Learn When To Sell Your Stock Picks:
When do you sell your stocks? This is probably the question I get asked the most from readers and traders.
And to be honest…
Deciding when to sell is one of the hardest concepts to come to terms with as a trader. And for the sake of full disclosure, I must tell you that what works for me might not work for you.
Seriously. I’m happy to share my thoughts and strategies for how I know when to sell stocks. But it might take some experimentation for you to get comfortable with these tactics. With that in mind, let’s dive in.
The link above will take you to an updated PDF version of this article for convenient offline reading!
How to Think About Selling Stocks:
When you think about it, there are only a few outcomes for any given stock trade, right? Once you buy a stock it can go in your direction, move against you, or go sideways. Simple.
I would recommend all traders make a plan for each of these scenarios. Even if you’re not a trend follower, you should make preparations for any of these contingencies before you enter the trade. It’s just common sense.
The reason is, if you leave it until after you enter your trade to make your plan, then you are much less likely to be objective. You’ll be caught up in the heat of the moment and it may be hard to think clearly. Instead, you must come up with a plan before you buy (or short) your stock.
So what does that look like in practice?
Well, let’s start with the worst case scenario first. What happens when your stock goes against you?
How Do You Know When to Sell a Losing Stock Pick?
The good news is, in my opinion, this is the easiest scenario to manage. Simply set your stop-loss before you enter the trade. And then stick to it when your trade goes against you!
If you don’t know how to set your stop-loss, you may want to check out my free position sizing worksheet. It will help you determine where to place your stop based on a stocks average true range and the amount of risk you want to take. With that in mind, you can set a smarter stop loss.
I know some traders don’t like hard stop losses. But if you’re just starting out I highly recommend this approach. That’s because it will help you build trust in yourself as a trader. It will improve your consistency. And when you eventually increase your trading size this self-discipline will make it much easier to take on the big profits.
And just to be clear: I’m not the only trader who thinks this is true. One of my favourite trend following traders to learn from is Rayner Teo. So I was excited to see him echo this sentiment in his PDF, Top 100 Trading Rules. Specifically, it says: When you make a trade, “you should have a clear target where to sell if the market moves against you. And you must obey your rules!… Losses are twice as expensive to make up. I always established a stop before making a trade.
Seriously, by religiously sticking to your trading plan and by always stopping out of losing trades you will preserve your mental capital and protect your pile of chips for future bets. It’s truly a win-win.
On the other hand…
If you find yourself struggling to take your stop-loss order, you should trade smaller size. Even if it’s only 5 or 10 shares, you need to learn how to lose before you can win consistently. I know that sounds a little backwards, but it’s true.
And keep in mind: you can be wrong over 50% of the time and still make money! But it only takes a couple of big losing trades to wipe out your capital. So please, stick to your stop losses when a stock, futures or currency trade goes against you.
Plus, you WILL have losing streaks. It’s inevitable. So you need to get used to quickly cutting losses and moving on. There are thousands of stocks out there. Don’t fall in love with one.
And if you’re still have trouble taking losses… well…
Here’s a Trick To Help You Execute Stop Losses According to Plan:
Another little trick you can use is to look at charts after you take your stop loss. Check back in a few weeks or months. You’ll often see the stock you sold is lower than where you sold it. This can really help you learn to trust your trading system and your stop loss signals.
I even wrote a stop loss case study you can look at for an example. Here’s the key part:
I remember being annoyed that I was stopped out at $44 only to see the stock retrace to $45.75 without me. But man, did I feel blessed when I avoided the gap down to $38. Stop losses really can keep you out of trouble.
And never forget: Taking quick losses let’s you free up capital to focus on bigger winners and more profitable opportunities. That’s what trading is all about!
If you don’t believe me, you might enjoy this post from TheTrendFollower.com on the importance of playing good defence. He also reiterates that cutting losses quickly is the key to long-term success.
Now that we’ve covered when to sell losing trades, let’s talk about how you manage winning stock picks. This is probably THE most challenging concepts facing swing traders, position traders and even active investors.
Why is Selling Winning Stock Picks so Hard?
This is probably one of the hardest parts of trading. And before we get into the details, I’m going to be up front with you.
The truth is:
You need to learn to manage your expectations. Deciding when to sell a stock is so tough because there is a lot of opportunity for us to be tough on ourselves! You will never get it right 100% of the time. NEVER.
