Theoretically, the ability to make money on stocks involves two key decisions: buying at the right time and selling at the right time. In order to make a profit, you have to execute both of these decisions correctly. The return on any investment is first determined by the purchase price.
One could argue that a profit or loss is made at the moment it's purchased; the buyer just doesn't know it until it's sold. However, while buying at the right price may ultimately determine the profit gained, selling at the right price guarantees the profit (if any). If you don't sell at the right time, the benefits of buying at the right time disappear.
Many investors have trouble selling a stock, and sometimes the reason is rooted in the innate human tendency toward greed. However, there are several strategies that you can use to identify when it is (and when it isn't) a good time to sell. The most important thing about these strategies is that they attempt to take some of the human emotions out of the decision-making process.
- When it comes to investing, the decision of when to buy a stock can sometimes be easier than knowing when is the appropriate time to sell a stock.
- In general, there are three primary reasons for a long-term investor to sell: the buy was a mistake, the price has risen dramatically, or the current price is no longer supported by fundamentals.
- Emotion and human psychology can sometimes get in the way of making a smart decision, so stay attuned to the data (and not your feelings).
Selling Stock Is Hard
Here's an all-too-common scenario: You buy shares of stock at Tk. 25 with the intention of selling it if it reaches Tk. 30. The stock hits Tk. 30 and you decide to hold out for a couple more gains. The stock reaches Tk. 32 and greed overcomes rationality. Suddenly, the stock price drops back to Tk. 29. You tell yourself to just wait until it hits Tk. 30 again. This never happens. You finally succumb to frustration and sell at a loss when it hits Tk. 23.
In this scenario, it could be said that greed and emotion have overcome rational judgment. The loss was Tk. 2 a share, but you actually might have made a profit of Tk. 7 when the stock hit its high.
The reasons you bought the stock no longer apply
Presumably, you've put some research into this stock before you bought it. You may later conclude that you've made an analytical error, and you realize the business is not a suitable investment. You should sell that stock, even if it means incurring a loss as the reasons you bought the stock no longer apply.
The key to successful investing is to rely on your data and analysis instead of Mr. Market's emotional mood swings. If that analysis was flawed for any reason, sell the stock and move on.
The stock price might go up after you sell, causing you to second-guess yourself. It's also possible that a 10% loss on that investment could turn out to be the smartest investment move you ever made.
Sell Stock When the Price Rises Dramatically
It's very possible that a stock you just bought may rise dramatically in a short period of time. Don't take the fast rise as an affirmation that you are smarter than the overall market. It's in your best interest to sell the stock.
A cheap stock can become an expensive stock very fast for a host of reasons, including speculation by others. Take your gains and move on. Even better, if that stock drops significantly, consider buying it again. If the shares continue to increase, take comfort in the old saying, "No one goes broke booking a profit."
Sometimes, a Better Opportunity Comes Along
Opportunity cost is a benefit that could have been obtained by going with an alternative. Before owning a stock, always compare it with the potential gains that could be obtained by owning another stock. If that alternative is better, then it makes sense to sell the current position and buy the other.
The bottom line
Any sale that results in profit is a good sale, particularly if the reasoning behind it is sound. When a sale results in a loss with an understanding of why that loss occurred, it too may be considered a good sell.
Selling is a poor decision only when it is dictated by emotion instead of data and analysis.
The Midway Team