CFDs are complex financial instruments and come with a high risk of losing money rapidly due to leverage. You should consider whether you understand how CFDs work, and whether you can afford to take the high risk of losing your money. CFDs are complex financial instruments and come with a high risk of losing money rapidly due to leverage. You should consider whether you understand how CFDs work, and whether you can afford to take the high risk of losing your money.

Finetuning your investment strategy

Lesson 6 of 6

How to manage your investments

When is the right time to sell your investment? It’s a simple question with a sometimes complex answer. But in the end, it comes down to how much growth is enough.

Remember, you only realise a profit or loss once you sell your holdings. And in order to work out how much an asset has grown, you’ll need to take several factors into account, including how much you put up for it.

Some investments can be decades old, and your portfolio could contain several assets at a time. This makes it impossible to remember how much each of them cost at the time you bought them.

Over this period, you could’ve also taken several actions you won’t easily remember. For example, maybe you sold some of your holdings in an underperforming stock. Perhaps you reinvested—or even withdrew—some dividends. Suddenly working out how profitable an investment is becomes complex.

In addition to your investment strategy, preferably one for each account, you should have a complete record of all your actions. Luckily, most online brokers keep a log of all your interactions with your portfolio in your profile. So you can always refer back to your history for any information you need.

Living off your investment

For some, investing in the markets offers an alternative or addition to traditional retirement funds. If your investment portfolio is your nest egg, you’ll have to sell your assets for cash to fund your lifestyle. However, this has implications for your future earnings and tax liability. That’s why it’s advisable to sell your investments gradually.

‘Drawdown’ is a term typically used in pension funds to describe the rate at which you withdraw funds from your retirement savings. In this case, we’ll use it to mean selling parts of your portfolio over time to cover your living expenses.

Your drawdown rate is usually expressed as a percentage of your portfolio’s total value. For example, if your portfolio is worth £400,000, and you need £40,000 per year to cover your costs, your drawdown rate is 10%.

A high drawdown rate will result in you running out of money. And if it’s low enough, you’ll have enough in your portfolio to continue growing your funds over time. Working out your ideal drawdown rate depends on two factors:

  • Your portfolio growth rate
  • The rate of inflation

A safe drawdown rate is usually the amount of growth above inflation your portfolio had in the previous year. For instance, if the rate of inflation was 3%, and your portfolio grew by 5%, you could withdraw 2% of your wealth without making a dent in it. Your remaining money would continue to grow in value and earn dividends. But if your portfolio only grows by 3% and inflation is 3%, any amount you withdraw would make an impact.

Question

Your portfolio is currently worth $1,000,000, up from $950,000 at the start of the preceding year. You want to use some of it as your main source of funds next year while you’re on sabbatical. You estimate that you’ll need $35,000, and the rate of inflation last year was 3%.

This represents a good drawdown rate.
  • a True
  • b False

Correct

Incorrect

£35,000 of £1,000,000 is 3.5% – 0.5% higher than the rate of inflation. Since your portfolio grew by 5%, a safe amount to withdraw would be 2%, which is £20,000.
Reveal answer

What makes this especially tricky is that inflation isn’t reflected in your portfolio. While you can see your money growing, you can only feel the impact of inflation when you withdraw and spend it. That’s why it’s important to account for it in your planning.

When you consider drawdown rates, it becomes easier to calculate how much growth is enough for you.

Selling to rebalance

If you’re managing your own portfolio using a clear strategy, you might have to sell some shares in an investment that grew too much. This sounds like a good problem to have, and rebalancing is controversial for that reason. But if you want to maintain your initial risk profile, you may need to do this.

Did you know?

A balanced investment portfolio will normally include a mix of assets with differing risk levels. If, for example, a high-risk asset grows – meaning it now makes up a bigger percentage of your overall portfolio – then you’d need to sell some of your holdings to ensure you maintain the best possible asset allocation for your risk profile.

Remember, each transaction incurs a cost and sometimes a tax liability. Rebalancing should be done with a clear purpose.

Cutting your losses

No one goes into an investment thinking it’ll depreciate. But it’s an unfortunate reality of investing; not every company makes it. Deciding to sell can be hard, especially if you had high hopes for your investment. But selling a loser, or an asset that’s devaluing, could benefit your portfolio in the long run.

Share prices don’t typically depreciate in a straight line. They can fall, recover, fall further, recover a little and keep doing that dance for years. Those small recoveries can give you false hope about an asset’s future. But analysing the market, or following expert analysis, could help paint a clearer picture about its future.

Always remember that your investment portfolio is bigger than just one holding. Once an asset hits your exit price, sell and invest in one that has better prospects.

Lesson summary

  • Keeping record of all your investments is a good way to assess how much they’ve grown over time
  • Should you decide to live off your investment, calculate your ideal drawdown rate to avoid impacting future growth
  • You may need to sell some overperforming assets in order to maintain your preferred risk level
  • If an asset depreciates to an undesirable price level, it may be best to cut your losses
  • Always analyse a market before making any decisions about your portfolio
Lesson complete