Knowing how to buy stocks correctly is crucial to learning how to make money in stocks. But understanding when to sell stocks — and having the discipline to do it correctly — is equally, if not more, important. You'll find that knowing how to read stock charts is key to both sides of equation.
In the prior section on buying stocks, we covered stock charts and technical analysis. In this section, we'll show how to apply many of those same concepts — such as tracking support and resistance, price and volume, and moving averages — to seeing when to sell stocks.
Any experienced investor will tell you that one of trickiest parts of investing in stocks is determining when to sell stocks to either lock in profits or cut short any losses. As with buying stocks, the emotions of hope, fear and greed have a major impact on selling stocks. Applying stock charts and technical analysis only works if you also understand investor psychology and how to keep your emotions in check.
So before we get into the more technical aspects of when to sell stocks, let's address common mistakes and misconceptions that beginning investors and seasoned pros alike both face.
8 'Secrets' Of Selling Stocks
It's easier to be objective when it comes to deciding what stocks to buy. Before you invest money, you can use stock lists, a stock screener and stock ratings to identify the best stocks to buy and watch.
But once you already own shares and have skin in the game, your psychology changes. Emotions of both greed for big gains and fear of big losses kick in. These emotions can cloud your decision-making, making it more difficult to keep an unbiased, objective look at when to sell stocks you own.
To stay grounded and in the right mindset, keep these eight "secrets" in mind.
- Everyone makes mistakes. Just be sure to cut all losses short.
Even the best investors get hit with a loss from time to time. But they don't indulge in worry as the stock drops even farther. They cut their losses quickly and move on. Leave your ego and pride at the door. Don't let a loss get to you — either mentally or financially. - If you don't sell too early, you'll sell too late.
To lock in solid gains, sell while your stock is still going up. As IBD founder William J. O'Neil has said, "Your objective is to make and take significant gains and not get excited, optimistic, greedy, or emotionally carried away as your stock's advance gets stronger. Following the 20%-25% sell rule will help you do that. - Have a selling plan in place before you buy.
The real drama kicks in when it comes time to sell. If you don't have sell rules and an exit plan to guide you, it's easy to freeze and not take action when you need to. If your stock is soaring, you might get greedy and ignore certain sell signals and warning signs. If you're sitting on a loss, you may do the "hold and hope" routine, praying it bounces back — while it continues to drop. Stay grounded and keep your emotions at bay by having a selling plan in place ahead of time. Write down your target sell prices for both taking profits and cutting losses. - Don't let a decent gain turn into a loss.
If you have a nice gain of, say, 10%, 15% or more and the stock begins to decline, don't let that profit disappear completely. It's much less frustrating to see a 15%-20% gain turn into a 5%-10% profit than to see it turn into a 10% loss. You can always buy the stock back if shows renewed strength and forms a proper buy point. - Don't marry your stocks. Just date them!
"For better or for worse, for richer or for poorer" is a noble and time-honored approach to marital fealty, but it's a bad idea when it comes to investing in stocks. In most cases, it's better to take a good gain while you have it. And never hesitate to separate and protect yourself from a bad relationship if there are clear signs of trouble. - Sell your losing stocks first.
When building a winning basketball team, you wouldn't trade away all your top players for a bunch of benchwarmers. Yet many investors do just that. They sell stocks in which they have a good gain and hold those showing a loss, thinking a big gain is just around the corner. That's usually just wishful thinking. Do the opposite. Sell your losers and use that money (if the market trend is favorable) to add winners to your roster or invest more money in the top performers you already own. - When buying a stock, focus on both the fundamentals and the stock chart. When selling, focus on the chart.
They say the view is great at the top, and that often applies to stocks as well. The warning signs typically show up in the stock chart (i.e., technical analysis) before they appear in the company's fundamentals. So while it's crucial to use both technical and fundamental analysis when buying stocks, when deciding when to sell stocks, focus on the chart and technical analysis, like the price and volume action and behavior around key moving averages. - The most important sell rule is to buy at the right time.
