While the S&P/ASX 200 has been plodding along innocently this year, up just 1.5%, it was noteworthy that investing icon Howard Marks issued a warning for U.S. investors in his regular investor memo last week:
I think it's better to turn cautious too soon (and thus perhaps underperform for a while) rather than too late, after the downslide has begun. – Howard Marks
There is so much overlap of global equity markets that any change to sentiment in the U.S. could easily flow though to the ASX.
While investing conditions are still amicable it makes sense to be decisive and sell off dead-weight companies which end up making their way into our portfolios.
There are four types of company I would consider selling today:
1. Long-shot, speculative tech, biotech, or resource companies
Maybe you got caught up in the hype.
Maybe you still think they have great prospects.
Regardless, that speculative 'long-shot' company you bought two years ago is still burning cash and still has little to show for it. If investors get pessimistic buyers could quickly become scarce, making it harder to sell.
2. That highly leveraged company
A lot of companies have added to their debt piles over the last few years while borrowing has been cheap and easy. They've used it to jack up investor returns through acquisitions, new capital projects or share repurchases.
But companies can get into trouble if interest rates or economic conditions change. Santos Ltd (ASX: STO) will always stick in my mind as an example after borrowing heavily to invest in giant LNG projects before the collapse in oil prices.
Another company I am cautious of today is G8 Education Ltd (ASX: GEM), which had about $0.65 of debt for every $1.00 of equity at 31 December, 2016.
3. The loser which may never recover
I love a good comeback story, but that also makes me susceptible to the mental blight of price anchoring: holding on to a company in the vain hope its share price will recover after a big fall. Cut your losses early and move onto better things.
4. Any business you don't properly understand
It doesn't matter if it's Commonwealth Bank of Australia (ASX: CBA), or Telstra Corporation Ltd (ASX: TLS), if you don't properly understand the business you are automatically exposing yourself to more risk by not knowing where the threats lie.
Foolish takeaway:
As the old fable goes, time spent preparing for tough times while the sun is out is rarely wasted. Make the tough call and reduce your risk by dumping poorly performing companies, or those you don't understand, while you have the chance.
