If there’s one universal truth to investing in stocks, it’s that there is no easy way to tell when it’s best to buy or sell. Every theory about what signs indicate what a stock is going to do over the next year will inevitably have counter-examples disproving the entire theory.
Panic-selling an otherwise strong stock because of a short-term downswing is not a strategy for long-term success in the markets. Still, knowing when to sell a stock can be an especially important skill. Research has shown that one of the most common mistakes made by individual investors is refusing to sell losing stocks in hopes that the prices will recover and save their investment from a loss. Investors need to be especially careful in a falling stock market.
So, when is it really time to sell? There are certain indicators you can use that — although certainly not 100 percent — are still going to help you know when the time is right to let go of an investment.
You Need the Money Now or Know You Will
If you really need the money, it’s almost always going to be better to sell a stock — even at a loss — than to take on debt or run up your credit card bill. Although you should carefully weigh just how badly you “need” more cash in the short term before making any decisions, if it really can’t be put off, you might just have to pull the trigger on shedding part of your portfolio.
This is exactly why experts will tell you to maintain an emergency fund. Sure, you can earn better returns in the stock market than a savings account over time, but if your emergency hits while the markets are down, you’ll be stuck taking a loss when you might not have to.
If you can anticipate major costs coming up in the next few years — like buying a home or a new car — think about selling well ahead of time rather than waiting to see if you can get a better price later on. You never know when a major market downswing might start, and trying to time the market almost always ends in disaster.
Your Investment Thesis Has Changed
If the primary reason you bought the stock isn’t true anymore, that’s usually a good sign that its time to part ways. Say you bought shares primarily because you had confidence in the CEO and now they’ve moved on to another company, or you felt a company offered the best product in its segment only to have a competitor release a new model that’s superior. You should have a clear sense of why you’re investing in a certain company before you do so; if that changes, it might be time to sell.
Your Stock Is Overvalued
No matter how great a company is, it’s not a good investment if its price is too high. That same thinking applies when it comes to selling. If you’re holding a stock that’s trading at a ratio to earnings or sales that’s much higher than the industry average, you should seriously consider selling.
Learn More: How to Use P/E Ratio when Picking Stocks
You Could Benefit From Tax Loss Harvesting
One portfolio strategy is known as “tax loss harvesting” involves selling an investment at a loss toward the end of the year to counter-balance gains elsewhere in your portfolio. So, if you sold stocks earlier in the year for gains that you would now owe capital gains taxes on, you can reduce or eliminate your tax liability by selling another stock for a loss.
This isn’t a smart plan if you have reason to believe the stock in question could rebound or enter a period of sustained growth, but if other factors are pointing to selling, you might consider the potential tax benefits that can come with selling a losing stock.
You Need to Rebalance Your Portfolio and Diversify
If a large percentage of your portfolio holding is in just a few stocks, it could be time to sell off at least part of your largest holdings so you can invest that money across a number of new investments. It’s never a good idea to have too many eggs in one basket.
Likewise, as you grow older, gradually shifting your portfolio out of stocks and into bonds is advisable. As you reach middle age and approach retirement, you want investments that are less volatile since you have fewer years to make up for portfolio drops. Online investing tools make portfolio diversification easy.
You Don’t Like What You’re Seeing in Earnings Reports
For all of the murkiness that can surround the stock markets, the quarterly earnings reports legally required of every public company are the one hard truth that cannot be ignored — at least not forever. And although any company can have a bad quarter or two, if it is repeatedly failing to meet expectations, that’s probably a sign that it’s time for you to cut bait. After all, if a company can’t execute on its business plan, it’s just not going to be a good investment over time.
You’re Pretty Sure the Stock Has Topped Out
The same research that showed that individual investors were likely to wait too long to sell also revealed that they’re more likely to sell too early, missing out on potential gains. Still, it’s also true that a stock can reach a peak from which it’s likely not going to continue to grow.
If you feel especially confident that shares don’t have a lot more room to run, analyst price targets tend to come in below the stock’s present value and the stock lacks a dividend, you should count yourself lucky for the ride and consider letting it go before it starts to fall.
More on Stocks
- Investing for Beginners: What First-Time Investors Need to Know
- These Stocks Could Make You Wildly Rich — or Drain Your Savings
- What $1,000 Invested in Stocks 10 Years Ago Would Be Worth Today
- Watch: We Know Warren Buffett’s Best Investing Secret, Do You?
We make money easy. Get weekly email updates, including expert advice to help you Live Richer™.