30Jun, 2023
When to Sell a Stock ?

In this blogs i have tried to gather insights on right way to sell a stock , hope this will help a lot

Most investors don’t know when to sell a stock

But selling is very important to enjoy your gain or to save your capital from wiping out.

Peter Lynch once stated: “Selling your winners and holding your losers is like cutting the flowers and watering the weeds.”

In this article, I’ll discuss 7 reasons where it makes sense to sell a stock.

1. You Made a Mistake

John Maynard Keynes once said: “When the facts change, I change my mind.”

And so should you as an investor.

When you’ve bought a stock for a certain reason and after a while it turns out that you’ve made an error of judgement, you should consider selling the stock.

2. You’ve Found a better Opportunity

Just as life, investing is a game of opportunity costs.

You should always own the best companies you possibly can which generate the most attractive risk-return characteristics for you as an investor. 

“The real cost of any purchase isn’t the actual dollar cost. Rather, it’s the opportunity cost—the value of the investment you didn’t make, because you used your funds to buy something else.” – Warren Buffett

3. The Company is losing its Moat

A moat is essential for quality investors.

Successful companies must reinvent themselves all the time to keep their competitive advantage. 

That’s why disruption is one of your worst enemies as a quality investor. You want to invest in companies with predictable cash flows.

Example: Nokia used to be the clear market leader in the phone market. In 2007, they had a market share of 49.4% (!). They lost their edge completely over the years because they didn’t take the treat of smartphones seriously. 

4. The Stock is Overvalued

This is by far the most dangerous reason to sell a stock.

Why? Because great companies always tend to exceed expectations.

Cheap stocks are often cheap for a reason, and expensive stocks are often expensive for a reason.

I would recommend you to not sell a great business when it looks (slightly) overvalued. 

If the company looks expensive but can grow its earnings at attractive rates of return for several years, the stock might turn out to be not expensive at all.

That’s why, at least in my opinion, you should only sell great businesses when they are ridiculously overvalued.

Example: Artificial Intelligence will change our lives. It’s no secret that Nvidia is a clear market leader in AI. However, the company trades at 221x (!) earnings today. This means that even when Nvidia can grow its EPS with 20% per year for 10 years, the stock would trade at a PE of 30x in 2033. And this while you would have generated no return at all as an investor. 

5. Change in Management

Skin in the game matters. A lot.

I’ll repeat it one more time because it’s so important.

Skin in the game matters. A lot.

As an investor you want to invest in companies which are led by managers with a strong track record and very high integrity.

When great managers start leaving the company, it might be a reason to sell the stock.

6. Growth is Slowing Down

In the long term, the growth of the intrinsic value per share is all what matters.

This also means that to generate above-average returns as an investor, you should own companies which are able to grow at above-average rates. When growth slows down, your expected return will as well.

7. Need for Cash

If you need cash, it might make sense to sell the least attractive stock you own.

But always remember: in the long term stocks offer the highest rate of return. 

Every Rupee that works for you right now, will be worth multiple Rupees in the future.

Example: You need cash to buy a house or support your children. As a result, you sell the least attractive stock in your portfolio.

Bad reasons to sell a stock

Obviously there are also some bad reasons to sell a stock:

  • The stock has gone up with x%
  • The stock has gone down with x%
  • Comparing the current stock price with your purchase price
  • Short-term concerns (quarterly results are often noise)
  • A weakening macro economy
  • Trying to make a quick gain
  • Other investors are selling (you should always make your own homework)

Conclusion

That’s it for today. To conclude:

  • Let your winners run as long as possible
  • Reasons to sell a stock
    • You made a mistake
    • You found a better opportunity
    • The company is losing its moat
    • The stock is overvalued
    • Change in management
    • Growth is slowing down
    • You need cash

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