By: Wendy Myers
WARREN Buffet’s favourite holding period for a stock is “forever”, but even he acknowledges there are valid reasons for selling a stock. Deciding when to sell a stock is something both professional and retail investors grapple with. In fact, it’s accepted wisdom that it is psychologically easier to buy a stock than to sell one.
Fundamentally the two human emotions that influence investors when they are considering selling a stock are greed and fear. However, selling stocks is a necessary part of your investment journey and there are right and wrong reasons for doing so.
To steer investors toward a more rational approach to selling stocks, there are several guidelines to consider:
1: An investment outlook or strategy has changed
Consider as an example a scenario in which you have bought into a retail company, but where the economic environment has changed so that inflation is increasing. In this case, you may decide to limit your exposure to retail shares as a result.
2: A decrease in company growth sales
If a company’s sales growth has notably slowed or its strategic direction, management or dividend policy has changed, this indicates a key sell signal for many investors.
3: Company acquisition
When news of a company acquisition breaks, the share price of the company being acquired usually surges close to the agreed purchase price. With limited room for further gains, investors might prefer to secure their profits soon after the acquisition announcement, especially if they anticipate potential impacts on the investment's future appeal or strategic direction.
4: Rebalancing your portfolio
The need for investors to rebalance their portfolio ensures exposure across sectors and asset classes is maintained by your investment strategy. For example, selling a stock if you want to increase your exposure to ETFs or fixed income.
Another example of rebalancing is where a single holding becomes too big when considering your overall portfolio. This could be due to the value of the share increasing materially over time, resulting in concentration risk, which could in turn justify taking profits.
Despite these guidelines, the reality is that choosing the opportune time to sell is never easy. When selling a stock, you are effectively giving up further equity upside, so ensure that you are comfortable living with share price moves after you have sold. Also, ensure you are selling the stock in the context of your financial plan that outlines your investment and financial goals for the short and long term.
Just as there are guidelines on when to sell a stock, there are also guidelines on when not to sell.
1: Don’t sell a stock just because its price increased
Winning stocks increase in price for a reason, and they also tend to keep winning.
2: Don’t rush to sell a stock solely because its price has dropped.
First, assess if the broader market is experiencing similar movements or if there's specific news affecting the company, potentially causing the dip. It could be a one-time event.
3: Review the company’s track record.
Make sure to check if the company has faced similar situations in the past and bounced back or not. Evaluate the competitive landscape as well. If competitors haven't experienced a dip, investigate the reasons behind this and assess whether you still have confidence in the company's strategy.
Once you have decided to sell a stock, there are further considerations to bear in mind.
How you plan to reinvest the proceeds from the sale
Your decision should be guided by why you're selling in the first place. Is it due to specific stock reasons, or are you temporarily stepping back from the market until your predetermined entry levels are reached for re-entry? If it's the former, you'll need to explore alternative investment options since keeping cash may not yield returns that outpace inflation in the long run.
Also, keep in mind the challenge of timing your re-entry into the market. The recommended approach is to avoid trying to “time the market” and instead execute your buy order when the appropriate time arrives.
Considering taxation
Selling a stock triggers a Capital Gains Tax (CGT) event. Additionally, investors will face taxes on interest income at their marginal rates if they invest the sale proceeds in a cash solution. Marginal tax rates are typically higher than CGT rates, so it’s crucial to keep this in mind. Furthermore, remember that you’ll need cash to settle the CGT liability with Sars, so factor this into your cash deployment strategy after selling a stock.
It is also important to remember that your financial adviser can play a crucial role in this process, particularly given that they look at your long-term financial goals holistically.
They will ensure you approach the transaction objectively and that you do not resort to panic selling. They will also assist in deciding whether to sell the full holding or a portion of your existing holding.
Speaking to an adviser
Finally, your adviser can clarify the repercussions of the sale, particularly regarding tax implications, and help determine your next investment based on your predefined investment goals and risk profile, ensuring that your overall portfolio remains balanced and aligned with your goals.
* Myers is the head of securities at PSG Wealth
PERSONAL FINANCE