A very common mistake, particularly for beginning investors, is buying at the wrong time. Some will not pay attention to market timing and buy during a market correction when most stocks go down. Or they'll ignore the technical action in the stock chart and either buy too soon or too late. So before buying a stock, make sure three key factors (market trend, big earnings driven by something new, and institutional support) are in place. Doing that will help make sure you get in at the right time with the odds of success squarely in your favor.
When To Sell Stocks? Stick To Time-Tested Rules
To stay both profitable and protected in the stock market, you need to have both offensive and defensive sell rules.
Defensive sell rules help make sure you never suffer a devastating loss. Investors that follow a simple buy-and-hold approach run the risk of taking a big hit to their portfolios. You can easily avoid that by using stock charts and technical analysis to spot early warning signs that alert you to when to sell stocks to limit any losses.
On the offensive side, we all know that nothing goes up forever. Even the best growth stocks like Apple (AAPL), Nvidia (NVDA) and Alphabet (GOOGL) that have made huge gains in their time have suffered periods of sharp declines.
To make sure you hold onto the bulk of any big gain, you'll sometimes have to go on offense and sell some or all of your shares to lock in profits. If you don't, a stock market correction or a downturn in a former leader can wipe out your gains. Even worse, such a decline could turn your profits into a loss.
Checking the current recommended market exposure level in with The Big Picture and Market Pulse each day helps you manage such risk.
The IBD Methodology helps you find stocks showing the common traits of top growth stocks. It also helps you identify when to sell stocks. Just as the best stock show certain characteristics on the way up, they also flash common warning signs on the way down.
Here's a look at time-tested rules for when to sell stocks, both to preserve your gains and protect yourself from any serious losses.
The No. 1 Rule For When To Sell Stocks
To make money in stocks, you must protect the money you already have. That brings us to the cardinal rule of selling.
Always sell a stock it if falls 7%-8% below what you paid for it.
This basic principle helps you always cap your potential downside. If you're following rules for how to buy stocks and a stock you own drops 7% to 8% from what you paid for it, something is wrong. It may be a problem with current market trends or with the company or industry. Whatever the issue, you need to reduce your exposure and protect your portfolio.
It takes discipline, but it's also the simplest way to make sure you never let a small loss become a big one.
"You don't want to take a loss, so you wait and you hope, until your loss gets so large it costs you dearly. This is by far the number one mistake most investors make."
WILLIAM J. O'NEIL, FOUNDER OF INVESTOR'S BUSINESS DAILY
Why Sell Stocks At A 7%-8% Loss?
The 7%-8% sell rule is based on our ongoing study covering more than 130 years of stock market history.
Even the best stocks will sometimes break out, then quickly fall slightly below their ideal buy points. But when they do, decades of history show these leaders do not typically fall more than 8% below their proper entry prices.
If your stock does decline more than 8% below the ideal buy point, it usually means something is wrong with your chosen entry point, the company, industry, stock market indexes, or all of the above.
Sometimes you'll know the reason. Other times you won't. But what you do know is the stock is dropping, and you're sitting on a 7%-8% loss. You must immediately shift into capital-preservation mode and cut that loss short.
Like having insurance to safeguard against severe damage, this one simple rule for when to sell stocks is there to protect you from a potentially crippling loss.
Once a stock begins to plunge, there's no telling where the bottom is. Limit your loss to 7% or 8% and get out.
If a truck is barreling toward you, you wouldn't stand there and wonder why the driver isn't slowing down. You'd just get out of the way.
Your top priority is to preserve capital. Sell first, ask questions later.
How To Sell Stocks Using The 7%-8% Sell Rule
Be sure to apply this rule on when to sell stocks by focusing on when you bought the stock.
If you buy a stock at 100 and it falls to 92 or 93, sell. But if a stock you bought at 100 goes up to 150, then slips 8% to $138, that does not trigger this particular sell rule. It's still trading above your purchase price. (Of course, you may want to check to see if the stock is flashing any other warning signs and sell signals.)
Here are some examples.
What If You Sell A Stock And It Quickly Rebounds?
