Braden’s Sell Framework

This blog's content was taken from episode 293, " 6 Reasons to Consider Selling a Stock" 

You can go check out the whole episode here:

Braden gives explanations of stocks he has sold and why, as well as providing examples along the way. The reality is he makes very few decisions a year and tries to maintain very low portfolio turnover. 

Both Braden and Simon go on to provide his sell framework:

1. The first one is more of a reflection of your buy framework.  This took me 8 years as an investor to actually start doing and I wish I did this in year 1. Having a clear set of criteria on the specific business that if X happens or Y doesn’t happen, I will be willing to move on from the investment idea.

For example, I sold Spotify last year, an equity I held for around 2 years, but I had a very clear vision for it and drivers that will create better unit economics.  Namely margin expansion as they pursue other mediums like podcasting, create original content, a network effect and negotiating power with the labels as a result, and a highly targeted ads business through their acquisitions mostly in the podcasting tech and distribution platforms.

I watched GM’s sit flat at 25% while the management team said don’t worry GMs will materially improve once X, Y, and Z happen. I give them the benefit of the doubt because Daniel Ek and team are truly great entrepreneurs.  But I had said after an 8th quarterly call listen which is 2 years, looking at the numbers, if there is no improvement, I will move on. So I did.

Now the important thing here is I reserve the right to change my mind and monitor it more and if the facts change, change my mind as well.  But, I want to do that through my watchlist, not as a shareholder.

2. Wrong side of a LT secular trend

You can make a lot of money buying unloved businesses, unloved sectors and going against the grain.

Oftentimes they are huge winners if the market sentiment is wrong about the LT secular trend. For example, I think British American Tobacco is the cheapest large cap stock in the world if tobacco volumes globally don’t dramatically decrease and they successfully transition to smokeless. You get a well covered 8.5% dividend yield as you wait and high single digits FCF per share growth on the biz.

The problem is cigarettes are clearly on a long term secular decline. That is shown both anecdotally and in the numbers.

Allied Properties example – is one I sold and clearly it was a very good decision.  The stock here is a completely different story at today’s price. However,  at the time it was a fantastic decision of course as I would have lost a lot of capital.

3. An opportunity to own the best.

This is my most common selling decision. There may be nothing wrong with the business, but an opportunity to swing at a fat pitch or own the best in breed can justify decision making.

I just talked last week about how I sold MCO for SPGI, a duopoly on the credit rating agency business. I feel ex-CRA SPGI is a better asset. There is no sense diversifying and fighting my conviction, when there is an opportunity to own the best.

4. Sleep test.

Life’s too short to be owning stocks that stress you out or position sizes that you don’t feel comfortable with.

Stress can affect lots of areas in your life in a negative way and if I have an investment that is stressing me out or I’m losing sleep over it, then it probably means I either need to trim that position or sell it.

For myself it’s pretty simple. At the end of the day I invest to create a better life for myself and my family and getting stressed out about an investment is counter to that. 

5. Egregious valuation multiples

If you’re lucky enough to own a stock that goes parabolic and the multiples are disconnected from reality. It's not a bad idea to take some chips off the table.

I try not to sell winners for no reason, but if the valuation has far surpassed reasonable expectations, I’m certainly open to it.  I own stocks that have run up big here in 2023 and are very expensive, but they are not into “absurd valuation” territory.

In the fall of 2018 I had friends make silly money on aurora cannabis or canopy growth corp. Even if the business did take off and become huge players in the cannabis market, that was already priced in and there is a ton of execution risk. This was absurd egregious valuation territory.

Aurora traded at 215x next year’s forecasted huge sales growth.  Like 100x the 3 years out sales number, let alone profit which was of course non-existent. Turns out there was a lot of execution risk clearly and these businesses are basically zombies right now.

If you want to generate money consistently, this is a risky method to invest. Trimming or abandoning the position was, of course, my recommendation to these individuals, which fell on deaf ears as the stock continued to rise every day for months until the party ended.

There are certainly other things to think about in terms of your own reasons to sell a position. I encourage you to create your own framework by combining your own aims and thoughts. These are just some big picture things to think about and you can niche down and get more specific from here.

Note about selling losers:

How often do we hear, “I bought this junior miner and I’m down bad, it's now a penny stock so if it goes back up to close to where I bought it I’ll sell.” This is a gigantic mistake.

Investment returns on a go forward basis do not care about your price anchoring.  It doesn’t care that you bought the stock at 10 bucks and it's worth 50 cents. Since the stock was bought at 10, the business is worth nothing and heading to bankruptcy has no bearing on returns from this point forward. There is no logic to this, but a behavioral investing bias that needs to be avoided at all costs.

Example: If you have 1000 dollars in a stock that used to be worth 10,000. Ask yourself if it was in cash, would you expect better returns on that 1,000 bucks from the junior mining company I made a mistake on, or a high quality business, or even index fund from this point forward. That’s the conversation to have internally, rather than if I can recover some of my costs I’ll sell it.  Makes no sense and disconnected from reality.

I know it’s not easy sometimes to make that assessment, it’s been proven time and time again that a loss hurts more psychologically than a gain.

Simon: 

Because of my poker background, I view this as expected value. Is the expected value of that company that has gone down 80% from this point in time greater than another investment I’m considering? If not, then it’s time to sell.

The best way to do that for me is to think about different outcomes and realistically assign probability to those. You add those up and that will give you what the expected value for a given stock is. The difficult thing here is to assign different probabilities because it’s more an art than science.

Here’s a simplified example of what I’m talking about:

Let’s say Apple stock is trading at $200. In the next 5 years, I think these are the outcomes that could happen; I think there’s a 25% chance the stock reaches $400 on the strength of their augmented reality headset and ecosystem. I think there’s a 25% chance the stock stays around $200 because Apple's growth stalls. I think there is a 40% chance that it goes to around $125 because of a global economic slowdown led by China and India sales are lower than expected. I think there’s a 10% that it goes as low as $50 because of its business being completely disrupted by a new technology

25% x $400 = $100

25% x $200 = $50

40% x $125 = $50

10% x $50 = $5

So my expected value for apple stock in 5 years is $205. 

6. Time 

Simon: 

5 years ago life was way different then it is now. I wasn’t co-hosting a podcast 5 years ago, I didn't have a daughter nor own a house, I was renting. 

But the point here is that things change over time. 5 years ago, I would have had no problem keeping up with 20+ stocks in my portfolio.

But now, being honest with myself, I just don't have time to stay on top of more than 15 individual companies.

To me, that’s a very valid reason to sell some positions. Obviously, deciding which position to sell is a bit harder but what I did was to go position by position and essentially identify the positions I had the most conviction in for the next 5+ years in order. The ones that ended up at the bottom of his list, I sold.