Investment decision comprises of two parts i.e. buying and selling. While buying is embedded in our gene (that’s the reason we find most of the retail investors going for junk stocks), selling doesn’t come so easily (That’s the reason retail investors keep on incubating junk stocks in the hope – someday they will hatch J). To keep you well informed, here is a primer on the art of selling stocks once you have bought it (Be it junk or a great stock).
We at equityfriend consult our clients and ask them to buy stocks when the stocks are cheaper than their fair price based on few valuation parameters. In an emerging market like India, it is difficult to find companies that are trading below their fair price, although this may happen in bear market or because of some knee jerk reaction as a result of some negative news with respect to a particular company.
Once the buying phase is over one question clients often ask is - when is the best time to sell the stock? After all, if you do not sell the stocks how are you going to make money? I thought over this question and decided to build a strategy around it. It’s generally not wise to sell a good stock unless you are in decent profit (by decent profit I mean profit in the range of 30 to 50%).
Frankly speaking, selling is quite tougher as compared to buying. However, selling at right juncture does make sense as not all your stocks will generate profit for you in the above range and there might be stocks where it would be prudent to even book losses.
Test the stock you are holding on following parameters and if they fall into any of the following category, do not hesitate to sell
Do not fight with the fundamentals of the company
If the peers of the stock you hold are going up and the stock you hold is going down then it’s a red flag which needs attention. If the whole sector is performing well, there must be some fundamental problem with the stock you hold. It’s not very difficult to find out what’s wrong with your stock. Just google it and you are done.
The thumb rule is - sell your stock immediately if your stock is down by 15% of the purchase price and the pears are standing where they are or moving up.
Availability of a better investment opportunity
Another reason to sell your holding is the availability of a better investment than the existing one. For example, if a stock is trading above its fair value, you may want to take money out of that and put it in a good stock which is available at a discount to the fair price. Although finding the fair price is not an easy task.
Grim business outlook
We should sell the stock if there is a permanent shift in the business circumstances/policy situation that impacts the company adversely.
For example, digitization has changed the way people buy music and videos. Another example could be the fall of sugar sector. The sugar stocks were blue eyed boys earlier because of low production. However Government changed the policy and eased the import resulting in sugar sector fall.
Urgent Cash Requirements
You should sell the stock if you need cash urgently. In crunchy situation too, this should be the last option. If you can borrow money and get over the crisis, you must use that option first.