As with anything in investing, knowing when to sell a stock is as critical as knowing when to buy one. Every investor follows their own set of guidelines. Some will make the decision to sell on price movements only, such as holding onto a stock when the value has fallen and selling it when they can make a nice profit. But every successful investor will tell you that the key to knowing when to sell stocks involves planning. To know when you should sell your shares you will need to:
- Look at the potential outcome of the company
- Observe how the company tackles challenges
- Determine if it is the best place for your money
- See if it still suits your portfolio
- Determine the possible tax scenario
- Determine your plans after selling
- Plan your exit
How Do You Know When to Sell a Stock?
Creating a plan to sell can help you trade with less stress and reduce your risk of second-guessing your self and making a bad decision. Below are a few steps to take to help you know when you should sell stock.
1. Look at the Company’s Motion
Does the coming seem to be suffering from a setback? Look into sudden price movements to help gain a better perspective. Compare your company’s returns to their benchmarks as well as other competitors in the industry over the same time frame. By seeing the context around the price fluctuation, you can determine whether the swing is due to an overreaction to recent news, related to the market movement, or if the company is running into trouble.
2. See How Your Company Handles Challenges
Companies, as well as the market, go through a constant process of evolution. A company’s ability to rise to the challenge and and overcome, or adapt to the market changes can say a lot about their stability and whether or not they are a sound investment.
There are some challenges that you should be cautious of and may want to consider when selling. If you find out a competitor is overtaking a large share of the market, or the company you are currently invested in has had their accounting practices called into question: it may be time to consider getting out while you can.
Other developments may warrant a wait-and-see attitude such as management shakeup, bad quarters, or delay in product launches. These are all issues that can be overcome if the company can rise to the occasion.
3. Decide if Your Money is Put to Better Use Elsewhere
Even though holding onto stock for a length of time can provide you with a better overall return on your investment, you may be giving up some good investment opportunities by holding onto the same stock for too long. Sometimes your portfolio may be better served by freeing up some of your cash for different stocks. You also may want to cash out to help pay for upcoming expenses such as college tuition or retirement expenses.
4. Determine if the Stock Helps to Balance Your Portfolio
Most likely, you have spread your investments to ensure that you have a well-diversified investment portfolio. This will ensure that you have a good mix based on your level of risk. But even some of the best-laid plans need to evolve over time. As your portfolio grows, some stocks may need to be altered to get your portfolio back where it needs to be.
5. Find Out What Taxes Selling May Cause
One thing that is a consideration you should make when selling a stock is that if you sell for an increased value after holding it for a certain period of time, you may be subject to taxes. The main issue is whether or not you have held the investment for a minimum of one year. If this is the case, then you may have a break on your taxes as you would qualify for the lower tax rates instead of the higher short-term gain rates.
You can also benefit from selling off losing stock to help lower the taxes you will ultimately owe after selling your more valuable stock. This act is often referred to as tax-loss harvesting.
6. Determine if You Have a Plan to Repurchase
Some investors may plan to buy the stock they have sold back, or purchase a like-stock close to the sale, in what is referred to as a wash sale. This term is used because you wash your ability to use a capital loss to offset taxes on gains. The rule will go into effect if you buy back the same or similar stock within a month before or after selling the stock at a loss.
7. Decide How You Plan on Making Your Exit
When deciding when to sell your stock shares, you should always follow an exit strategy. While it is impossible to perfectly time a sale, as no investor has the foresight to know the exact moment that the stock will be at its highest or lowest, having an unclear exit strategy can lead you to emotional decisions that can cause significant losses or cause you to lose out on more profitable gains.
You can formulate a smoother exit strategy by using dollar-cost averaging to build your holdings and decide on the best time to sell. With dollar-cost averaging, you will be investing money over weeks and months, so you will have stock at different prices, which can even out to an average price for the stock. You then can sell shares at different times.
Reasons to Consider Selling Stock
One of the keys to knowing when to sell a stock is by determining the reason behind the stock sale. Below are some of the most common reasons that investors may decide that selling stock is their best option.
The Buy Was a Mistake
Even though you have likely put in the time to research the company you are investing in, you may later determine that the analysis you made was in error, and that error affects the suitability of the investment. In this case, you should sell your stock, even if it means taking a little bit of a hit.
Just be aware that you should never second guess yourself if you feel the buy was not right. Yes, the stock may go up, but trusting your research will protect you better in the long haul. Just be sure not the give all analytical mistakes the same weight. For example, if the price of the stock goes down, or they don’t completely meet the short term earnings forecast, don’t be so quick to dump the stock. Though if you detect signs that could result in long-term weakness, a sale should definitely be considered.
The Stock Sees a Sudden Increase
There is always that possibility that stock will dramatically rise within a short period of time, either due to a catalyst or some other reason. Inexpensive stock can become expensive very fast, and sometimes this is the best time to buy stock to make a profit. While there is always a possibility that the stock could continue to rise, it could also suddenly drop and you may lose out on a tidy profit. Don’t get too greedy, if the profit is attractive enough to make you want to sell you should go for it.
A Change in Valuation
The value of your shares of stock will be determined by the company’s future cash flows. Since there is no certainty in the future, there is a little bit of uncertainty, so you should take a lot of factors into account. A good time to consider selling is when the valuation of the company rises higher than that of its peers. Another time to sell is when the company’s P/E will significantly exceed the average P/E ratio over the previous five to ten years.
When valuation also comes into play is when the revenue of a company begins to decline, which can indicate a reduction in the demand of the stock. Take into account the quarterly numbers as well as the annual numbers to determine if the prices have fallen in recent months. Also, you may begin to see a company cutting costs, which can be a sign that they are failing to thrive. A big indicator of this is reducing the number of employees. The initial cost-cutting measure may result in a positive stock price at first, but often a decline is in the future. This point would be a good time to unload the stock and profit when you can.
Sometimes you simply need to sell a stock for financial needs. Your stocks are an asset, and there are times when it is wise to cash in your assets to acquire the cash you need to buy a home, pay for college tuition, or even invest in a new business.
When it comes to selling stock, any sale that results in profit is considered a good sale, and sometimes making a good sale can also mean reducing losses. The important thing to remember with any part of investing is performing your research to make the most informed decision. If you would like to find out more information on how to sell stock for a profit, consider joining our webinar or downloading our free e-book today.