were left in the portfolio at the end of December, six outperformed the S&P 500, one equaled it, and seven under-performed the index.
I found it interesting that the two top performing stocks in the portfolio were both Mexican companies whose stock prices surged in December. Specifically, Telefonos de Mexico, S.A. (ADR) (NYSE: TMX) was up 36% from $20.83 to $28.26 and Wal-Mart de Mexico (ADR) (OTC: WMMVY) rose 28% from $34.25 to $43.85. At the end of November, these two stocks were up a relatively paltry 25% and 10% respectively.
I am not sure why these stocks climbed so much in December but one reason may be window dressing – the decision by portfolio managers to acquire shares in top performing companies at the end of the year so they can show their investors that they owned these top performers.
This strategy strikes me as silly since investors should be able to tell that their portfolio managers did not hold these winning stocks long enough to capture the high returns that the winning stocks demonstrated during the year.
Nevertheless, this predictable pattern suggests there’s money to be made by traders who can anticipate – maybe in late November – which stocks will be the biggest volume window trimmings for portfolio managers towards the end of December.