In stock trading, knowing when to sell is as important as knowing which stocks to buy and when, but while there is a lot of good information on buying, there is surprisingly little information on selling. The three main reasons to sell are to minimize losses, free up capital and take profits.
The first priority of trading is capital protection: if a trader loses his capital, no stock trading strategy will be of any use because he won’t be able to implement it. A trader must guard against devastating losses by cutting them while they are small. The best way to minimize selling losses is to buy right, when the odds of making money are highest and the possibility of a loss is lowest. But even the best buys can move against the trader. Some traders never risk more than 2 percent of their capital in a trade; others cut their losses at 5 or 10 percent if a stock moves against them.
Freeing Up Capital
To maximize profits, traders must allocate their capital to the most promising situations. If a trader buys a stock expecting it to do X and the stock fails to act, it should be sold even if the stock is not showing a loss, simply because the stock is tying up capital that could be deployed more profitably elsewhere.
Setting Price Targets
Value investors select stocks that they believe are undervalued relative to their underlying business prospects or assets. To determine if a stock is sufficiently undervalued, a value investor must first calculate its reasonable value. He may then use that value as a price target for when to sell. Some traders simply set profit targets and sell stocks automatically once they reach those targets -- for example 5, 10 or 20 percent above the purchase price.
Using Stop Sell Orders
Some traders use stop sell orders to protect profits. A stop sell order is placed below the current market price and is only triggered if the stock declines to the stop sell price, where the stop will become a market order and is executed at the next available price. As long as a stock continues to advance without touching the stop, the trader’s profits will continue to grow, while being protected. Some traders use trailing stops that automatically adjust upwards as a stock price advances.
Using Technical Analysis
Many traders use technical analysis (daily and even intraday charts) to pinpoint exit points. The sells depend on the trading system used. For example, a trader trading a stock in a trading range would sell as soon as the stock approaches the resistance level; a momentum trader would sell as soon as a stock signals a possible change of direction. Traders may trade trends of varying duration, each with different sell signals.
- “When to Sell: Inside Strategies for Stock Market Profits”; Justin Mamis and Robert Mamis; 1977
- “Stan Weinstein’s Secrets From Profiting in Bull and Bear Markets”; Stan Weinstein; 1988
- “Trading for a Living”; Dr. Alexander Elder; 1993