Investing is an important part of building wealth for the future. It’s one of the best ways to consistency grow your retirement funds or find other ways to reach financial freedom. However, it’s sometimes tricky to make the right decisions with your investments.
One of the most important things you should understand when it comes to investing is when to buy. You don’t want to buy an investment when it is overpriced, so you need to do a little research. Understanding the basics of when to buy is vital. (Of course, if your strategy includes dollar cost averaging, and you are a beginner, timing isn’t such a big deal if you are investing in index funds.)
As important as it is to know when to buy, however, it’s also just as important to know when to sell. I’ve been thinking about this a lot lately since I joined an investment challenge with other bloggers. Up until this point, my investing has largely consisted of using dollar cost averaging investment plans to add money to my Betterment Roth IRA every month and to add to my taxable account (I use it for my emergency fund) at Sharebuilder.
For the investment challenge, I did something a little different. I still favor funds, but I added some individual stocks as well. And, already, I’m looking at one stock and wondering if I should sell the shares and use it to beef up one of my other positions. When you see something losing ground, it’s tempting to just pull the trigger and sell, but that isn’t usually the best course.
Intellectually, I know that I shouldn’t be ready to sell — especially since I picked the stock because of its status as a dividend aristocrat and a company with pretty strong fundamentals — after a week. But it’s hard to have that discipline when you are in a trading mindset.
When to Sell An Investment
Figuring out when to sell requires careful thought. One of the reasons I haven’t sold yet is due to the fact that I know that, really, I’m just worried about this individual stock’s performance. When it comes to funds and my long-term goals, I know that I just need to patiently wait it out. However, with individual stocks and a short-term investing challenge, the story is a little different.
Most of the reason that an individual stock is different is due to the fact that there is more of a concern about whether or not the stock is the “right” one. When you have an individual stock, you also often find yourself in a trading mindset. It’s harder to keep a lid on your worries when it’s one stock, rather than a collection of stocks, as in a fund. You are more likely to feel that a fund will recover than you are to feel that an individual stock will improve.
But the fact that my worry is the main reason I’m considering selling is one of the reasons I haven’t yet. I know that making decisions based on fear is rarely a good idea. When your mind is in a state of worry or fear, your judgment is clouded. It’s usually a bad plan to make choices — especially financial choices — when your judgment is compromised.
Instead, the decision to sell should be based on the following factors:
- What else could you do with that money? Another consideration is what else you could be doing with the money. Would another investment choice provide you with better results? Could a different choice better mesh with your long-term goals? If your overall portfolio and your long-term goals can be advanced by selling and buying something else, it might make sense. But make sure your evaluation is based on your actual goals, and not on fear. Don’t rationalize your choice.
- Have the fundamentals changed? Ask yourself whether or not the fundamentals have changed. What’s happening with the company? Is it as solid as it was before? How does the P/E ratio compare to the past? If everything remains similar to when you bought, chances are that there is a market or economic issue, and it’s not a good idea to sell. If the fundamentals look worse, that’s an indication that the chances might be more long-standing, and it’s probably time to sell.
- Is it in a bubble? Certain investments are somewhat protected from bubbles. However, there are other investments that are prone to them, particularly individual stocks, certain commodities, and particular sectors. If your investment is showing signs of being in a bubble, you might want to sell before the bubble bursts. One sign that a bubble is forming is when everyone is piling in, and you think that you have to get in, even though the price is climbing rapidly.
- What are the tax implications? Don’t forget to consider the tax implications of your decision. Right now, if I sell my individual stock, I don’t have to worry about taxes too much; I’d sell at a loss and be able to deduct the amount of the loss on my taxes. However, if you sell for a gain, you have to consider whether or not paying at a higher short-term capital gains rate would cause you problems.
The most important thing, though, is that you carefully think through your options, and you consider the ramifications of your decisions. You should also acknowledge the why behind your desire to sell an investment. It has to be more than panic or following the herd for it to make sense.