Should I sell my stock or Mutual Fund?
Over the weekend my brother asked me a question about a mutual fund he owned. How do you decide when to sell my stock or mutual fund?
I always go through a series of questions when looking at making any changes in my investments. They work for just about any type of investment.
The biggest one is Why did I buy it? Before you ask if it is the right thing to sell my stock, you should ask why did I buy it.
Knowing the reason you bought it can help you understand where it fits in your current investment portfolio. You did have a reason you bought it didn't you? I have found this to be one of the toughest questions for people to answer.
Most don't know.
They honestly don't know why they bought the stock.
A friend suggested it to them.
They read a hot tip in an email they got.
They saw it on CNBC as a Must Buy.
They did proper research and saw it fit into their current investment desires and risk tolerances and outlook on the economy.
They liked the name of the company.
I have even had someone tell me they bought it because the ticker symbol looked cute. (Probably not the best way to make a decision on buying a stock by the way). If you made your decision this way, the answer to should I sell my stock is definitely YES as you probably don't need to be investing in the stock market.
So in my brother's case he had done his proper research and it fit his requirements. Unfortunately the stock has not performed up to expectations.
So the next thing you need to ask. What has changed? Has something change to make me want to sell my stock?
If it is a sector based fund, has the economic future changed for it? Remember a mutual fund is generally made of stock in individual companies. Look at the major holdings of the fund and treat each one as an individual stock.
For a single company, have things changed?
Management changes (upper management leaving can cause a drop in performance as the company loses direction).
If a stock hasn't been performing well, a management change can be good for it. Often it is more important to dig deeper and understand why they are making the change. If you see wholesale change such as several layers of management or the majority of senior leadership change, then it is time to be concerned.
Environment changes (The environment here isn't the great outdoors. It is the landscape that the company operates within.)
Have the laws changes making it more difficult to grow? It could be driven by lawsuits or antitrust considerations. It could be changes in tax law as well. Some industries have benefited by allows consumers to claim credits to offset the higher cost of their technology. Alternative energy is a prime example. At one time huge incentives could be found for companies in this field. With sky rocketing oil prices, they were the hottest thing on the market.
Have competitors introduced new technology that make you obsolete (Think word processors vs typewriters).
Has your new technology not proven itself? (Drug companies run into this all the time as new drugs look promising but then fail to meet expectations). Small pharma companies can be a roller coaster ride. Large pharma companies can have very reliable earnings as they have a lot of products out in the market. Any softness they find in one area can be offset with improvements in another.
Smaller drug companies usually are more dependent on new drugs getting approved. If they do, the stock of the company can do very well. If they don't it can tank very quickly. Any penny stock should only be used for the part of your portfolio that you like to gamble with. Extreme returns can be common (1,000x up or near complete loss).
Performance changes - The stock price in most cases is based on past performance of the company and expected future performance. It is also impacted a lot by momentum traders who don't look at the fundamentals of the company but only rely on the current price increases.
If something changes to impact future projections, the stock price can change. Some of those could be execution. Every company has a strategic plan they need to execute to reach their goals. If they fail to execute them, their profitability can be impacted.
It may be the loss of a major client. Companies are required to publish if they have any single customer that provides a substantial percentage of their business. If that customer leaves, it can have a much larger impact on the profit than you may expect. We will explain the concept of profit on the margin in a later post.
Change in Strategy = Sometimes a company will decide to make a change of strategy internally.
This is often done because they see a need to change based on the environment changing. Changing strategy can be difficult to execute. IBM is a good example of this. They have made a couple of strategy changes over the years. The performance of the company may change short term as they make these changes.
So back to the original question - Should I sell my stock?
What if nothing has changed? Should I sell my stock then?
Maybe. You could have been wrong about your reasons for investing. If the stock performance has not met expectations, then you should still consider selling it.
Usually when I decide if I should sell my stock, I use one simple question. That's it. Just one little question.
If I didn't own it would I buy it today? Yes deciding to sell my stock is really a buying a question.
Money invested in a stock cannot be put to use in other places. That puts us into opportunity costs. Opportunity costs aren't real costs. They don't show up on a balance sheet or net worth statement.
They do show up as a silent killer of our retirement funds though. Say you decide to stay invested in a stock over a 10 year period and it doesn't go anywhere. Each year that money could have been invested in something that generates an ROI (return on investment). The opportunity cost is the cost of staying invested in a non performing asset versus a very safe investment like T-bills.
So when I decide if I am going to sell my stock, I ask myself is this the best place for my money to be right now? That can be a tough question to answer at times but is the only way I know to take the psychology of sunk costs out of the equation.
So to decide if I should sell my stock, decide if it is something you would buy now if you weren't already invested in it. If the answer is no, then sell it. If the answer is yes, then keep it.
PS Did you agree with my analysis on how to decide if I should sell my stock?
Other Articles About the Stock Market