So make me a promise…
Promise that you won’t obsess over the perfect exit. Because you won’t get it. We can do our best to create rules and systems that maximize our chances of success. But even the best crafted trading strategy won’t work every time. Markets are simply too random. They can’t be predicted. And you never know what will happen tomorrow.
Plus, when you have a winning stock your ego will feel excited. It will encourage you to lock in a profit so you can be “right.” Instead though, you need to trust in your trading system and give your winning stock picks some room to breathe.
In fact, larger drawdowns can even be correlated to bigger returns. Peter Brandt has a great article on trading through drawdowns. So just be aware that drawdowns and losses are a normal part of trading. Don’t let your ego take control when you have a winner.
With that in mind, let’s get into the specifics for how to manage a winning stock trade.
Why a Trailing Stop Loss is the Best Way to Sell a Winning Stock Pick:
In my opinion, the best way to manage winning stock picks is (1) set a stop loss order when you buy the stock, and (2) raise the stop loss as the stock goes up with a trailing stop loss.
This way, you know your maximum loss when you enter the trade. And you don’t have to worry about deciding when to sell: just let the market tell you!
Now, there are lots of different ways to use a trailing stop loss. You could raise it based on a multiple of average true range, a set percent below the stock price, or a dollar amount.
You can do it manually, or your stock broker might provide an automatic trailing stop order type.
In any case, set your initial stop loss as if the trade were going to be a loser. Then, consistently ratchet it up as the market moves in your favour. After the market closes, adjust your stop so it stays a certain dollar amount or % below the highs.
And hey, if you’ve been following along, you’ll notice I do this all the time in my weekly stock pick blog posts. Here are a few recent examples from my weekly trend following stock trade ideas…
This first pick is from the first week of October, 2016. Take a look at the chart of AOS below below. And then I’ll break it down for you. By the way, I also wrote an in-depth analysis of AOS on SeekingAlpha, which you can read free.
Okay, check out the top pane where the ATR is. That’s how I place my stops. Usually I like to use two times ATR. So with an entry at $83 and an ATR of 3.50 when I bought, my initial stop was around $76.50. Then, since this is a weekly chart, at the end of each week I would look at the price. If the price went up or the ATR changed, I adjusted my stop higher.
In case that’s not clear, I also made this short video about how to calculate your ATR-based stop loss. Check it out for a more detailed overview of this excellent exit strategy:
The key thing is that you never lower your stop-loss. It only goes up. You just ratchet it higher as the stock goes up, locking in profits along the way (or at least reducing your initial loss).
All of this works to improve your bottom-line.
Let me show you another example. This one is from the 2nd week of October 2016.
So once again, you can see I bought the stock as it was breaking out. Since I entered around $31, and 2 times the ATR is $3, I put my initial stop at $28. Then as MED moved higher, so did my stop loss order. Are you starting to see how this works?
Good. And in case you don’t know yet:
The great thing about ATR is that it’s based on the volatility of the stock. So it’s a little bit more dynamic than a set % or dollar amount. You can also combine it with support and resistance levels to try and further tip the odds in your favour.
If you’re still unsure about this point, there’s a valuable resource that expands on this important topic: The Logical Trader’s Guide to Setting Stop Losses
While getting this right is likely going to take some time and experimentation, at least you now have a winning framework using trailing stop-losses. Managing winning stock trades is tough work, but you can do it!
Now… I know that was a lot of text. So to help you digest this important information on when to sell stocks, I also created a free video you can watch, if that’s your preferred mode of learning:
Free Video: How to Decide When to Sell Your Stock Picks
I hope you find this video helpful. If you hvae any questions about the content above, this could be an easy way to help reinforce it. Take a look for yourself:
So really, there’s just one thing left to cover…
When Do You Sell Stocks That Aren’t Going Up or Down?
Sometimes, even the best trade ideas don’t go anywhere. Luckily, with stocks that go sideways, there are a couple of things you can do.
First, you can take a wait and see approach. Eventually, the stock will start going up, or reverse lower and hit your stop loss. And in the meantime you might even get some dividends. If you’re comfortable waiting for one of those two outcomes then feel free to try it. But sometimes you don’t want to tie up your money for so long, especially if you have a wide stop.
So another idea, which can help you free up that cash, is to use a time-stop. This is essentially a count-down timer that starts ticking as soon as you enter your trade. For example, maybe you create a rule that says you sell all stocks after 2 weeks if they haven’t gone up 4%.
That’s just an arbitrary example. But you get the point, right?
