when to sell a stock investment

When to Sell Stocks [5 Pro Reasons to Dump a Stock]

Note: Post may contain affiliate links.

Learn when to sell stocks to protect your money and returns

Even long-term investors need to know when to sell a stock, when is something just a quick blip in an otherwise good investment and when is it a warning for bigger losses?

In this video, I’m revealing the top five reasons to sell stocks used by professional fund managers. You’ll not only learn how to protect your portfolio but when to make that decision.

We’re building a huge community of people ready to beat debt, make more money and make their money work for them. Subscribe and join the community to create the financial future you deserve. It’s free and you’ll never miss a video.

Join the Let’s Talk Money community on YouTube!

Should Long-Term Investors Sell Stocks?

So we talk a lot about how to analyze stocks and when to buy on the channel but we haven’t looked at the other side yet. How to know when to sell a stock.

I’m a long-term investor and a lot of my stocks are buy-and-hold for decades but that doesn’t mean I can just ignore what’s happening in a stock I own. There are reasons to sell a stock even if it’s something you planned on holding for the long haul.

Not only will knowing when to sell a stock protect you from big losses but it’s going to help keep your portfolio zero-ed in on your goals.

Let’s look at five reasons professional fund managers look to when they sell stocks and I guarantee you that one reason you might be thinking of won’t be on the list.

when to sell a stock investment

When to Sell a Stock after a Scandal

Our first reason to sell is when there’s been a major scandal or lawsuit against the company, but that’s not enough by itself. The bigger issue is when there’s no change of leadership and no accountability.

Companies make mistakes just like people. Management is under huge pressure to meet profit estimates and sometimes they go too far. We can accept that as investors. What we can’t accept is when there’s no accountability or when a major scandal results in just a slap on the wrist for management.

Probably the best example of this was the Wells Fargo scandal around cross-selling and customer service ordering credit cards for customers without ever having signed up. The fraud wasn’t found until 2016 but the practice leading up to it was actually reported way back in 2011 and 2013 by the Wall Street Journal and the LA Times.

So the bank knew for years that employees were being encouraged to open fake checking and savings accounts. In fact, Wells fired over 5,000 employees from 2011 to 2016 because of the practice but all this time, no senior management was held accountable.

Even after a $185 million fine in September 2016 and testifying before Congress, it wasn’t clear that CEO Stumpf would be held accountable. It was only after huge public pressure that the board of directors eventually fired him.

So we’re not talking about selling immediately when bad news hits but waiting a couple of weeks to see management’s response. The board of directors and management need to take action to restore investor confidence and that means holding accountable the people that knew or should have known.

If that doesn’t happen the poor investor sentiment will overhang the stock for years and the corporate culture is just going to rot.

when to sell stocks because of scandal

When to Sell a Stock because of Debt

Another reason to sell a stock is when the company has gone on a major debt-fueled acquisition binge.

This has been the number one destroyer of stocks over the past decade.

Since the 2008 crash, revenue growth has been about as slow as it’s ever been. Profits have grown but only because companies have cut costs and spent trillions in share buybacks. The top-line growth just hasn’t been there.

Combine this slow sales growth with historically low interest rates and the primary strategy for a lot of companies has been to use debt to buy other companies. They’re basically saying, they can’t grow otherwise so they’ll buy it and hope the profits cover debt payments.

The problem is that these huge acquisitions make it easy to cover up poor management and the massive debt gets out of control very fast.

This is actually one of the biggest warning signs for a dividend cut as well and part of a video we did a few months back. I revealed the three threats to a company’s dividend and how to get out before a cut.

For example, Teva fueled itself on acquiring other drug-makers for years. It neglected its own drug development and because rates were at historic lows just refilled the pipeline buying other companies. In 2016 it funded it’s $40 billion acquisition of Actavis with $25 billion in debt, just ballooning the amount it owed. Interest expense it owed each year tripled from $270 million to $875 million within a year.

When generic drugmakers found they couldn’t keep up the pace of price increases and competition started eroding sales…Teva was in trouble. Net income plunged to negative $16 billion in 2017 and there was no way out but to conserve cash by slicing the dividend.

Checking the debt load on your stocks isn’t difficult. First you want to check out the statement of cash flows under cash flows from financing. This will show you if the company has been repaying debt or has added a bunch lately. Of course, if they’ve made big headline acquisitions then you can bet it was paid for with debt.

Again, a lot of companies will think making a big acquisition is going to fix their sales problem. They might even be losing sales but they think that tying another boat on to their sinking ship, that’s suddenly going to get them both to float.

Teva had seen sales flat for two years and even fell by $620 million in 2015. That $40 billion acquisition helped them make another $2 billion in 2016…but at a huge cost in extra expenses and interest payments.

It doesn’t take a financial nerd like myself to understand that buying another company isn’t going to fix your broken one. If you own shares in a company that is losing sales and management can’t do anything about it, the last thing you want them to do is try covering it up by acquiring other companies.

The easiest way to find this is just to follow the sales growth of the stocks in your portfolio and watch for big headline acquisitions. If a company is struggling to grow sales at a rate investors expect and it’s putting on a lot of debt to buy other companies, that’s a big warning sign to sell.

when to sell stocks because of debt

When to Sell a Stock because of Management

The third reason when you should consider selling a stock is when investors lose all faith in management.

