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Politically incorrect - Unfortunately investment considerations often come second to politics

15/05/2013

Andrew Lyddon

Andrew Lyddon

Fund Manager, Equity Value

When to sell? It is, by common consensus, one of the most difficult areas of investment to get right. However given the increasingly loud calls, not least from the banks themselves, for the government to reduce its 39% and 82% stakes in, respectively, Lloyds and Royal Bank of Scotland (RBS) – we will at some point have a very public case study in the psychology of selling assets. For the record, we continue to believe both banks remain relatively attractive at current share prices, we use them here as a high profile example of why selling decisions can be so difficult.

When trying to get the best out of the sale of an asset, two things are of utmost importance. One is to be very focused on the asset’s valuation so you know what a fair price is and therefore whether the amount a buyer is offering you is fair or better. The other is to have time on your side, which gives you the option of waiting for that fair or better sale price if it isn’t forthcoming today – in other words, do not be a forced seller.

Clearly we have no idea about any aspect of the decision-making process in the Lloyds and RBS sales but the early signs are that the focus of politicians and the press will be less on valuation and more on price – and particularly on the price of the shares now versus the price at which the previous government bought them back in 2008 and 2009.

As things stand, it seems likely the government will hold off selling until the point it can be seen to make a gain on its stakes but, in general, that is not a way to make the best selling decisions. The price at which you originally invested in a share, for example, could have been wrong and so a fair or better price may actually be less than what was paid for it. ‘Anchoring’ on what you paid for the investment and holding on in the hope the investment will turn a profit may be completely unrealistic and involve having capital tied up in a sub-optimal assets when it could be invested more fruitfully elsewhere.

The human mind tends to feel the pain of losses more acutely than it feels the pleasure of gains, making cutting losing investments psychologically very difficult. In these situations it may be better to accept a loss, learn the relevant lessons for the future and recycle the money into any new ideas that offer the prospect of better risk adjusted returns.

As for timing, political considerations may lead some involved in the decision-making process to conclude the government should at least be seen to be making a start on selling its Lloyds and RBS stakes before the 2015 general election. In the long run, having a sell decision influenced by any kind of external or artificial timetable is not the best way to get the best results so we’d at least hope that any ‘symbolic’ pre-election disposal won’t be made irrespective of valuation.

We do not pretend that the process of the government selling down its stakes in RBS and Lloyds isn’t a highly complex one. The size of the government’s stakes means that commentators will inevitably speculate on whether reducing the size of their holdings, even at suboptimal valuations, may help maximise the proceeds from the overall sale process. Trying to second guess the stock market in this way is foolish in our view and only likely to be a distraction from the more important considerations outlined above.

If the government wanted to give itself the best chance of getting the most out of its Lloyds and RBS investments for the taxpayer, it should focus only on valuation and avoid tying its hands on timing.

Author

Andrew Lyddon

Andrew Lyddon

Fund Manager, Equity Value

I joined Schroders as a graduate in 2005 and have spent most of my time in the business as part of the UK equities team. Between 2006 and 2010 I was a research analyst responsible for producing investment research on companies in the UK construction, business services and telecoms sectors. In mid 2010 I joined Kevin Murphy and Nick Kirrage on the UK value team.

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