Buying stocks is easy. Knowing when to sell stocks can be a little trickier.
“For every 5 surefire stock tips your brother-in-law tells you about, 1 will go straight down, and 1 will go up and 3 will hover around where you bought them,” says Roger Smithberg, CFP professional, managing director at Noyes Group in Elgin, Illinois.
Here are 5 clues to help you know when to sell stocks.
1. When the portfolio becomes lopsided
A stock that has appreciated a bit could skew your asset allocation and increase the overall risk level in your portfolio. Prune back the position to your original settings by rebalancing.
“If you have set out for a 60-40 allocation between stocks and bonds and due to growth and a long bull market you have a 70-30 allocation, it’s time to review your allocation to sell some stocks or equity positions,” says Dan Dingus, president of Fragasso Advisors in Pittsburgh.
2. When the company’s earnings deteriorate
It may be time to pare back a stock when your reasons for buying it no longer apply. For instance, the company may be performing worse than competitors, or the qualities that made it a standout stock in the past are no longer true.
“Are earnings growing? Is their competitive advantage being diminished for some reason?” asks Eric Wightman, managing director and portfolio manager at The Wise Investor Group at Robert W. Baird & Co.
Analyzing financial statements can show what’s going on inside the company.
3. When you’re wrong about a firm’s prospects
Whether a systemic problem causes the stock market to crash or a pointed tweet from a politician sends stocks across an entire sector tumbling, it’s hard to predict when investments will go awry. No stock goes up 100% of the time.
And sometimes a stock goes down due to disruption in the industry or bad decisions by management.
“If we figure our math is wrong or we weren’t right on how great this business is, we’ll sell,” says Wightman. “But if we hit a 10% correction because of whatever reason of the day and we’re still confident in the earnings and competitive advantage and management, then we’ll add to (the position).”
4. When you hit your target
Another sign to sell stocks: You’ve reached your pre-set threshold for price appreciation.
“It’s subject to change, but I try to talk about that before the investment is made. It’s nice to say, ‘If it goes up 20%, I’ll sell and take profits.’ Maybe they would want to hold and get 30%, but if people can make 20% in a year, maybe they should lock in some gains,” Smithberg says.
5. When technical issues indicate adversity
Investors who rely on technical analysis to inform their trading decisions look at an indicator called the advance-decline line to gauge the strength of a trend.
A stock market technical indicator used by investors to measure the number of individual stocks participating in a market rise or fall.
Essentially, investors track the stocks in an index, noting the number of companies with a rising price for the day and the number with a falling price. Total the advances and the declines, and the resulting number is the net advances.
“Run that as cumulative value from whenever you started to count — 1,000 days ago or 50 years, run the cumulative value,” says Stanley Dash, CMT, vice president of applied technical analysis at TradeStation, an online broker.
If the index is moving to new highs and the advance-decline line is moving in tandem with it, then the trend is pretty well-supported. If the advance-decline line is flat while the index moves up, “it means narrower participation,” Dash says. Translation: Fewer stocks are rising in value.
Is Apple or Exxon Mobile single-handedly propelling the Standard & Poor’s 500 index to new highs, or are a bunch of companies moving up? This metric can give you an idea of when it’s time to cut loose.