As a venture capital analyst in startup investments, probably the biggest thing I watched for was management. It wasn’t the product, it wasn’t the market, it was whether management could make the hard decisions to grow the company.

It doesn’t matter if you’re investing in a $25 million startup or a $25 billion large cap company, it all comes down to management. Management not only needs to effectively guide the company but it also needs to effectively manage investor expectations.

That’s an important point that most investors don’t understand. It’s why you can get companies that are growing by double-digit earnings but still see their stock price plunge on earnings day.

You see, the stock market is forward looking. Everyone knows what’s happened in the past. Investors know where earnings have been, that’s no surprise. So the market builds expectations for what a company’s earnings will be over the next year or more, that also goes into stock prices.

Management’s job is to not only grow earnings but also influence those expectations so there’s not a huge letdown when profits come in weak. So your third reason to sell here is actually a couple of different signals.

First is when management continuously misses earnings or sales expectations. When 80% of companies beat earnings estimates every quarter, missing on a regular basis is just unforgivable. Investors are never going to know what to expect, the shares will always be volatile and there will be no confidence in management.

The second signal here is that the company constantly underperforms its competitors on the operating margin and other financials. Now there might be reasons a company underperforms in one or two quarters but management needs to be putting together a turnaround plan. Nobody wants to invest in management that’s satisfied being second-best.

We saw this in General Electric, one of the icons of American business, and it’s disastrous stock plunge over the last couple of years. The company was managing to beat earnings expectations but by smaller amounts and only by managing estimates lower continuously. We see here that the operating margin, that core measure of profitability, just got destroyed from 20% in 2010 to less than 5% in 2017.

This happened as sales growth was all over the place, mostly negative and always under 5%. All while this was happening, CEO Immelt neglected any kind of a turnaround strategy or facing the hard facts. Even after Immelt stepped down in October 2017, his successors have had a tough time righting the ship.

when to sell stocks because of management

When to Sell a Stock for Portfolio Adjustments

One reason to sell that has less to do with the company is when shares meet your price target or you just need to reallocate to other investments.

Any time you invest in a stock, you need to set a price target, what you think a fair value is for the company. It’s not enough to just invest in good companies because you have to know that the stock price leaves room for upside returns as it builds to that fair value.

Like we said, the market is forward-looking so the future earnings expectations are already built into stocks. That means a stock already trading at fair value isn’t worth much because the only way shares will move higher are for earnings way in the future to justify it.

Now I’m not saying you should trade in and out of stocks each time the price goes up. If you’re going to be investing in individual stocks, you need to follow the price and update your fair value estimate every year or two. If the fair value keeps rising on good fundamentals then that’s great but if there’s just not much value left in the stock, there’s no reason to let it be a drag on your portfolio.

Another reason here related to this is that you might need to sell a stock to avoid overexposure to a specific company or sector. For example, if shares jump then that company’s stock could be more than 5% of your portfolio. That’s kind of the cutoff I use for when a stock is too much of my wealth and I want to limit my exposure just in case it comes back down.

One of the biggest problems with selling stocks is that it doubles your investing costs. You pay a commission to buy and then another fee to sell.

That’s why I’ve started using M1 Finance for my portfolio. It’s a no-fee investing site and automated investing tool that I’m using in our 2019 stock market challenge on YouTube. Just set up your portfolio of stocks and M1 will automatically invest any cash including reinvested dividends into your portfolio.

Stop losing money to fees. Get started on no-cost M1 Finance to invest with no fees.

when to sell stocks on value

When to Sell a Stock on Fundamentals

Our fifth reason to consider selling shares is when the fundamentals of the company have changed from your initial outlook.

This one takes more analysis than the others and maybe isn’t a singular defined signal but it’s no less important. The idea is that you have two primary reasons for buying a stock. First, you might buy it on the price, maybe there’s a lot of upside return to that fair value so you invest until the shares rebound like we saw in the last signal.

The other reason is that the fundamentals make the company a best of breed in its space. So you’ve got things like profitability or other metrics are higher than peers. Maybe a new project the company is launching could be a game-changer. Whatever it is, something sets this company apart that makes it fundamentally better than its competitors.

Well, that’s not always something that lasts forever. If those metrics start to drop or come in line with peers or maybe competitors start their own projects and management has no second-act, then you have to ask yourself if that changes the best-of-breed status for the company.

when to sell long term stocks

Notice that nowhere in this list of five reasons to sell a stock was anything about a falling stock price. That’s something that trips up a lot of investors and just guarantees losses.

You see, just because a stock price has decreased, doesn’t make it a bad investment. There are all kinds of short-term reasons for price weakness that might not change your long-term investment reasoning. Now if the reason the shares have fallen falls somewhere in the five reasons we talked about, then you’d have to revisit whether you want to hold the investment.

On the other hand, if you look at the fundamentals and they still point to a solid outlook then this might actually be a time to buy more of the shares at the lower price.

Sharing is caring!

One Comment

  • To determine how the market operates you will have to know about the supply and demand concept. Once the demand goes up the supply goes up and vice versa. When it comes to stocks; when the demand of the stock is high the value will go up and when the demand goes down the value depreciates. So it is advisable for you to observe the stocks and buy or sell at the appropriate times.

    Reply

Leave a Reply

Your email address will not be published.

Scroll to Top