Two decisions must be made when deciding to sell, 1) you must decide to sell Stock A, and 2) you must find its replacement.
The new purchase must offer less downside risk and greater upside potential than its predecessor to justify the action.
CONSIDER COST:
The costs for commission, on both the sale and new purchase must be considered. Federal and state taxes that are due on the profits of the sale can eat away at a club’s profits. A 37% gain must be realized on the stock before any money is made.
REASONS TO SELL:
It is reasonable to sell stock to finance large purchases, such as a new house, or for educational expenses. One might also sell stock to improve ones portfolio.
Reasons to sell:
· Adverse management change
Consider the opinions of investment professionals when evaluating management. (Value Line is a good source)
· Declining Profit Margins
Declining profit margins is an indicator of corporate problems.
· Deteriorating corporate financial condition
It is important to watch a company’s financial condition. If a company takes on too much debt, it may experience problems meeting interest and principle payments.
Watch a company’s capitalization and check it’s leverage (see chapter 4).
· Dependence on a single product
A company could saturate the market with their product and have “no place to grow”.
· A stock’s quality will change as economic circumstances change
Quality of a stock is made up of many factors such as size, financial condition, consumer acceptance, market share, effectiveness of research, and depth of management.
It is important not to forget the effect of the economy on industries and their products.
· Securities that have proven to be cyclical and that have a recent history of slow growth should be sold when the economy peaks.
Don’t buy when cyclicals are a bargain, this is an indicator that the earnings are headed for a decline.
· To maintain a balance by company size in your portfolio.
25% in SMALL companies with sales under 400 million.
50% in Medium companies with sales between 400 million and 4 billion.
25% in Large companies with sales over 4 billion.
SELLING DON’TS
· Don’t sell because the price hasn’t moved.
The cardinal rule for investing is patience. Focus on the fundamentals of investing. If the basics remain attractive, don’t worry about price.
· Don’t sell because of a paper loss
· A stock worth keeping is worth keeping even if a decline of 10 to 20% happens.
· Don’t sell because of a paper profit
· If you sell too quickly, you might miss a large return over the long term. Don’t forget to focus on the fundamentals. As long as the stock meets your criteria, hold onto it.
· Don’t sell on temporary bad news
· Know your stock and anticipate its slow times and act accordingly
· Don’t sell just to take action
· Selling is sometimes attractive if you feel frustrated that something isn’t happening quickly enough. Be patient and wait out the market.
· Don’t sell a stock that has fallen so far that your remaining downside risk is minimal compared to the upside potential.
In a small portfolio (under $100,000 in size), a single issue should not account for more than 20% of total value. In a large portfolio (at least $100,000), no single holding should represent more than 10 percent of the total value.
To sum up, selling may be the most difficult decision you face as an investor. Take full advantage of the Portfolio Management Guide and PERT. If sales and earnings gains continue to meet or exceed your minimum requirement, and if the pretax profit margin is rising, consider selling only if the price multiple earnings ratio exceeds one and a half times the historical average high price/earnings ratio.