Ideally, as an investor, I prefer to own shares of my stocks for eternity.
This is because my aim is to generate recurring and rising dividend income from my stocks. Why would I sell my golden geese if they could lay golden eggs every single day for a very long period of time?
As such, I tend to keep whatever I had bought and don’t sell shares very often.
But, with that being said, I did sell off some of my positions in the past for a few reasons. I sold some for capital gains and I did sell some to cut my losses. In this article, I’ll share 4 quick reasons for selling shares in the stock market and these reasons include:
1. Investment Mistakes
For a start, mistakes in the stock market can be summed up in 2 categories.
First, it is due to greed, a desire to earn fast money in betting stocks. Perhaps, it is a loss incurred from speculating stocks, betting that their stock prices will rise higher and faster in the near future (which fail to materialise). This often occurs to stock rookies who fall in the snare of the Greater’s Fool Theory.
Second, it could be due to a value trap, a common mistake made by investors in search of ‘value’ such as low P/E Ratio and P/B Ratio and high dividend yields. It often happens to budding value investors who understand the logic of investing in stocks which are guided by valuation ratios, but lack the experiences needed to avoid this trap. For me, I used to be in this category and thus, am writing this from experience.
But, in any of the two cases, you will experience a significant drop in stock price like more than 15% from your purchase prices (the exception is for 2020 due to the COVID-19 pandemic).
So, what can we do about it?
Do we sell off our stocks and just walk away from them?
Nope. Instead, we need to assess the objective of why we purchased the stocks in the first place and to assess why the stock prices have fallen, before deciding on our next course of action. So, if let’s say, after some soul searching, you have realised that you had bought the stocks because:
a. You were caught in a frenzy.
b. You bought it without any research as it is based on recommendations.
c. You fell into a value trap.
Then, you may ask yourself, ‘Will you buy back the same stocks you’d bought at current prices today?’ This means, if you have bought a stock at $10.00 a share, the question is this, ‘Will you buy the same stock if its price is $8.00 a share and why?’ This talks about whether or not you will keep the stocks that you bought for eternity. If you are not willing, then, you can choose to sell off your stocks at prices that you are willing to accept.
2. A Change in Fundamentals
Personally, I place high emphasis on a stock’s track record of delivering earnings that are consistently growing. This is because my aim is to earn rising dividends.
With that being said, there are times where I had picked a stock that did well in the past but after investing into it, the stock failed to keep up with its past glory and paid continuous decline in dividends, even when times are good. If you had encountered this, you may reassess the future prospects of the stock and if you find that it is worth keeping for the long run, you can choose to sell it off.
3. Swap for Better Investments
Alternatively, you could swap the stocks with deteriorating fundamentals with a list of stocks that have improving fundamentals.
But here, you may ask, ‘Is it possible for the stock that I intend to swap with will experience a deterioration in its fundamentals, after swapping?’
My reply is this, ‘To you, what is a stock that has solid fundamentals? Could you list down its criterias? What does it look like?’
Why? This is because there are people who bought lousy stocks, believing them to be ‘fundamentally solid’. Different investors have different opinions on how a fundamentally solid stock should look like. But here, I can share my own take of what a fundamentally solid stock is, which is one that fulfills the following:
a. It delivered consistent growth in profits and dividends for the last 10 years.
b. Cash flows from operations are always positive and better still, on the rise.
c. Low debt or high ability to service their current debt.
d. Have ample of cash to invest for future growth.
e. The management has a game plan to grow its businesses in the future.
To me, this is likened to identifying ‘straight As’ students. Here is a key question to you. Supposedly, you have a list of 200 students. 100 of them are ‘Straight A’ students who are consistent performers. The other 100 are average where they predominantly achieve ‘Cs’, ‘Ds’ in their past exams.
Which group of students are likely to produce Straight As in their next exams?
Would it be the 100 Straight A students or the 100 average students?
So, if you say, past results don’t guarantee future results, yea, in some ways it is true. But, I believe successful corporations which had a track record of financial prudence are more likely to replicate their financial success as they continue to adopt the right visions and strategies in managing their businesses.
Of course, you can always bet on the 100 average students and believe that this group of students could do better than the 100 Straight A students in their next exams. Nothing wrong with that as the choice is personal. I’ll leave you to make a wise decision on it.
4. Your Stock Becomes Overvalued.
This is sweet for value investors.
Your golden goose becomes a delicious Beijing Roast Duck Meal in a restaurant.
I have a handful of stocks that achieved capital appreciation, but normally, I opt to keep them in my portfolio as I continue to receive incremental golden eggs.
The exception is this – The market is ‘frying’ my stock that I had bought at a dirt cheap price with the intention of enjoying stable dividend yields. So, why is this an exception from the rest? Let me explain:
Let’s say, we have two stocks, A Ltd and B Ltd. Both are fundamentally solid and they had attained a consistent 10% growth in earnings. The stock price for A Ltd had risen at around 10%, reflecting its earnings growth. Meanwhile, for B Ltd, it has risen by 100% and the rise is due to hypes and excitement in the market. As such, which of the two would you sell off?
Is it A Ltd or is it B Ltd?
For me, I would be more inclined to sell off B Ltd.
It is like someone is willing to offer me RM 1 million for an apartment that pays me RM 1,000 a month in rental income. If you are the buyer, I’ll be delighted to sell my apartment to you.
The above analogy (using properties) seems to be absurd and atrocious but it is quite common in the stock market. This is because common sense and logic are not that common in the stock market.
There you have it, 4 quick reasons to consider a sell in stocks.
Of course, the above is written in the context of a dividend investor and thus, it is best practised for stock investors, not traders, gamblers or speculators. This is because investors aim to build their wealth from golden eggs and not on profits that are short-term orientated.
Thus, if you wish to find out how I build a stock portfolio that lays golden eggs, I would recommend the comprehensive training video below: