When to Sell a Stock? 5 Good & 5 Bad Reasons

Selling is often the most overlooked part in value investing. We often have no problem buying stocks, but deciding when to sell can be difficult sometimes for investors.

Selling a stock will trigger short-term capital gains tax and has the potential to affect your entire investment strategy. In addition, you will need to reinvest the proceeds and look for another long-term investment opportunity. Lastly, an important factor to consider is the time related costs such as brokerage and transaction costs.

Therefore, it is important to have a good understanding of when to sell your investments in order to better manage your portfolio and maximize your profits. This article gives an overview of the common reasons to sell a stock, both good and bad.

5 Good reasons to sell a stock

1. Selling because your thesis is invalidated

The best reason to sell a stock is because the underlying thesis or reason you bought the stock in the first place has been invalidated. As value investors, the decision to own a stock is drived by fundamentals, and if the core fundamentals of the company no longer makes sense, then it could be the right time to sell the stock.

It is important to know why you own a stock so that when the reasons for holding are invalidated that it is easier make to decision to sell and take your profits (or losses). For example, if a company’s growth rate had been significantly lower than you expected, and you estimated its intrinsic value far below its current market value, then it’s a good time to sell the stock.

2. Selling because you have a better opportunity

One other good reason to sell is if you identified a better opportunity to redeploy the capital somewhere else. However, it is important to be aware of the tax implications of selling and buying stocks and you should sell only if you are reasonably sure that the new opportunity present a far greater potential for return than the stock you currently own.

3. Selling when fundamentals change

If the fundamentals of the company change, then it is time to consider selling. This could be due to changes in management, shifts in the business strategy, or unexpected losses or lawsuits. It can be difficult to predict when such changes occur, but when they do happen you need to take into account the new information and weigh it against the original reasons behind purchasing the stock in the first place to decide if it’s still a good investment or if you should sell.

4. Selling when the market price is too high

There may come a time when the market price of the stock becomes too high to justify staying in the position. This usually happens when the stock has had a successful run up and the market is bidding up the price and investors are jumping into the stock. Therefore, if the market price is too high and you believe it is due to irrational exuberance, it may be time to sell your position and take your profits.

5. Selling loosing positions for tax benefits

The final good reason to sell a stock is for tax benefits. If you have accumulated a loss in a particular position, then you can sell the stock and offset some of the taxes you will owe on your investment income.

By doing so, you can also invest in a new position, taking advantage of any price gains experienced in the future. However, be aware of the wash-sale rule, which prevents investors from taking immediate tax deductions on losses whenever selling a stock at a loss, purchasing the stock again too soon, and taking another deduction. However you can invest in a similar stock to take advantage of future price gains if you have a thesis on a specific industry.

5 Bad reasons to sell a stock

It is important to understand why it is important not to sell for the wrong reasons. Selling in emotional outbursts and due to irrational reactions to market movements should be completely avoided.

Here are some of the most common bad reasons to sell a stock:

1. Selling due to panic or fear

The stock market is a volatile place, and there will be times when prices will move suddenly and erratically. It can be tempting to cut your losses and sell at these times, but this is often not a rational decision. Generally, if you have confidence in the company and your position, your best move is to stay on the sidelines and wait for better opportunities.

2. Selling because the stock price dropped

Similar to panic and fear, it can be very tempting to sell a stock because of the short-term movements of the stock market. However, this is a prime example of why it is important to think about the long term. Warren Buffett once said that "In the short term, the market is more like a voting machine. In the long run, the market is more like a weighing machine." Therefore, when it comes to selling, it is important to consider the fundamental factors and not simply rely on short-term price movements.

You need to evaluated whether you made a mistake in your investment thesis, but if you are confident you should not sell as you are a long-term investor.

3. Selling because you are bored

Another common reason to sell a stock is simply because you are bored. Investors may get tired of holding a single stock, so they sell it to purchase another one and become interested in it again. This is a common mistake made by beginners that had no real thesis for buying. The hardest part of being a good value investor is being patient and do nothing most of the time.

4. Selling because you made a profit

It may be tempting to take a profit on a stock as soon as it appreciates in value, and this is something that many inexperienced investors do. However, it is important to see the long-term potential when investing, and not to sell simply because you have made a small profit.

Warren Buffet borrowed this famous quote from Peter Lynch: "Selling your winners and holding your losers is like cutting the flowers and watering the weeds." Therefore, don't sell your winning stocks simply because they are winning.

5. Selling because you expect a market correction

Peter Lynch famously said: "Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves."

Therefore, it is important to remember that even if a correction is expected, predicting when it will happen is impossible. It is certainly not a sound reason to sell your holdings. If you invested with the intention of holding your investment for the long-term, then sticking with that plan should be your focus.