Still, it does present a bit of a challenge, as selling always seems to be one of the hardest decisions to make - harder even than buying.
Here's the problem...
It is a quirk in our psychological make-up that we are keen to grab profits (often too early) but we hate to sell anything at a loss. So the seasoned investor say: "sell your losers and hold on to your winners". (I have actually make most money by not selling - because I did not want to exceed my annual capital gains allowance - for several years.)
However, the DIY Income Investor approach does not quite work like that. Although capital value is obviously important over the long run, the emphasis is on the income that is produced. And if the investment falls a bit in value - but is still producing the same income - there is no reason to sell, unless there is something seriously wrong with the company behind the security.
So this investment approach does tend to lead to a 'buy and hold' mentality (which, unfortunately, does mean holding on to losers - but hopefully not until the bitter end).
So how to deal with the happy situation of a security with a rising value. I try to slow down the urge to sell with a three-step process:
- The metric I use (in my portfolio spreadsheet) is to compare the capital gain with the annual income produced. I restrain my urge to sell by waiting until that indicator reaches 5 (i.e. the security's value has increased by the equivalent of 5 years' income that I currently receive
- Then I look at the current yield of the security - if it is still above the average yield of the portfolio, I will hold on
- Finally, I look again at the fundamentals of the company - if it looks as though there may be a reason for further growth in value, I will hold on some more.
The '5 years' income' figure has come from experience over the years. High-yield securities, such as high-yield shares, don't often leap in value like some of the more speculative shares (as much of the economic value generated is being passed on in the form of dividends). So when there are increases in value, more often than not they disappear again after a while.
The case in point is my holding in Inmarsat, which I bought when it was knocked out of the FTSE 100 in December 2011. The share price is now up nearly 40%.
So how does my 'sell' checklist look?
- the increase in price is equivalent to nearly 6 times annual income
- the company recently increased the dividend, so the forecast yield is around 5% - compared with my current portfolio yield of 6.6%
- the jump in share price seems to have been caused by just good commercial news (and nothing exception, like a takeover bid)
So, my finger is on the 'sell' trigger - but I already have lots of cash to invest (more about that later), so I think I'll give it a little longer.
Update 30/8/12: Still holding, as the price trend continues to be upward. Gain is now equivalent to 6.4 years of income.
Update 12/9/12: Sold at £5.8565 after a couple of downward price moves. Capital gain: 44%
I am not a financial advisor and the information provided does not constitute financial advice. You should always do your own research on top of what you learn here to ensure that it's right for your specific circumstances.