question for the hedgies

quick question for the hedgies on here surrounding strategy for when to sell when value investing. if there are many strong buying opportunities, does it not make sense to sell if you are up a small amount after a short holding period, and then reinvest your capital from the original trade + gains into another one of these strong buying opportunities, instead of staying in the original trade and hoping that your view is correct?

it feels like if you open up to the idea of doing this then you can either profit from (1) actually being right about your long term fundamentals perspective, or (2) can profit from short term price movement.

real life example: I was looking at this stock in my portfolio that I bought 17 days ago that was up 6.46% (not because of any substantial news as far as I could tell which would affect the intrinsic value of the stock). 6.46% in 17 days is 100%+ annualized, I didn't think that the stock would be 100% higher a year from now so I took profits and am going to roll this money into another strong buying opportunity. is it dumb to think this way? if not, where to draw the line? for another real life ex, what if I am up 2.77% on a stock that I bought 14 days ago. 2.77% doesn't sound that good but 2.77% over 14 days is 70%+ annualized and 70%+ annualized sounds pretty good. why shouldn't I take profits now and roll into another strong buying opportunity?

the real flaw is to assume that there are enough strong buying opportunities to be able to continuously take profits from small gainers? will I just be left bagholding losers if I pursue this strategy of taking profits on winners quickly? is this even a problem since I think that the losers will not be losers over a longer time horizon?

feels like you can only win if you take profits and why would I wait to see if I win over the long term when I already know that I won in the short term off of a small gainer. feels like derisking by taking profits from a small gainer. thoughts?

Hedge Fund Interview Course

  • 814 questions across 165 hedge funds. Crowdsourced from over 500,000 members.
  • 11 Detailed Sample Pitches and 10+ hours of video.
  • Trusted by over 1,000 aspiring hedge fund professionals just like you.

Comments (28)

Feb 2, 2021 - 5:49am

after doing some research it seems like there is something called the disposition effect which describes selling your winners too soon and holding onto your losers too long. seems like a bit of a meme though. if your time horizon adjusted returns are very high then I don't see how you would be selling 'too soon' if you sell based on small price movements in a small amount of time. enlighten me hedgies.

  • Incoming Analyst in IB-M&A
Feb 2, 2021 - 7:41am

Not working in an HF, but I think there might be two issues with this strategy (note: I am assuming you do this in your personal account):

1) Transaction costs: transaction fees might eat up a share of your gains if you trade often enough. 

2) # of winners: even assuming that there is a large number of strong buying opportunities, would you be able to recognize them every single time? Odds are not in your favour, especially in the long-term.

Feb 2, 2021 - 9:59am

yeah I'm talking about my personal account. let's assume no transaction fees. in terms of your second point, I feel like the odds of making money are more in your favor being able to make money from either (1) profiting off of a small gainer, or (2) profiting off of being right about the long term value of the stock based on fundamentals, rather than if you were only able to make money based on being right about the long term value of the stock based on fundamentals. you can make money off of a short term gainer even if you are not actually right about the long term value of a stock. as I'd mentioned in the first post being too liberal about what is a strong buying opportunity seems like one big risk. and then also another risk seems to be if it makes sense to let your losers lose if you are not going to let your winners win. for ex, if I sell out of my winners early and baghold my losers then my losers are going to eat away at any profit generated from selling my winners. but then again i'm not even sure that this is a problem if I still believe in the loser long term.

Feb 2, 2021 - 11:56am

don't forget the tax man too, hate that brother

Instagram: @dickthesellsider | Substack:

  • 1
Learn More

300+ video lessons across 6 modeling courses taught by elite practitioners at the top investment banks and private equity funds -- Excel Modeling -- Financial Statement Modeling -- M&A Modeling -- LBO Modeling -- DCF and Valuation Modeling -- ALL INCLUDED + 2 Huge Bonuses.

Learn more
Feb 4, 2021 - 5:02am

okay I just finished reading it. interesting read, I enjoyed his thoughts on what to do with the losers. but I felt like his explanations supporting why you should not be a raider (sell winners too soon) were too simplistic/some of his analogies were poor, so I am not sure if I agree. 

some things that I wrote down while reading:

