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On April 19, 2016 I sold off some of my Home Capital Group Inc. [TSE:HCG Trend] position at $38.46/share less the commission. There are two main reasons I sold part of my position in the company: allocation and a chance to fix a mistake while taking some profit.
You can see from the pie charts below that this was my largest stock holding making up 16% of my portfolio. In addition to that I had a 44% exposure to the financial sector. This sale helped me reduce both those numbers.
I’m OK with having a high allocation to one stock while I grow my portfolio, but I don’t think Home Capital Group is a stock that you build your portfolio around. I’m not saying my reasons for buying the stock in the first place were wrong, it is just that I bought too much of it and it became my largest holding.
Home Capital has a long history of strong dividend growth with a dividend streak of 17 years and 5 and 10 year annual average dividend growth rates of 21.7% and 26.3% respectively. Coupled with its low payout ratio of around 24% this may seem like a great dividend growth stock, but I wouldn’t consider this a wide moat stock like say the big Canadian banks. Home Capital currently has a S&P credit rating of BBB (Home Trust, the subsidiary of Home Capital has a BBB+ rating), which is below the BBB+ threshold I typically like to see before investing. The company also operates primarily in the Ontario mortgage market so it is susceptible to the real estate market there, which currently seems a bit over-heated. I don’t know what will happen to the Canadian real estate market, but I still think that an over-heated real estate market is a valid risk for the company. When you take these factors into consideration it tells me that this shouldn’t be my single largest investment as a long term dividend growth investor.
Another way to think of it is to compare a dividend champion like Johnson & Johnson [JNJ Trend] to Home Capital Group. Yes Home Capital Group has a nice history of dividend growth, but if you were going to put all your eggs in one basket which would you chose?
This type of question made me realize that I had allocated too much to Home Capital Group as I don’t consider this a core dividend growth stock, just a regular dividend growth stock.
How did I get here?
It started with my 1st purchase on June 16, 2015 at $41.00 + commission. $41 was my first mistake. At $41 the company yielded 2.1% on its then $0.22 per quarter dividend. As you can see below, this was a historically high dividend yield for the company and I initiated a position on the basis that it was value priced based on dividend yield alone.
In my dividend stock analysis I wrote after the $41 purchase I stated “I think that $41 is a reasonably cheap target, but if you wanted to be more conservative you might go with $31-$32”. Turns out I should have listened to myself and been more conservative. Instead, I looked at the dividend growth rates of over 20% per year and got greedy when patience was needed.
Rather than rely on one valuation method to determine if a stock is cheap it is better to use multiple methods. If multiple methods point to a cheap stock then your odds are better. With this in mind I now like to see at least two valuation methods point to a cheap stock before purchasing. If I applied these same standards to Home Capital Group Inc. back in June 2015 then I wouldn’t have bought at $41, instead I would have waited and initiated a position at $32.
Flash forward a month and the price continued to drop drastically. I averaged down in July 2015 at $36.21 on the 13th, $32.00 on the 14th and $28.35 on the 27th ultimately ending up with an average price of $34.95.
My purchasing strategy has evolved since then and had I used my current method I would have bought a 50% position at $32, averaged down at $25 with another 25% and then stopped investing as the price would never drop to $20 where I would have added the last 25%. In an attempt to fix this mistake and get back to this level of shares had I originally bought at $32 and then at $25 I sold off some of the position. It is not often you make an investing mistake and get to correct it at a profit, but lucky for me that’s what happened. I sold off some of my Home Capital Group Inc. shares at $38.46 for roughly a 10% profit plus the dividends I received during that time.
I typically only want to sell a stock if the dividend is cut, or if there is fundamental change in the company. Tinkering too much with a portfolio is a great way to lower returns and pay more money to the tax man, but in this case I’m happy to make the sale as it results in a better portfolio allocation. I think Home Capital Group Inc. is still relatively cheap, but this sale wasn’t about making money, it was about creating a better balanced portfolio in the long run and realizing that this stock shouldn’t be my largest holding. After this partial sale my portfolio allocation now looks like this:
My Home Capital Group Inc. allocation has dropped to 6.5% from 16% and financials are down to 37% from 44%. I know my portfolio is still currently unbalanced at these levels as I still have a large exposure to financials and energy, but as I grow the portfolio with additions outside these sectors it should eventually balance out to my desired allocation.
What do you think of my partial sale of Home Capital Group Inc.? Were my reasons for selling justified?
Disclosure: I own shares of Home Capital Group Inc. You can see my portfolio here.
Photo credit: CRANIO. via Foter.com / CC BY-ND
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Sure, by all means re-balance, especially at a profit.
I notice you are retaining some shares of GCG, so presumably you still have confidence in the company.
I am not sure why the stock has declined so much, unless investors are worried about the quality of the mortgages in HCG’s portfolio (recall HCG had to fire some crooked mortgage brokers?).
What measures do you use to determine whether a stock is cheap?
Thanks for a good article.
