If you are an investor, you must have a strategy that defines when you will sell an investment. It’s called having a “sell discipline” in the business. Now don’t get me wrong. I’m not suggesting you become a trader. I’m just saying there will be times you need to sell an investment and you need to identify up-front the conditions that would cause you to sell. Why is a sell discipline so important?
The fact is that some investments will go bad for various reasons and lead us down a hole where we can’t recover. A sell discipline defines the exact reasons you will sell an investment so that every sell is based on a calculated decision designed to minimize portfolio problems. Investing isn’t a fly-by-the-seat-of-your-pants operation. As surely as you had a reason to purchase an investment, the same holds true for selling it; it’s about having a well-rounded investment game plan.
Without a sell discipline, you can become emotionally tied to an investment. When you get emotionally tied to an investment you are reluctant to sever the relationship even when the relationship turns harmful. Why do you refuse to cut loose some investments? Maybe you are fond of the company, the investment was a gift, you’ve owned it for a long time or your emotions tell you it will come back. Forget all that. There’s never a good emotional reason for hanging on to a bad investment.
A prime reason to sell an investment is that it stopped being the vehicle that served your original purpose. Perhaps you bought a particular mutual fund because it was a conservative stock portfolio but the fund changed to an aggressive strategy. Ever bought a mutual fund and the leadership changed? This could be a good reason to sell if the performance lags over time.
Other conditions that define when you should sell include: substantial increases in value (to harvest profits; may be a partial sell); substantial decrease in value, changes in the fundamental financial condition of the investment, or the investment becomes overvalued.
Better find out the sell discipline of your investment advisor. Trades have outcomes; commissions, taxes, allocation changes… Oh, and a price decrease alone is not reason to sell. If the price is going down and there is no valid reason to sell and the fundamentals are still good, keep it and buy more as the price drops.