There is an art to selling stock, or more importantly, knowing when to sell a stock. Which separates the good investors from the great ones.
In this case selling a stock leads to making a profit or taking a loss. Yes, taking a loss on purpose is a strategy. It may not seem right on the surface. But it frees up money, in what was a poor investment, so you can put that money to work somewhere else.
There’s also the other side. Where investors sell too early. Happy to make a small profit only to watch the stock double or triple in value over the next few years. There’s nothing wrong with locking in a profit. But if the company is still chugging along and nothing has changed, why would you sell a winner?
Unfortunately, investors are driven by a number of irrational issues that make us do things we really don’t want to do. The best example is holding a stock that has fallen hoping it will just get back to even. This is especially true when no amount of time will return it to its previous mediocrity. You’re better off selling early, take a loss if necessary and put that money to work somewhere else.
Before we start, there are millions of reasons to sell a stock or any investment for that matter. Almost all of them are the wrong reasons. The few remaining right reasons can be summed up into these two remaining rules:
1. There’s A Change In Fundamentals
Hopefully you had a good reason to buy the stock in the first place. But this simply means the reason you bought it no longer applies. This happens for any number of reasons: management change, dividend reduction, merger, bankruptcy, adding debt, decreased earnings, the list is endless. It boils down to reevaluating the stock.
When this happens, the question you should ask is would you still buy this stock? If your research says no, it’s time to cut and run. Which will lead you to reason number two.
2. There’s A Better Place To Put Your Money
I’ll say it right now. Don’t use this as a reason to stock hop your way to the poor house. A better place for your money should be absolutely, undeniably better. Not just slightly better. Plus excessive buying and selling only adds to your costs. Which eat into what little profits you may get from all those transactions. The point is you should only sell if there is another investment that offers a greater return on your money but without taking extra risk.
Let’s face it, the buying part is easy. You don’t need to be a genius to buy a stock. The art is knowing when to sell. Just look at the Facebook IPO for proof of that. Of course, reminiscing about the dotcom boom isn’t a reason to buy a stock. Learning when to sell a stock is an art form all investors should master.