For many investors, the decision to sell a stock comes down to price movements. But a stock that’s fallen in value may still be a perfectly sensible investment to hold. Conversely, selling a stock that has risen and delivered a tidy profit can be the right move if it has grown out of proportion in your portfolio.
Figuring out the right time to sell a stock — the if, when, how and how much — requires nearly as much forethought and planning as deciding when to buy a stock. Let these seven questions be your guide.
1. Have I given the stock enough time to grow?
The problem with having nonstop access to market data and news is that it’s hard not to look. All. The. Time.
Even knowing that stocks can be volatile over short periods doesn’t make investors immune to the emotional triggers that lead to knee-jerk investment decisions. Mistaking market noise for news you should act on is one of the most damaging stock trading mistakes you can make as an investor. So is selling due to what turns out to be a temporary setback.
Put the stock’s performance in perspective. If you’re worried about its recent performance, compare the company’s returns to its benchmark and its peers over the same time period. A sector-specific exchange-traded fund can serve as a benchmark. A lagging stock could simply be the result of overall market movement or an overreaction to news. But it could also signal there’s trouble under the hood, in which case there are a handful of questions left to ask before hitting the eject button.
2. Have the company’s prospects changed?
Remember all the reasons you bought the stock and the things you said would make you consider selling? A written record comes in handy right about now to stop you from prematurely tossing a perfectly sound long-term investment.
Companies and the markets in which they operate are constantly evolving. Some challenges are harder to overcome than others — for example, a strong competitor starts stealing significant market share or the firm’s accounting comes under question. Other developments aren’t necessarily long-term bad news. A management shakeup may not mean a wholesale change in the way the business will be run. A delayed product launch or a few bad quarters don’t always signal total defeat.
A business’s ability to adapt to change will dictate whether it makes sense for you to sit tight or sell.
3. Is there a better place to put my money?
Although billionaire investor Warren Buffett says his favorite holding period is forever, that might not be realistic for the average investor.
Consider the opportunity costs of keeping the stock. The opportunity could be another, more attractive investment or the need to free up cash for an upcoming expense such as retirement income or college tuition.
In the first situation, holding and waiting may cause you to miss out on acquiring stock in another company at an attractive price. For the latter, any money you need in the next five years shouldn’t be invested in the stock market. Maybe you didn’t need the money for something else when you bought the stock, but now you will in the coming years. In that case, starting to cash out is a viable choice to help you avoid overexposure to short-term volatility and being forced to sell later at a bad time.
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4. Do I need to rebalance my portfolio?
Ideally, you’ve spread your money across categories of investments that align with your goals, time horizon and risk tolerance. Over time that mix will shift as some investments outgrow others, making it necessary to bring the mix back in line with your original asset allocation plan.
Two options to even out the scales are to buy more of the stocks that have fallen behind and to sell shares of the outperformers. (Here’s how to deploy these portfolio rebalancing strategies.) Although selling winners for the sake of rebalancing may not feel good, it’s all about controlling for risk.
5. How will I make my exit?
Timing a sale perfectly is nearly impossible. No investor can choose the exact moment when a stock is at its tippy-top high or lowest of lows with any reliability. Running for the exit could cause you to miss out on additional gains or lock in avoidable losses.
One way to smooth the transition is to employ the same trick investors use to build their holdings in a particular stock: dollar-cost averaging. But instead of investing money over weeks or months to build a position at different prices — which evens out the average price an investor pays for the stock — you sell shares at different periods over time.
Selling doesn’t have to be all or nothing. If you think the stock is still worth owning but you want to reduce your exposure, hold on to some of your shares.
6. How will selling affect my taxes?
The answer depends on the type of investment account you’re using and how long you’ve held the stock.
There likely won’t be any tax consequences to selling an investment held in a tax-advantaged account, such as a Roth or traditional IRA or workplace retirement account. Selling stocks in a taxable brokerage account, however, can trigger taxes. The damage depends on whether you’ve held the investment more than one year and qualify for the lower long-term capital gains tax rates, or less than one year, when higher short-term capital gains rates apply.
Not all stock sales generate a tax bill. Selling loser investments can lower your taxes in a maneuver called tax-loss harvesting. You can use the amount of money you lose on an investment — up to $3,000 a year — to offset any taxable investment gains. You could even use it to reduce your ordinary income tax tab. That would provide a bit of financial and emotional salve.
7. Is there a chance I’ll repurchase the stock after selling?
When you sell a stock at a loss and buy it back, or buy a similar investment, within a short time, it’s called a “wash sale.” What gets washed is your ability to use that capital loss to offset taxes on investment gains. The wash sale rule kicks in if you buy the same or a nearly identical stock any time between 30 days before selling the stock at a loss and 30 days after the sale.
Start deciding when to sell even before you buy
Before forking over money to buy shares, research the stock thoroughly and record what you like about and expect to reap from the investment. At the same time, set up the rules of disengagement — an investing prenup, if you will.
Some investors set up more formal measures when they place trades, using stop-loss orders as described in how to buy stocks, to limit their potential downside. Establishing guidelines upfront removes the stress of having to make important stock-selling decisions on the fly.
Dayana Yochim is a staff writer at NerdWallet, a personal finance website. Email: DYochim@nerdwallet.com. Twitter: @dayanayochim.