Since this web site is read by many very successful investors, I was wondering if any of you had any insights on selling stocks. It seems there are a million different books and strategies on buying stocks, but not many people talk about when to sell. Right now I basically go off of what I am satisfied in gaining and start selling at that point. If it drops I usually keep buying as long as my analysis of the company still holds. This has worked out okay but I've missed out on a lot of gains and feel there is more to learn here. For instance, I bought ZINC at $2.50. It went up and bounced around from $3 to $4 for a while and I determined that at $3.50 I was satisfied with a 40% gain. Of course after I do this it shoots up to over $7 over the next couple months. On the other hand, in an attempt to exercise more patience, I held on to TRID when it was up over 40% and I am now in the negatives with it. I currently am up 110% on TUES and am confused about what to do with it. My instinct has been telling me to sell and lock in the gains but it just keeps going up. My dad once told me to "Sell and be sorry, but sell." This seems like pretty good advice but I can tell you when a stock keeps rising I sure am sorry I sold. Could anyone help me out? Not sure if it matters, but my investing style is that of value. Thanks in advance!… Brave Rifles!

Philip J. McDonnell replies:

Phil MMr. Bates posed the interesting question of when to sell. Much of his discussion focuses on minimizing his subsequent regret. Many of us buy stocks because we fear the train will leave the station without us on board. We fear taking a loss because we cannot accept the cognitive dissonance of admitting a mistake. We also fear that the stock will recover from the loss adding regret to the cognitive dissonance. We fear selling a profitable trade because it may go higher and cause us regret. For most counters the question of when to sell is often answered before they buy. Suppose one did a study such as Vic and Laurel did in PracSpec looking at REIT returns in one quarter and what the market did in the next quarter. Then the criteria of when to sell is one quarter later just as used in the study. In fact very often the criteria used in a quant study is based on time and not on price. One can suggest a few general guidelines. One should sell if:

  1. The criteria used in your analysis have been met. This could be time or it could be something like the first profitable open such as Larry Williams has suggested.
  2. You no longer have an advantage.
  3. You have a profit so large that the position size is too large relative to your portfolio. Note that this criterion only requires a partial sale. My book talks about position sizing.
  4. You have other better opportunities and need to raise cash.

For a fundamentally oriented value investor the time element may not be so clear. Corporate reporting is on a quarterly basis so presumably the time frame for a value investor is quarterly or longer. So one should look to value as the criterion for exit as well as entry. If a stock has gone up quite a bit then much of its advantage in the value sense has disappeared. The position size may now be larger than the optimum and other under valued stocks may present better opportunities.

Correct position sizing is the only reliable money management tool. Stop losses are not guaranteed to work because of gap openings. They also do not work the way most people expect. Buying puts is usually too expensive. Thus we are left with position sizing. For a value investor with longer holding periods one might arbitrarily decide to cut positions in half to allow room to double before position size adjustment is required.

Dr. McDonnell is the author of Optimal Portfolio Modeling, Wiley, 2008





Speak your mind

4 Comments so far

  1. Shawn Surdyk on April 19, 2009 2:39 am

    I’ll preface my post with this: I am by no means a pro at discretionary trading so only take what I say if it makes sense to you.

    Anyway…It sounds like you’re trying to get over the psychology of trading more than anything. One way of doing that is to put in systematic stops. If a trade goes well and you get out before it *really* takes off, but your exit was based on a systematic stop, then you won’t feel so bad. So set up a straight stoploss that you feel comfortable with (say 20% max loss) and then on top of that set up a trailing stop, parabolic SAR stop or some other interesting stop/profit-taking. These can let your big winners run longer.

    One thing I’ve found psychologically useful in my personal trading is I’ll take off about half of my position after a trade is profitable and I become unsure if the stock is about to reverse or about to really take off (could go either way). Technically, this might not be the right thing to do but it feels much better. Either way you look at it you can give yourself a “good job” because you either saved yourself money if it reverses (”I took off half my position”) or you captured future profits (”I still kept half my position on”) when it takes off. Essentially you’re avoiding the tough decision to be completely in the trade or completely out. My position size usually reflects my confidence in a trade…if I become less confident, then my position size should reflect that.

    Also, you should try to keep in mind what type of trades you’re going for…the high probability, small profit trades…or the rare, big home-run trades. The latter is much more difficult to trade psychologically. Keep in mind that traders who frequently let losers run and double-down on them while cutting winners short are the breed most likely to blow up their accounts.

  2. Steve Leslie on April 19, 2009 10:27 am

    First, there is no perfect strategy for selling in trading or speculation. Far greater minds than ours have struggled with this fact for hundreds and hundreds of years. And furthermore there are no easy answers to complex questions. I recommend you start by reading Gerald Loeb and his book the The Battle for Investment Survival. Consider the pyramiding strategy he discusses as a way to buy into an asset such as a stock. For example, let's say you want to invest $10k into a stock. You begin by buying in increments on the way up, perhaps $3k then $2k and onward until you have a full position. The easy part is over. Now your goal becomes to make money. I start with using trailing stops on my Scottrade account with a portion of the position. The stop will follow upward and the market will take it out on the downstroke. I will be taking a "schnitzel" down until I exit my position completely. Work on this and you will become a better trader. It eliminates the all-or-none thinking that you are struggling with now. It takes off the pressure. And once you are out of a position forget about it and move on to the next challenge or idea. Always have another position that you are looking at in your quiver. This also relieves the stress as to what you are going to do with the money next. If you are a beginning trader, start out with a hypothetical account and practice. Many online brokerage accounts allow this feature. I like the comment one of the great traders once said "I like to leave something on the table for the next guy." And remember things too seriously because in the words of the Great Red Skelton "Don't take life too seriously, nobody here gets out alive."

  3. david higgs on April 20, 2009 11:07 am

    "When to Sell" by Justin Mamis and Robert Mamis, 1977 is a nice source, with train of thinking like Chair's.

  4. Legacy Daily on April 20, 2009 4:18 pm

    I cannot remember a buy or a sell that did not come with some kind of regret at some point in time. After recognizing that regret was given regardless of the decision, I started completely ignoring it. Selling rules depend directly on one's buying rules. Having said this,let me suggest a slight adjustment of perspective. Most folks seem to go to the markets as "buyers" much like we go to purchase a new vehicle or a pound of cheese. We are good at buying because we are conditioned constantly to try to get good deals (whatever that means individually). A retailer, a farmer, or a manufacturer thinks about selling first. How much could I get for whatever I am selling? What could force me to drop my price? At one point I switched my perspective to go to the market as a "seller" or a dealer, albeit a tiny insignificant dealer (tomato stand next to Walmart) but nevertheless one whose goal is to benefit from mainly selling. It makes little sense to analyze what one could have gotten for last year's tomatoes this year. Here in New England one can get the best price for a second hand snow-thrower right before a snow storm and can get the best deal for one right after winter. Are financial markets really that different? Also, I often consider the fundamentals of the "goods" to be the"tech. specs" of whatever it is I'm selling. Would someone pay good money for a V8 engine or a hybrid in the next season? I also remind myself that sometimes the big sellers inject artificial stuff in their goods, spray shiny polish on them, and advertise them on TV while also displaying in the street. How would my goods compete? All this is, of course, in addition to the price/volume analysis and the math. - ld


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