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  • Writer's pictureIshfaaq Peerally

Hold Overvalued Stocks?

It is easier to buy a stock than to sell it. If you're buying, it is because you believe some tailwinds are going to be good for the stock. If you were right, you would be fearful to sell in case you will miss future gains. If you were wrong, you will be fearful to sell in case, you will be right in the future.

The main principle of value investing is that you buy a stock when it is selling at a discount of its intrinsic value after taking a margin of safety, then you sell when the price exceeds the intrinsic value. This is what I did with Apple $AAPL in 2016 and 2018. I bought when the stock price was crashing then took profits when it got expensive. Same thing with GameStop $GME . I saw a big market inefficiency and bought when everyone was selling and sold when everyone was buying.

Today things are not that easy since we have 0% interest rates and high liquidity. Finding undervalued stocks is getting harder and harder. But the alternative, ie bonds, is worse. As long as interest rates will be so low, stocks are always going to be a better investment than bonds today, according to Warren Buffett. But he's not buying, he's holding cash but not selling the stocks he owns either.

Charlie Munger says that he's willing to hold overvalued stocks but not buy them. The reason is because of something that along with Warren Buffett, they have been saying for decades, "A bird in the hand is worth more than two in the bush." The whole concept of investing revolves around risk and reward. An investor is always looking for asymmetric risk-reward. But there's always an opportunity cost, so the investor will have to choose which stocks to invest in. And normally, the stocks showing the biggest risk-reward asymmetry are stocks he/she already knows very well, that is, stocks in his/her portfolio.

In the current economic environment, it may make sense to hold expensive stocks since the alternative is worse. But you always need some rules. I started selling GameStop at $58 even though, I knew it was not that expensive. The reason was that it was 40% of my portfolio and I have a rule not to hold more than 40% of my portfolio in a single stock. But when the stock price reached $400 and I knew that the Short Squeeze was over, I took all profits. Today, I'm still holding some overvalued stocks such as Polymetal $POLY.L because I expect gold $GOLD prices to rise in the future.


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