I forgot to observe that it is difficult to avoid overweight energy and financial stocks in the TSX. These two sectors comprise the bulk of the TSX, don’t they? When I was constructing a dividend growth portfolio, the best stocks tended to be financial or energy. To avoid over-weighting these sectors, you are probably compelled to consider lesser stocks in other sectors.
Thanks for sharing your insight DGI. You’re definitely got a point with a dividend champion like JNJ and HCG. I’d rather buy more of JNJ, no brainer.
You live you learn, it’s all good bud and only you know what’s best for your path.
Firstly, I applaud your disciplined approach to rebalancing.
I’m intrigued by your buying strategy outlined under your heading “The Fix”. It appears you are prepared to add a further 25% to your position if the price drops by 25%, and the same again if the price drops by another 25% (numbers approx.). Assuming you’re buying in initially at a “value level” and with some degree of safety already built in, these 25% drops might be very few and far between. Plus, it would seem to me that your purchase pyramid would be inverted. Why not consider opening with a smaller position and buying in (in larger quantities) at 10% drops in your ACB, which might occur more commonly? For example, invest $5K to begin with, $10K on a 10% drop to ACB, $20K on further 10% to your new ACB….etc. I’ve been doing this for awhile now and even though I think I’m initiating my positions at a value level, this approach has protected my buying in some falling market environments.
Interesting update! I went through a similar process; but, sold everything during the lead-up to the recent Dutch Auction. I recently purchased below $32 just in time for the next dividend.
I am in red with HCG although I still very like it. It is being traded quite attractively now but at the same time I am scared of Canadian housing market haha 🙂
I missed HCG when it hit below $24 yesterday. I like how management deals with negative business issues. I am very tempted at these prices and roughly 4% dividend yield.
Just bought 2000 shares at $24.34 last week and the div was 3.94%. It’s going to be an interesting ride and hopefully that rumor mongering short selling chicken farmer will run out of lies and the company’s great business will shine through.So far all the hedge funds shorting Canadian finance companies have lost their shirt and disappeared and I thank them because I bought all the banks when they were down and so far this year I’m up 17%.
Hcg is not in the same league as the big 5, national or cwb. Some say it’s going to 0, when the bubble pops, buyer beware. Great strategies for investing, thank you.
Home Capital Group now is a perfect case study for what is a dividend growth investor to do….? Hold and maybe go down with the ship, or wait for more probable bad news. (First bad news is usually not the last) , or liquidate and move on (practice what is preached).
I view this HCG debacle as an opportunity to learn.
$6 .. ouch ..
I’m still in it… Bought at 21$ nine days ago.
You think there is any chance it does not go to 0$?
Board members sold off a tonne of shares months ago. Fired CEO. CSC investigation. Canada in an obvious housing bubble. Just look at the business they do, subprime lending. Getting people that don’t pay their debts more in debt. The numbers all look good but we’ve seen that before. Overall, it doesn’t look good. Could be Canada’s Leman brothers. Lord knows it’s not going to be any of the big 5. But like the Doug said, it’s going to be a learning experience.
I see some upside, but at this point it’s speculation, not investing.
Lots of rumours .. I have bought and sold out a few times. Since Monday, bought a small amount around $18 .. and $7 .. I expect all bad news & then a slow rebuild or share buyback or takeover .. feel free to throw darts at any possible scenario .. bottom-line, this company did position itself firmly in the market and has some value in my opinion. I will hold and see what happens.
I’m expecting that there will be a dividend cut/elimination announced sometime this week when the official earnings release happens. If that happens I plan to sell my shares.
I would only trade in the distressed debt of this company, not the equity – equity is par 0.01. Credit rating has been downgraded to junk, and HCG has $325 million coming due that they will likely be paying off using their $2 billion credit card (at 22% interest). I wouldn’t count on the shareholders being saved on this one, the Big 5 would have stepped in already if they didn’t want to see the situation turn to blood in the streets.
I also expect no dividend or a reduced dividend.
I almost prefer no dividend until liquidity improves.
I will hold and hope for a turnaround or takeover.
According to Home Capital’s website: “Suspension of Dividend”.
I’m personally OK with the dividend suspension until long-term funding is arranged.
Yeah I saw that yesterday and sold my position. Sold at $6.06, will be doing a blog post on it in the next few weeks.
With Warren Buffet getting to this stock does it increase your confidence in it? would you be purchasing more, have you purchased more since the date of this article?
I sold my position when HCG cut their dividend.
The mortgage backed loans hcg took from Ontario health care pension and Warren buffet did not seem like great terms for home capital. Plus I read that buffet got a deal on his shares, so even if he sells his shares at 10 he is still making a lot from the calaterialized debts. I dont know why hcg didn’t offer depositors interest rates close to the bonds they sold. They are insured deposits. With a lot of mortgages backing high interest liabilities, I still think they are going belly up in the next couple years. Disclaimer, I’m not a pro and I could be wrong. Home capital group could go back to 50 bucks with a 5% divident. The average price of a home in Toronto could go to 2 million and interest rates might go negative, I don’t know.