My previous post dealt with one of the most vexing questions that the stock investor has to deal with, namely the right time to buy a stock. Now I’ll tackle the other question by listing some ideas about when to sell a stock. Even though I’ll be exploring this in the context of a stock that’s doubled in price, a lot of what I discuss can be applied no matter what the stock’s current price is.
I can remember in early 2007 during the uranium bull market when I experienced the most exciting thing that a young investor can experience: one of my stocks doubled, a 100% return! Fortunately, I had read a tip in a Robert Kiyosaki book (not a source of investing advice for me these days, by the way!) that gave me some guidance about what I might do in such a situation. He suggested selling half of the shares to get your original amount invested ‘off the table’. That way, even if the remaining amount crashes and burns, you still have your original amount to use somewhere else.
Thinking the bull market could get me another double (a common misconception when caught up in the frenzy of a hot, short-term bull market), I invested what I had gained into another risky uranium small-cap stock and both it and the original stock fizzled into practically nothing about a year later.
There’s a saying that goes something like, ‘It doesn’t matter what happens to you, it’s how you react to what happens.’ Most people might have given up on investing altogether, but something within me felt I could learn from this and handle things better the next time around.
There are a lot of lessons I learned from this experience, including a new strategy I thought of that I first put into practice when another one of my stocks doubled back in January.
First, let me list four ideas about what you could do if you have a stock that doubles. The first two are what most people do, the third offers more details about the idea of selling half of your shares, and the last one is the new strategy mentioned above:
1. Sell the stock
Most people are elated with a 100% return, and by selling all their shares in that stock they’ve totally eliminated any risk of the price dropping. However, they might miss out on possible huge future returns unless they can buy back in at a lower price.
2. Keep the stock
This is classic buy-and-hold philosophy at work here, and very few investors have the guts to do it. However, the statistics I’ve come across prove it to be the most successful of all investing strategies if done over the long term and with quality companies. Hold through thick-and-thin if you have a very long time frame, and a quality company can become a “multi-bagger” (i.e. one that grows several times higher than your original investment, and not just double). In fact, this is the only way that investors like David Gardner could have achieved returns of over 5,000% in stocks like DIS (Walt Disney).
3. Sell half of your shares in that stock
I consider this the best of both worlds. You’ve re-couped your original investment, but since you still own half of your original shares you also won’t miss out on any future growth in the stock price.
- ADVANTAGE: You still have the original cash amount you invested in that stock, plus now you have that same amount in cash.
- ADVANTAGE: You also sold while you had a doubled return instead of a loss.
Here are some options you now have if you do sell half your shares, plus some advantages and disadvantages of each:
Option #1: Original investment grows, keep cash.
- ADVANTAGE: Even if the original investment tanks, you still have the cash you gained to use elsewhere. Maybe you can re-invest it in something else, use it to pay off debt, or buy/do something special.
Option #2: Original investment grows, use cash to buy more of same stock on a dip.
- ADVANTAGE: Potential to increase return on this stock.
- DISADVANTAGE: This will only work if the stock dips below what you sold it at!
Option #3: Original investment grows, use cash to buy more of a new stock.
- ADVANTAGE: Buying the new stock increases diversification, potentially lowering risk.
- DISADVANTAGE: Your original stock might perform better than the new stock.
- DISADVANTAGE: The new stock might lose value, making it hard to accept if the original stock continues to go up in value.
Of course, both the original and new stock might crash and burn (as I described above), and this would be the worst-case scenario of this strategy. I think this only occurs, however, when both companies you’ve invested in are garbage instead of quality, well-established ones.
4. If your stock more than doubles, sell enough shares to cover what you originally invested into that stock once it drops 10% below its peak
This is the new strategy I thought of after another one of my stocks doubled back in January.
Shares of Sierra Wireless (SWIR) that I bought back in October 2013 doubled about 14 months later. I had patiently held the stock, according to the buy-and-hold philosophy, even as it dipped close to my buy price on two separate occasions only months after I bought it. But then it took a great run upward to where my return was over 150% near the end of 2014. I was thankful that these tests of my patience were paying off. However, my money was still ‘on the table’, so to speak, so my returns were only theoretical and not yet realized (i.e. cash).
At that point I got greedy and figured I’d wait for a 3-times (200%) return on my investment. However, the price started to drop. Memories of 2007 began to haunt me. After about a 10% drop from it’s peak in early January, I asked fellow investors on the forum of an investing service I am subscribed to what they would do: hold on, or sell enough shares to cover my original investment and diversify by buying another stock? My inner voice was screaming “SELL!!” but I thought I’d still ask their advice.
The unanimous answer was to keep holding on, the buy-and-holders that they are. So I did, against my gut feeling, and the price slid down to a 90% return. However, once the price had briefly risen back up to about a 120% return, I had had enough: I sold just under half my shares (about the value of my original investment) and breathed a HUGE sigh of relief!
I learned that I had to obey my inner voice if the alternative meant going crazy. I guess I also learned that I’m not a true buy-and-hold investor in all cases; I made an exception for this stock since it’s so small-cap and volatile. Since then, the return on my original shares has dropped 30% to below 90% once again.
I’ve since re-invested the amount I made into some Disney (DIS), a much higher-cap stock (a cash machine, actually) and hopefully less volatile, and now I don’t really care what happens to SWIR. After all, I’ve siphoned off what I originally invested into it and can only hope that what happened to me in 2007 doesn’t repeat itself again!
So to recap this strategy, if a stock makes a strong surge and blows past a 100% return then starts to taper-off, sell once it drops about 10% below its peak and sell only the number of shares needed to cover what was originally invested into that stock, which will result in having more cash in your pocket than what was originally invested. If I had done this with my SWIR, my return would have been at least 20% higher than when I eventually sold some of it.
Somebody might think I’m an idiot for selling even a portion of a potential long-term winner like SWIR. If that’s the case, I haven’t missed out on any of the growth percentage, just some of the amount of money I could have earned. I still have over half of the original shares to work in my favor, plus the peace-of-mind of diversifying into a far more stable company’s stock! But again, this is what works for my level of risk tolerance; yours might be a lot more or a lot less.
I hope this has given you some great ideas about what to do if you ever have a stock that doubles. Of course, these strategies are only ideas and not rules (I do still think buy-and-hold is the best strategy, especially with quality, large-cap stocks) and you need to learn to obey your inner voice if it starts to scream at you.
If you’re a brand-new stock investor – or still thinking about it – then I highly recommend the free e-book, Should You Consider Stock Investing? It could become one of the most beneficial 30-minute reads of your life.
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To new beginnings!