Implementing the New Four-Year Sell Rule

The Model Shadow Stock Portfolio still lags the S&P 500 index, due to the strong run up this past year of the very largest stocks.

The Model Shadow Stock Portfolio is up 18.6% year to date as of November 30, while the S&P 500 index, as measured by the Vanguard 500 Index fund (VFINX), has gained 20.3%. However, for periods of a year or more the Model Shadow Stock Portfolio continues to outperform, up 16.2% versus 9.5% on average, respectively, since the model portfolio’s inception in 1993.

Portfolio Changes

The stocks that currently make up the Model Shadow Stock Portfolio can be seen here, and the Transaction History page summarizes the changes made during the quarterly update. This is the first time that the new “four-year rule” has been in effect, and the higher number of newly qualifying stocks justified the selling of a number of long-held issues.

The four-year rule permits the selling of a stock held for four years unless it currently qualifies, its price is up more than 40% since first purchased (if held more than four years it must be up 10% per year) or there is no qualifying stock to replace it. As a result of this rule, we sold four stocks:

• Key Tronic Corp. (KTCC),
• Salem Media Group Inc. (SALM),
• Shoe Carnival Inc. (SCVL) and
• VOXX International Corp. (VOXX).

In addition, we sold two stocks that violated other rules:

• Alamo Group Inc. (ALG) was sold because it had grown in market cap beyond the size limit of $1.2 million; and
• Global Power Equipment Group (GLPW) was sold because the earnings revisions and projections put it in violation of the earnings sell rule.

Ten stocks passed the screen based on our liquidity requirements, but one was Chinese and four were already owned. The remaining five were purchased with the proceeds from the above sales:

• Aceto Corp. (ACET),
• AutoWeb Inc. (AUTO),
• Big 5 Sporting Goods Corp. (BGFV),
• New Home Company (NWHM) and
• Olympic Steel Inc. (ZEUS).

I really feel the four-year rule will help the portfolio get rid of underperformers and allow the inclusion of more newly qualifying stocks while not eliminating stocks that maintain their momentum over the years.

Looking Ahead

There is more and more talk about a potential pullback, but every time the market pulls back a little there are investors who see the dip as an opportunity. Certainly, there will be a pullback someday, but I don’t want to be out of the market. My philosophy continues to be: Losses due to a falling market when I am invested are temporary and limited; losses due to being out of the market when it goes up are forever and unlimited.

This will be my final commentary before my retirement. I will miss writing the commentaries, but I know that the Shadow Stock philosophy and the maintenance of the model portfolio will continue to help AAII members. Look for coverage in the AAII Journal on a regular basis and anytime in the Model Portfolios area.