- When: Sell when fundamentals change. You bought a car for gas mileage, but it doesn't get good gas mileage anymore. The business has changed -- new competitors, changing customer tastes, loss of market leadership, a bad acquisition, questionable management, trouble with the law. Intel (INTC) has a dogged new competitor in AMD (AMD), Pfizer (PFE) just can't seem to bring a new drug to market while losing ground to generics, Ford (F) can't do anything right, and more recently, questions about Dell's (DELL) financial statements and business model swirl through the media.
- When: Sell when there's something better to buy.This may seem like a blinding flash of the obvious, but I've seen investors forget it over and over. When to sell? Simply, when some other investment makes more sense, either for higher returns or greater safety, or both. If your investment has climbed a ladder and you see more rungs to the downside than the upside, maybe it's time. So what about selling those Google (GOOG) shares? Only if you believe some other investment -- or a money-market parking space -- will do you better. Remember, investing is all about allocating capital. And as investors, we try to allocate capital where it makes the most sense; that is, where we can get the most return for the risk we're willing to take.
- How: Sell fractionally. Set a price target if you want, but don't sell everything. Fractional selling -- selling part of a position -- locks in some gain, produces some cash and reduces exposure to downturns. You can always buy the fraction back at a lower price, or buy something else. Of course, it depends on circumstances. If the fundamental collapse is severe or if there's something way better to buy, a 100% "fraction" makes sense.
Stocks were up in 2006; that's hardly news. During the year, perhaps you sold to harvest a gain, or maybe to offset a few losses. I'm sure it wasn't an easy decision -- it never is. Now, as the new year has arrived and the markets continue to be strong, you wonder whether it's time to park some cash, build your 529 plan or buy depressed real estate. Selling is an emotional thing. Most of us are married to our investments, expecting something positive despite the most obvious and ominous outward signs. We hope, largely based on gut feel, that things will always get better. Further, many of us have been conditioned by past experience: One of our stocks climbs, meets and exceeds our goals, and we sell. Boy, does it feel nice -- for about two days. Then it goes on a tear, and we reflect miserably on the money left on the table. Nowadays, many investment books will offer hard and fast sell rules, such as sell when a stock meets your price target, or sell when it drops 10% from where you bought it. We're so conditioned to these rules that we take them as gospel. And they're preached widely enough that they have a significant following. I don't discard the hard rules completely; they have their purpose and can work well. But after all, didn't we put a lot of thought and research into the buy decision? Shouldn't the sell decision get at least as much thought? Click here for the video version of this story from Jennifer Openshaw.
I propose the following "thinking" sell rules, which boil down into two whens and a how.