- he bows down to the connoisseur, the investor who holds onto his winners that are winning instead of selling off his winners too soon. but his examples don't by default prove that the connoisseur was better off being a connoisseur than he would have been if he was a raider. here were four examples he provided of raiders being dumb: up 15% in one month, up 9% in three months, up 56% in 10 months, up 27% in 7.5 months. these are compared to the returns which the raider could have achieved if he had still been holding the stock at the time that the author was writing the book (the author only says that the price would have been X at the time when I am writing this book, he doesn't actually say what month/year it was when he was writing this book. which makes it hard to adjust for time. let's assume that the author didn't start writing the book until after his experiment with these fund managers was over, october 2013. I might be wrong assuming this since he doesn't give an easy way to figure this out, so just look at the numbers that I use next as estimates to illustrate my point which might be accurate) instead of selling at the time that the raider actually sold. the author only mentions that instead of 15%, 9%, 56%, and 27%, these raiders could have made 185%, 90%, 130%, and 250% if they were still holding at the time when the author was writing the book. but what the author doesn't mention is that the holding period would have been increased from one month, three months, ten months, 7.5 months, to about four years (based on an estimate) for each of these four stocks. when adjusting the actual returns for time, the 15%, 9%, 56%, and 27% gains become 183%, 37%, 68%, and 44% gains. when adjusting the 'what could have happened' for time, the 185%, 90%, 130%, and 250% gains become 45%, 21%, 30%, and 56% gains. also keep in mind that the selling early gains were locked in, and to achieve the 'what could have happened' gains the raider would have risked being wrong about the stock price increasing as much as it actually did (or worse, he continues to hold and the stock price goes down). it seems overly simplistic to say that 15% in one month is by default worse than the potential for 185% in four years.

- bit of a repetitive bullet point: similarly, here is another example with real numbers from the book not estimates. the author celebrates one connoisseur who 'made a handsome return of 70%', when the time horizon for achieving that return was 1788 days so the time adjusted return was more like 14%. also I just realized that my calculation for time adjusted returns has been a simple average maybe something like CAGR should be used and I think that using CAGR would make the argument against being a raider even weaker. the author celebrates the connoisseur for holding out for 70%, saying that the connoisseur could have taken the wrong route and sold once reaching a 20% gain. but if the first 20% happened in the first year and could be locked in certainly, why would the author think that it's by default better to hold out and see if it gets to 70%, just so that your time adjusted returns are worse than they would have been if you sold out after the initial 20% gain and didn't wait four more years to get to 70%

- basically what i'm saying is that I don't like how he's arguing that it makes sense to stay in a potential winner and see if it wins more (or goes against you) instead of taking profits and actually winning

- two+ of his five reasons for why you should not sell a stock that is up early actually support what I'm saying instead of what he is saying: - big winners are rare, - you can never predict big winners when you first invest. he says that only 1% of all investments return more than 100%. if this is the case, why is he acting like raiders are stupid for taking profits when they are making 100%+ time adjusted returns which will almost never happen if you 'let your winners win'. if you can't predict them when you first invest (or shortly after - at the time when you would sell out of a quick gainer for superior time adjusted returns), why should you be holding out hoping that your stocks are a part of that 1%?

- particularly dumb analogy: he brings up deal or no deal. you have two boxes left to open, a $1 MM box and a $50,000 box. the banker offers you $150,000 to open neither box and walk away. the author uses this analogy to say that by default you should open one of the boxes because your expected return is higher. true but it's overly simple to say that it's by default irrational to open one of the boxes instead of taking the guaranteed $150k. it depends on the person's risk profile.

- multiple other dump analogies that I won't get into

- he cherry picks stories that work for what he is trying to say when it comes to the connoisseurs. convenient no stories about hodling GME at 350 (purposefully hyperbolic) and then getting fucked by letting your winners win. what's funny is that if he wanted to include stories of raiders 'doing the wrong thing' and selling early then it wouldn't be possible to include a story of a raider not winning.

- at the end of the book he combats the argument that what he's saying is too simple by saying that the simplest explanation is the easiest in this case, instead of addressing any of the reasons why someone might disagree with him.

- best takeaway was that it makes sense to take action when you are down by either doubling down or selling. also don't hold onto a loser too long wishing that it becomes a winner. also that it takes many years to recover your wealth if you lose 40%+ in a trade, that advice to protect your capital with the chart was informative

- he addressed some of my questions, helpful on the side of when to sell. but his arguments in favor of 'letting winners win' were not convincing. maybe I will form some kind of rule like I will not sell for less than 5% unless the actual return exceed 1.5% and the time adjusted returns exceed 100%, not sure what those rules should look like but I like the idea of having some kind of better framework and adopting his assassin strategy of killing a loser once it is down by a certain amount.

Mar 4, 2021 - 7:26pm

Agree with you that the most helpful takeaway is thinking about what to do when you're down, and the frustration with how he focuses on single-period, instead of time-weighted, returns. 

Re: raiders v. connoisseurs & when to sell, I think the main reply to your criticism (and as flagged by others below) is reinvestment risk. I jotted down in my notes: "you cannot trust your next investment. Point, if only 49% of investments make money (on average), then the odds of successfully reinvesting say in five consecutive stock picks is even lower (less than 2% for 5 successive winning trades)." As long as you have rules to monitor the downside / minimize loss, anything left is definitionally not a loser, and the author is saying, you don't know which - if any - of your not-a-losers will be medium-winners or one of the few truly outsized winners, but you need one or two of those multi-baggers out in the tail of the distribution to really move the overall portfolio return needle and the best way to do that is let time go by to see what happens with them (at the risk of some decrease in annualized return if you wind up holding "too long" relative to some retrospectively-analyzed high mark).

