You buy a stock hoping that you never need to sell it. But it is easier said than done. The stock does not know you own it nor it shows any loyalty to you. So you should always have an exit strategy in mind when buying.
It is sometimes easier to buy a stock than sell it. Why is it so? It is because you do a valuation of a company and come up with an attractive price to buy the stock (with a margin of safety). And you set up an alert and wait patiently till it gets triggered. Put in a sell order and you are now in the stock!
Then starts the game of waiting for the stock to reach what you thought was a fair value. But during the way, you notice a series of ups and downs on the price and that starts putting the seeds of doubt in the mind. Did I do a good valuation? Did I miss anything? Should I wait more for the price to rise or sell it off and lock in my profits? If I sell today, what if the price rises a lot more and I have to lose potential gains? Will there be a panic sell off in the market after the earnings that may cause me not only to lose gains but also go in the RED??
These thoughts make it so much more difficult to time the selling of your stock. But I would like to suggest to you a framework using which you can sell your stock and take out the element of psychology from your decisions.
STOCK SELLING FRAMEWORK:
COME UP WITH A REASONABLE VALUE WHEN BUYING:
Before you buy a stock, you should come up with an Investment thesis. In a simple sentence, you should write down why you are purchasing this particular stock including why you think the price should go up. Either with a discounted cash flow analysis or an asset analysis, you should try to come up with a fair value for the stock and subtract about 10% from it as an additional cushion. Now this is what is the price you should settle for.
UNDERSTAND THAT YOU SHOULD NEVER TRY TO EXTRACT THE MAXIMUM VALUE OUT OF YOUR PURCHASE:
Imagine you are going to buy a used car, you would never try to pay the full asking price, you would always bargain and try to get the price reduced. From a seller’s perspective, he would want to show you that you got a good deal! Otherwise, you would have a buyer’s remorse. The same way, when you sell your stock, someone else on the other end (machine or a human) is buying based on their calculations of the fair value and they would also want to take the ride on the stock to increase returns. So you should tell yourself that you will not be looking to extract everything out of the stock and still there may be potential for the price to rise.
PUT IN A SELL ORDER WHEN YOU BUY:
One way to take your emotions out of the selling process is to put in a Sell order as soon as you buy the stock. This way, you know what you are targeting and if the price gets there, the order automatically gets fulfilled. However after buying, if you get some information that you may have made a mistake while purchasing, SELL IMMEDIATELY!
SELL DISCIPLINE:
A very important principle of great investors is their sell discipline. Seth Klarman always maintains this. I have seen examples of big investors waiting and buying all the way up and losing huge money when the stock blows up and goes down. The case of Valeant pharmaceuticals is a great example to study to understand that you never go wrong if you sell early but if you delay, you may not survive in the market at all!
NEVER REGRET:
Always understand that you are in this game for the long run and you will make mistakes. Even if you get the price you expected, you still will regret why you did not buy more! So always have a policy of “NO REGRETS!” This will make your investments enjoyable. You will always be presented with opportunities and there is a huge world of stocks available. If you miss out some returns with this, you will always get another chance.
Hope this article gave you a framework to approach the selling of your stocks.