When to Sell Stocks

By MoneyMorning.com.au

Today is the final day of ‘Retirement Week’.

We hope you’ve got something out of it.

During this week we’ve shown you how to put together the pieces to develop your own retirement plan.

We’ve show you the importance of understanding risk, how to allocate your assets, a simple savings plan to get you started, and an overview of the strategies you can use to help build and preserve your retirement savings.

Today we’ll touch on a subject most pro investment advisors prefer to ignore – how do you know when to sell stocks?

If you don’t think about how to identify selling opportunities then you’re at the complete mercy of the market. And even worse, all the good work you’ve done building your portfolio will count for nothing.

Let’s look at some of the key issues surrounding the undervalued skill of knowing when to sell stocks

The latest issue of Vern Gowdie’s Gowdie Family Wealth investment advisory outlines the importance of knowing when to sell.

He also explains the bizarre attitude many in the mainstream have towards those who warn about the risks in the market.

Vern doesn’t make this comparison, but we will. To many in the mainstream, a rising stock market is akin to a football team. So when someone dares to say stocks could fall, the mainstream sees it as an insult to their ‘team’.

And so they fight back with all sorts of vitriol. But that’s fine. Contrarian investors tend to have thicker skin than most other investors anyway.

That brings us back to Vern’s comments in his latest report.

The Market and Ridicule in Tandem

In his report, Vern details how the mainstream dislikes any talk of over-priced markets and despises even the notion that stock prices could fall. As Vern explains:

Years of being exposed to institutional research and economic opinion left me disillusioned with mainstream thinking; ‘cash for comment’ is my view on institutional commentary. Everything is always an opportunity for the institutions. Major threats (credit bubbles, unbridled money printing, overheated share markets etc.) are not dissected with any real gravitas. If any credence is given to an obvious risk, the institutional worst case scenario is always a ‘soft’ landing followed by a resumption of growth.

If you can find one mainstream Australian economist or investment commentator who warned against the US credit bubble prior to its bursting, please let me know. They are as rare as the dodo…

Bill [Bonner] and a number of independent commentators (many of whom I subscribe to) had been sounding the warning bell on the US debt crisis for a number of years. And therein lies the problem with big picture thinking – you can identify trends early, but it can take years before your analysis is proven correct. In the interim you are easily dismissed as a ‘chicken little’.

In my experience, [the] market and ridicule operate in tandem; as the market goes higher, so too does the volume of ridicule.

We don’t usually like to reprint such long quotes, but everything Vern says in this quote is true and important to understand.

This mainstream attitude all feeds into the mind of investors. It’s the combination of peer pressure, the fear of missing out on further gains, and the potential of people calling you a kook or misfit if you dare say or do anything that’s contrary to mainstream thought.

And yet after the major crash in 2008 the mainstream acted in one of two ways: they said it was obvious the market would crash so don’t give the ‘chicken littles’ too much credit. Or they claim that no one saw it coming because it was so unexpected.

They can’t have it both ways…but they try to.

When to Sell Stocks

Look, we’re not saying it’s easy to know when to sell. It can be one of the hardest things to do.

What if you sell today and the stock price doubles tomorrow?

That’s the thing that worries investors the most, that they’ll miss out on further gains. But as any investor knows, gains can quickly turn into losses. So, when do you sell?

Well, there are several variations on a theme that we follow with our personal share portfolio.

The first and most important part of selling is in the buying – don’t over-expose your portfolio to the stock market. That’s something you should follow regardless of market conditions.

Stocks can fall quickly. As you saw in May and June this year, one week things looked great, the next they didn’t look great as the market fell 10% in just a few days.

But assuming you haven’t piled too much of your cash into stocks, the best technique we’ve found over the years is to ‘bank’ profits when a stock hits a particular level.

As to what level you choose, that’s up to you. One of the most popular techniques (especially with growth stocks) is to sell half your position when the stock price doubles.

That way you’ve effectively taken out your initial stake and you’re leaving the profits to run. It’s a good strategy. It means that even if the stock price goes to zero you haven’t lost any of your initial stake.

Another strategy is similar, but involves taking out your initial stake plus the amount you would normally expect to make from a growth stock during that time.

For instance, if the stock doubles in a year and your investment has gone from $1,000-worth of shares to $2,000-worth of shares, you could sell $1,300-worth which would equal your initial stake plus an extra 30% based on what you would normally expect from a higher-risk growth stock.

That way, even if the stock price goes to zero after you’ve sold, you’ve still banked a 30% gain on your initial investment. Of course, these examples don’t include transaction costs and tax consequences, so bear that in mind too.

Selling Stocks is as Important as Buying

In short, selling should be just as much a part of your investment strategy as buying. And yet it’s the part of investing that most people ignore.

Right now, we believe we’re in the middle of a bull market that could last another two years. But we’re not ignorant. We hear the warnings about the chances of a market crash – we hear them because they’re mostly coming from our colleagues.

That’s why we only recommend a 30-50% exposure to stocks, with at least half of that in dividend stocks. We know the market could turn on a sixpence at any time.

So if we’re wrong and stocks fall, we need to make sure we bank some profits on the way up, and that we can easily sell stocks if the market heads down.

Bottom line: don’t ignore those calling for a market crash; you’ll be grateful for the warning when the crash finally comes.


Special Report: Read This or Retire Poor

Join Money Morning on Google+