He doesn't really get into decision-making based on whether you think your thesis has panned out / changed / been wrong / you got lucky, but to your GME example, I think that's a great point about where to go beyond the book and add a practical overlay of 'if it's parabolic and you happened to be standing in the right place at the right time, get out while the getting's good.' He doesn't say *not* to do that - he simply doesn't address it... the whole discussion is about typical conditions of uncertainty in equity markets; if something's hitting your over the head in a way that's more obvious than usual, by all means, act on it. Also, I like his point about connoisseurs reducing position size on big winners over time - you could think about that as a way to balance the desire to lock in returns / seek reinvestment opportunities (if they exist) with continuing to let the optionality on an already big winner play out.

Feb 4, 2021 - 5:20am

also isn't compounding another argument in favor of high turnover for your winning stocks and low turnover for losing stocks (as long as they don't lose too much) or am I being a brainlet?

Feb 4, 2021 - 5:21pm

Your approach doesn't make much sense. In your example where the stock went up 6.5% in 17 days, you sold because you didn't think it could continue to compound at the same rate for a year? Why is that relevant? Does the other "strong buying opportunity" have 100% upside (the hurdle that led to you selling the first idea)? If so, why didn't you buy it first? 

To put your approach in perspective, imagine you're a day trader that buys a stock at 9:30am and it is up 0.1% at 9:31am. You can compound 0.1% per minute and come up with some crazy returns, so by your logic you should sell immediately. 

Instead of this approach, you should be reassessing the risk-reward as the price moves. Maybe the stock goes up on minimal information and the r/r deteriorated. Maybe a fundamental inflection drove the stock higher and the r/r is the same or even better. However, taking a short-term return and compounding it as a hurdle rate that needs to be met in order to continue to hold is silly.

Feb 4, 2021 - 7:17pm

i'm effectively saying that the risk reward ratio has deteriorated since the stock can't continue to outperform at the level that the stock has outperformed since I bought it. for an even more outrageous real life example, say I bought a stock yesterday and today it's up 4.5% for no fundamentals-based reason. no stock is going to make an average daily gain of 4.5% over the long term, so I sold the stock and locked in that outperformance. as time goes on where I don't sell and the stock stays the same price (or declines) the risk reward ratio deteriorates because I could have already locked in an impressive return accounting for the holding period. in the case of the day trader you are using an extreme example to justify the approach not making sense.

Feb 4, 2021 - 9:12pm

It makes sense if you frame the approach from a risk-reward perspective, but the approach you originally outlined of annualizing the return and using that as a hurdle rate to decide whether to hold the stock or not doesn't make sense. If a stock is $100 and you are playing for $150 with a downside of $75, the r/r is 2x. If the stock moves to $125 a month later and you still think the upside/downside is 150/75, the r/r is now 0.5x and you should roll it into an idea with a better r/r. Taking the 25% monthly return and annualizing it as a return hurdle is irrelevant. You don't sell the stock because you don't think it can go up 25% every single month, you sell it because the r/r is inferior to an alternative investment.

Feb 4, 2021 - 7:39pm

I understand your point, especially if you have limited capital to allocate because it is important you are getting the best return for each dollar invested. 

I don't know if you are going to find the answer you are looking for here. However, the primary reason why people don't do this was already mentioned... taxes. 

Let's say you can accomplish this over a period of a year. You are looking at total returns of 100%+. The tax bill is going to be pretty expensive, especially with short-term capital gains. If you choose to ignore it or come up with a number that justifies it, so be it. 

Another problem is that most people don't have the time/not worth the effort with the number of trades required. You would likely have to define a set of terms that qualifies as long enough... Would you sell if negative after 30 min? 1 hour? 24 Hours? 

This brings up my next point and your biggest limitation. You are not going to get every investment right. I don't know how you plan to identify those companies with high short term performance AND have the ability to time it correctly to reap the benefits. It doesn't seem scalable. 

Feb 7, 2021 - 9:52pm

Key question you have to answer is why you think the stock went up. If you invested because you see X and you think the market is missing X, then ask yourself if you think the recent rally is X getting priced in or something unrelated to X. If it is X getting priced in, you usually want to start selling. 

you can do this continuously instead of discretely. So if you are 70% confident that X got priced in, you can size down the bet to 30%. Usually if you realize gains on your positions, the answer on how much to size down your bet is neither 0% or 100%, and often is something in between (and in rare cases could be negative or over 100%!). 

Feb 7, 2021 - 9:58pm

Gotcha. Good advice that it doesn't have to be a sell everything or sell nothing depending on what you think has changed. Thanks for the advice everybody.

Start Discussion

Total Avg Compensation

June 2021 Hedge Fund

  • Vice President (18) $520
  • Director/MD (10) $359
  • NA (4) $325
  • Portfolio Manager (7) $297
  • Manager (4) $282
  • 3rd+ Year Associate (18) $269
  • 2nd Year Associate (26) $251
  • Engineer/Quant (51) $237
  • 1st Year Associate (63) $188
  • Analysts (183) $168
  • Intern/Summer Associate (15) $125
  • Junior Trader (5) $102
  • Intern/Summer Analyst (205) $82