One question that weighs on many investor minds is this: When do I sell an investment?
Trying to decide when it’s time to cut something loose can be difficult. What happens if it rallies and you miss out on some gains? Maybe you have an emotional attachment to one of your investments.
When making this decision, it’s important to put emotion away as much as possible and adhere to sound investing principles. Instead, look at the following five times to sell an investment:
1. You Need to Rebalance Your Portfolio
For the most part, this circumstance applies when you are looking at your long-term investment portfolio. It’s a good idea for retirement. Take a look at your plan. What is your ideal asset allocation based on your age and your target date?
If your asset allocation is out of whack, you should sell some of your better-performing investments so you can rebalance. Use the proceeds to buy assets with a lower price. For example, when stocks are doing well and your asset allocation has got to the point where it’s too heavy on stocks, take those profits and use them to buy bonds, which might be priced lower. This strategy often works well if you are indexing.
You bring your asset allocation back in line, and you set up for the future.
2. Something Has Changed Fundamentally
It’s rarely a good idea to sell an investment just because it has dropped in price. There are plenty of times when market and economic conditions result in a temporary drop. Instead, look at the fundamentals of the investment. Has something about the fundamentals changed? If a company has new management that you are worried about, or if something is going wrong with the balance sheet, that’s a red flag.
If the fundamentals have changed for the worse, and you don’t think an investment can recover from a market event, it might be time to sell.
3. Your Life Situation Has Changed
Sometimes, emergency strikes and you need the liquidity. Maybe you would rather not sell an investment, but things are such that you need the money. Selling might make sense, depending on other aspects of your finances. Maybe you are approaching retirement, and so it’s time for you to change the risk profile of your portfolio. Perhaps you aren’t ready to sell, but you need to scale back how much you invest due to a job loss. Look at your situation and see if it makes sense to sell.
4. A Target Has Been Reached
Did you buy an investment with a target in mind? Maybe it was a certain property valuation. Perhaps it was a share price. Pay attention to these targets as you move forward. It’s especially important if you are involved in short-term trading (day trading) or if you are involved in forex trading or options. Understanding your targets can help you decide to sell without worrying about overplaying your hand.
When you reach a pre-set investment target, follow your original plan and sell. This is especially true if your target results in a profit. Taking your profit and going home is a good plan. You don’t want to try to run your profits, only to have an unexpected event result in a loss.
Likewise, you might have a stop loss target. If an investment reaches your loss target, sell, limit your losses, and look for an investment with a better opportunity.
5. Your Rules for Selling are Met
One of the best ways to keep emotion out of investing is to set rules for yourself. Figure out your investing rules and then stick to them. I have different rules for different investing goals.
First of all, my rule for retirement investing is to just keep dollar-cost averaging and avoid pulling money out of my retirement account. This keeps me from selling in a panic.
However, I have different rules for my travel fund and my emergency account. Instead, I sell when I am ready to use the capital. It doesn’t matter what else is happening.
You might have your own rules about when to buy and sell, and how long you will hold an investment. Create a strategy that works for you, and then stick to it. Only sell an investment when your rules are met.
While it’s not full-proof, it can help you get in a mindset where you leave emotion behind and focus on more rational reasons for selling.