This kind of time-based stop loss strategy helps you keep your trading capital focused on the best stock market opportunities right now. I encourage you to think about integrating it into your own trading based on your preferred investment time-horizon. Make sense?
Alright. So those are good ways to think about selling winning, losing and neutral stock picks. But what can you do about those losing trade ideas that you bought weeks, months or years ago that are stinking up your portfolio?
Well, here’s a concept to keep in mind…
Why Did You Buy The Stock in The First Place?
I know how it goes: you’ve been managing your own investment or trading account for a few months, quarters or even years. But you aren’t too happy with your portfolio performance.
You’ve probably had a couple nice winners, but you also have a few dogs that are down double-digit percentages and you don’t know what to do about it. You might even avoid opening your brokerage account or trading platform to avoid looking at these losses!
Unfortunately, the problem won’t go away by ignoring it. So you must ask yourself, why did you buy that stock in the first place?
(1) If it’s a fundamental investment, double check your thesis and confirm if anything has changed. Did you make a mistake in your initial analysis? If so, take the loss and move on.
(2) What if it’s a trade that went against you and you failed to take a stop loss like originally planned? Well, in that case you need to take a hard look at yourself in the mirror. Because…
If you can’t trust yourself to stick to your plan, no trading strategy can save you. Instead, you might want to try trading a smaller number of shares to build your discipline and self-trust. I’d also recommend you check out Trading in the Zone.
(3) If your losing stock is a hot pick you got from somebody else that didn’t work out, well, you should probably take the loss and move on. And avoid all tips in the future. If you don’t know why you own the stock, sell it and move on. If you are hesitating and second guessing yourself, you probably need to sell it and moving on.
The point is: Once you get clear on why you bought the losing pick, you can make a plan to deal with the stock.
And a clean portfolio is like a tidy house. You’ll feel better for it and you’ll be more focused on managing the winning stock picks that matter. But if you still aren’t convinced, there’s one more thing you can try…
Remember when we talked about ego? Well, ego makes it hard to take losses. So one trick you can use is to slowly sell losing positions over time (assuming your commissions aren’t too high).
If you sell a third of your losing stocks each month, this can make it easier on your ego. That’s because it’s less likely you’ll sell at the exact bottom (everyone’s greatest fear), which can cushion the blow on your fragile ego and it’s desire to avoid admitting fault.
Sometimes it’s easier to peel the bandaid off slowly, I get it.
Just remember, losing stock picks tie up your capital and keep you from acting on high probability opportunities. You work hard for your money. So you should insist it ALWAYS works hard for you too.
Finally, there’s one more point about selling stocks that I want to share with you before wrapping this up…
Why Do Trend Followers Never Predict When To Sell?
This is true of all trading, but trend following in particular. Thats because the truth is, nobody knows what will happen next. So…
When you see chartists and technical analysts predicting price targets based on “measured moves” or “pattern pressure”, well, take it with a grain of salt. While these guesses (and that’s all they are) might have some probability on their side, it’s still a dangerous game you want to think twice before playing. Why?
Because selling winning stocks is hard enough. And if you try and wait for a profit target you just leave a ton of room to beat yourself up. What if the stock hits the profit target? Will you sell? Or will you get greedy thinking it could go a little further? What if the stock hits the profit target and retraces before you can sell? Then what do you do? And what about if a stock hits your target and you sell, only to watch the stock go higher?
The point is: anything can and will happen. One of my favourite traders, trend follower Nick Radge, says that if you trade long enough you’ll see it all. And he’s right, it’s just a matter of time.
So for me, rather than drive myself crazy with price targets I do what all good trend followers do. I put in a stop, trail it along as my investment rises, and eventually, I get stopped out.
Additionally, this ideas was corroborated for me after reading Michael Covel’s Trend Following and The Complete TurtleTrader books. If you want more information I highly recommend giving him a follow and purchasing his books. He reinforces with hard data why trend followers don’t predict when to sell.
For me, this has been the perfect approach to the question “when do you sell a stock?” It works well most of the time and it’s an easy to implement plan that keeps me from second guessing myself. There are no silver bullets in trading, so what more could you really ask for?
Now, if you want to see these ideas in action I encourage you to sign up for my free weekly trend following stock picks. Each weekend you’ll get 3-4 of my favourite trade ideas with specific entry and stop loss levels based on the principles above. You’ll never worry again about whether or not you should sell a stock! Sign up here for free.