Selling Fast and Buying Slow: Heuristics and Trading Performance of Institutional Investors – Klakow Akepanidtaworn, Rick Di Mascio, Alex Imas and Lawrence Schmidt
We document a striking pattern: while the investors display clear skill in buying, their selling decisions underperform substantially. Positions added to the portfolio outperform both the benchmark and a strategy which randomly buys more shares of assets already held in the portfolio. This result holds both in terms of raw returns and adjusted for risk. In contrast, selling decisions not only fail to beat a no-skill strategy of selling another randomly chosen asset from the portfolio, they consistently underperform it by substantial amounts. PMs forgo between 50 and 100 basis points over a 1 year horizon relative to this random selling strategy, depending on the specification. As with buys, the selling result is robust when adjusting for systematic risk of the assets sold.
PMs in our sample have substantially greater propensities to sell positions with extreme returns: both the worst and best performing assets in the portfolio are sold at rates more than 50% percent higher than assets that just under or over performed. Importantly, no such pattern is found on the buying side – unlike with selling, buying behavior correlates little with past returns and other observables
Matt Levine’s comments:
It is such a pleasing paper because, for one thing, it appears to be immediately actionable and in a ridiculous way. If you are a professional investment manager, you can go test your own past selling behavior, and if in fact your actual selling has underperformed random selling, you should replace it with random selling. Any time you need to sell a stock, just throw a dart at your portfolio and sell whatever it hits, and your performance will go up by 1 percentage point a year.
For another thing it maps rather well onto the folk wisdom about investing. Anecdotally, if you hang around the financial markets you will get all sorts of generic process advice about how to decide which stocks to buy, and almost all of it—buy good companies with deep moats, buy good companies well below their intrinsic value, buy companies whose business you understand, buy companies that you’ve heard of, buy companies that your teenage children like, etc.—comes down to some sort of fundamental analysis of the underlying businesses.
But you will also get—less, but some—advice about how to decide which stocks to sell, and it will often be pretty heuristic. “Cut your losses and let your winners run,” is a thing that people say, which has nothing to do with the underlying businesses. “If you double your money, sell and take profits,” it says here, in Barron’s. The basic folksy rule-of-thumb wisdom for buying is about fundamentals, but for selling it’s usually about price action. Not always: One classic maxim is that you should dispassionately re-analyze each position each day, and if you wouldn’t buy it now you should sell it. But just typing it like that makes me suspect that it is an ideal that no one really lives up to. It sounds like a lot of work!