2018 is off to a roaring start in the stock markets, both in the US and abroad. (By the way: I say “twenty eighteen”, and try to avoid “two thousand eighteen”. How about you?) US markets are up for a variety of reasons, not the least of which is optimism based on corporate tax cuts. International markets, particularly in emerging markets, are up in part because the US Dollar has fallen. When I say emerging markets are up, I mean in US dollar-denominated terms. Some media types think the market is too frothy – the CAPE ratio (cyclically-adjusted price-earnings) is near an all-time high; the bull market has gone on too long and it has to end sometime; interest rates are bound to go up; etc. These are the reasons given why the bull market won’t last much longer. The nay-sayers may be right. Who knows?
If you are currently long in the market, even maybe through your 401k or equivalent retirement account, you may justifiably be suffering from a case of vertigo. You like the view up here, but you are looking down and getting dizzy. That’s ok. It’s natural to be concerned. You have gains and you want to protect those gains. Should you sell part or all of your stocks, take profits, and move to something safer? Should I do it now, or is there room for the market to run some more? If I sell now, will I suffer from FOMO (Fear of missing out)?
There is no wrong answer, but there are answers that can cost you some money. You can go on gut instinct, which may work especially if you follow the market. You can watch CNBC or Bloomberg and consider what the talking heads there are saying. However, the best way to think about when to sell is to use some simple rules. Rules-based selling is the way many professional money managers make their Sell decisions.
What rule should I use to sell? There are several in use out there. Each may be appropriate given different market circumstances. Here is a list of rules that you can consider:
- Sell when your stock hits your price target that you had set up when you bought it. If you were looking for a 10% profit when you bought the stock and you get it, just sell. Don’t second-guess yourself. Make it a hard and fast rule. Maybe you even put in a limit order to sell. The problem is, what if you sell and the stock then continues to run? You may suffer a severe case of FOMO. I have found that a target price rule works better with a short-term or day trade and that there are too many variables to consider if you are a long-term holder, especially in a retirement account.
- Sell when your stock falls below some percentage of what you bought it for, say 7% to 9%. Take the price that you bought it for, and if it falls 7% from that price, sell it, no matter the extenuating circumstances. Cutting your losses in this way is a very important part of money management. Live to fight another battle. One big loser can tank your portfolio’s overall performance. This rule is espoused by Investor’s Business Daily, among many others. However, if your stock has run up, you don’t want it to run back down and then lose 7% after having been in the black. That’s not good for the psyche.
- Sell when the stock falls below a technical indicator, such as the 50-day or 200-day moving average. Famous investor Paul Tudor Jones uses the 200-day moving average rule. You can find the 200-day SMA (Simple Moving Average) in most free stock charting websites such as FINVIZ and StockCharts. Falling below the 200-day SMA is sometimes a sign of inherent weakness in a stock. You can still book a profit – the SMA may be higher than your purchase price.
- Sell part of your stock, enough to refund yourself for what you paid for it, and hold the rest. This is called Playing with House Money. Or maybe just sell to refund a part of your investment but keep the rest. This is a good way to look at selling in the current market if you have some profitable holdings.
- Sell if the overall market goes into a correction. Most individual stocks move mostly in concert with the broader market. It is highly unlikely that your stock will buck the trend if the trend is downward. How can you tell if the market is in a correction? Look at maybe 10% below the peak as a correction, and look at 20% below the peak as a Bear Market. Likely the 200-day SMA rule would also be triggered in this case.
I am an advocate of rules-based buying and selling. If your instinct tells you that you should sell, or if the talking heads on CNBC are striking fear into your heart, at least you should look at some of the rules I outline here might apply. Don’t go only on your instinct or what others are saying. Then, the last rule: Once you sell, don’t look back. Every day is a new day with different factors that play into buy and sell decisions. Don’t come down with FOMO.