Worst mistake Tesla investors can make right now

You’re here (NASDAQ: TSLA) brought in over 720% for investors in 2020. It’s a huge year by all accounts, and holders should be very excited about this performance. However, for many this creates an allocation problem that requires rebalancing.

In my opinion, the worst mistake Tesla investors can make is to ignore the need to diversify. This suggestion may fall on deaf ears to speculators or Tesla followers, but now is the perfect time to sell some of your stock while keeping some for future growth.

The automaker has grown aggressively in 2020

Tesla was one of the most popular stocks among investors to come in 2020, and many people held it as part of their portfolios. This stock has almost certainly grown to occupy a much larger portion of their portfolios since the start of last year. A hypothetical portfolio that was 5% Tesla at the start of 2020, with the remainder being split between S&P 500 and NASDAQ, would now be around 25% Tesla due to the strong performance of this position.

There is some dissent among Fool contributors and the investment community on this topic, but I am a strong advocate of diversification and rebalancing. This is particularly important if the performance of stocks is driven by valuation inflation rather than fundamental growth. In the example above, investors have established a volatile high growth position with 5% of the portfolio. Having exploded in value, Tesla now has less upside potential and more downside risk. To replicate this year’s performance, the company is expected to reach $ 5.6 trillion. Tesla should continue to perform well and this huge valuation could indeed be achieved over time. However, this is going to take some time, and I think we will experience some market corrections before that day.

Tesla owners should be excited: the stock delivered your earnings ahead of schedule with no corresponding increase in sales, and there’s a good chance you can buy more later at a less aggressive valuation.

Rebalancing, taking earnings and allocation

Even if you fundamentally agree that rebalancing is important, the steps necessary to rebalance it can be difficult to accept. Tesla expects sales growth of 30% in 2020 and made quarterly profits for the first time last year. Analysts are forecasting rapid growth again in 2021.

It may seem odd to sell a stock that has delivered great returns while showing strong fundamentals and looking at another great year. However, this is exactly what you need to do to rebalance effectively.

Image source: Getty Images.

Tesla’s bull narrative was not disturbed. In fact, the automaker’s sustained growth and recent profits validate the stock’s optimism. Why would you need to sell it, if so? Because the risk is always present here.

Tesla is trading at a futures price-to-earnings (P / E) ratio of 175, a price-to-sell ratio of 24.5 and a price-to-book ratio of 41.7. Investors should expect promising growth stocks to attract high valuation ratios like these, but Tesla holders must recognize that significant amounts of future success are already assumed in that price. Strong and continuous results are needed to justify the current price. Any indication that Tesla might not meet bullish market forecasts could push stocks down, even if the company continues to grow.

This may not be a problem for long-term bullish holders who simply want exposure to the market leader they expect Tesla to become, but others recognize the possibility of redeploying this capital into other stocks that can offer strong returns without as much concentration of risk. Growth investors can sell certain Tesla shares and use the proceeds to buy several other high growth stocks. Recent big-name IPOs and trending stocks in industries such as e-commerce, cybersecurity or telehealth can offer huge benefits, as well as the potential to dilute the risk of any stock behaving. wrong.

Don’t overreact

Rebalancing also doesn’t have to mean giving up a good position altogether. It makes sense to lock in some gains and keep a smaller position in Tesla to take advantage of potential future growth. Investors might be worried about Tesla’s aggressive valuation, but the company could well become a leader in several major industries over the next several decades. Most investors who allocated a certain proportion of their portfolios to Tesla last year should feel comfortable allocating a similar percentage of their holdings to stocks this year.

Tesla may have attracted a large number of growing speculative investors, and they might not like to hear it, but now is the perfect time to take some gains and reinvest them elsewhere. The stock has outperformed the rest of the market so drastically over the past 12 months that it has left portfolios overexposed to its performance. This is especially risky with Tesla’s high valuation ratios. Bullish investors should keep some of these stocks in their portfolios to benefit from future growth, but there are more than enough high potential companies to warrant diversification.