photo © 2008 Marlon E | more info (via: Wylio)
It’s easier to pick stocks when they’re cheap, but more difficult to know when to sell.
I believe some value investors believe that the favorite holding period of Buffett is forever. I hope nobody will take it seriously. In fact, there’s an exception to that rule and it only applies to companies that have set of criteria which we will discuss later.
The best scenario is buying a stock that you never have to sell. You buy a stock for less than its worth and it just goes up in value over time from good management and great economics.
Compounding works that way. A 20% gain a year would double your money in 5 years.
However, there are times that we don’t need that kind of stock. Sometimes, these great economics and good management types don’t usually trade at discounts.
But sometimes they do. When there’s a recession or a bear market happens. It’s one in every decade. For the patient investors, they could easily buy these companies at a great discount in an extraordinary times.
Here are the following times when you need to sell your stock:
1. When the stock has traded above its value after a decent run-up. There’s an exception, though. If you believe that the fundamentals of the company can catch up with the prices, you don’t need to sell. These companies are companies with durable economic moats. They tend to follow price and compounded your returns over time. With companies that are economically disadvantaged, you have sell them when prices move higher than their real worth.
2. When the investment thesis is no longer there. There’s always a reason why we buy a stock. It could be because the company is undergoing a major restructuring through asset sales. If that doesn’t push through, you need to re-evaluate your position and think of selling.
3. When your wrong about your thesis or fundamentals have changed. This is hardest part. It’s not easy to admit that you have made a mistake. The moment that you have made a mistake, you have to sell. Regardless if you have to take a gain or loss. Another reason why you have to sell is when the fundamentals are deteriorating. It could be a company that has narrowed its moat and have taken on more risks.
4. When there’s a better opportunity for the use of your cash. There are times when a stock idea offers better risk and reward situation. Sometimes, you need to raise cash in your portfolio to do that. What you’ll do is probably sell those who stocks that have gone up in price and use the proceeds to buy a new stock.
Question: Should you sell when the stock price has declined?
The answer is it depends. If the stock price decline says you’re wrong about the fundamentals (or have deteriorated), you have to sell. If the thesis remains intact, maybe you should hold or even buy more if it’s really attractive.
How about you? When do you think you should sell your stock?