There may be times when you sell a stock at a 7%-8% loss, only to see it bounce back and climb higher. While frustrating, be sure to keep things in perspective.
Even if you sell at an 8% loss and the stock quickly rebounds, that doesn't mean you made the wrong decision. The 7%-8% "premium" you pay for this type of "insurance" will seem like a bargain if the stocks drops 20%, 50% or more. And you can always buy a stock back if it regains its strength and sets up a new chart pattern and buy point.
Sometimes you may want to sell a stock even sooner, before it triggers the 7%-8% sell rule. That's especially true if you see other warning signs in the market trend and/or sell signals in the stock chart. In a particularly weak or volatile stock market, you may also choose to cut your losses even quicker, say, at 3%-5%.
As we saw in the section on stock market timing, your stocks do not operate in a vacuum. The overall stock market trend has a major impact on individual stocks. Always view your stocks within the context of how the market indexes are doing. (Each day, The Big Picture with Market Pulse shows the current recommended market exposure level to help you manage risk.)
These and other market-related factors help you decide when to sell stocks or just sit tight.
With stock investing, you don't need to always swing for the fences and try to hit home runs. To grow your portfolio substantially, take most gains in the 20%-25% range.
Though contrary to human nature, the best time to sell a stock is on the way up, while it's still advancing and looking strong.
As IBD founder William J. O'Neil says, "The secret is to hop off the elevator on one of the floors on the way up and not ride it back down again."
After a significant advance of 20% to 25% from a proper buy point, consider selling at least some shares into that strength. By doing that, you'll be locking in some gains and won't be caught giving back all your profits in a stock market correction or bear market.
Why Sell Shares After A 20%-25% Gain?
Typically, growth stocks tend to advance 20% to 25% after breaking out of a proper chart pattern, then pull back to form a new base. If the stock itself — and the stock market indexes — remain strong, it will resume its climb.
In most cases (the 8-week hold-rule being an exception), you're better off locking in at least some of your gains to avoid watching your profits disappear as the stock corrects. And you can potentially compound those gains by shifting that money into other stocks just starting a new price run.
By following this disciplined approach, you'll regularly nail down the kind of solid gains that lead to significant overall profits.
Calculating The 20%-25% Gain
The 20%-25% profit-taking zone is based on the stock's ideal buy point. That may differ from your own purchase price.
As we saw in the section on how to buy stocks, the buying range, or buy zone, is from the ideal buy point up to 5% above that price.
Let's say you bought 2% above the ideal buy point. If the stock then goes up 20%-25% from the ideal buy point, your profit would be 18% to 23%. Here's an example of how this works.
This simple calculation shows how effective following the 20%-25% profit-taking rule can be as part of a strategy for when to sell stocks.
Here's how it works:
Take the percentage gain you have in a stock. Divide 72 by that number. The answer tells you how many times you have to compound that gain to double your money.
For example, if you get three 24% gains (72÷3=24) — and reinvest your profits each time — you will nearly double your money. It's much easier to get three 20%-25% gains out of different stocks than it is to get a 100% profit out of one stock.
As the table below shows, those smaller gains still lead to big overall profits.
Here's an exception to the rule for taking most profits in the 20%-25% range.
If your stock gains more than 20% from the ideal buy point within three weeks of a proper breakout, hold it for at least eight weeks. (The week of the breakout counts as week 1.)
If a stock has the power to jump more than 20% so quickly out of a proper chart pattern, it could have what it takes to become a huge winner. The 8-week hold rule helps you identify such leading growth stocks, letting you sit tight to reap potentially exceptional returns.
This rule should be applied to true stock market leaders, not just any old stock. The company should have strong fundamentals and other elements of fitting The IBD Methodology, including quality institutional sponsorship.
Sitting Tight Through A Sell-Off
When a stock quickly rises more than 20% in just a couple of weeks, it's likely some investors will take their profits off the table. That can cause the stock to pull back, sometimes sharply.
So understand that stocks that trigger the 8-week hold rule often sell off fairly hard during the holding period. This rule helps you sit through that and avoid selling too soon.
Once the eight weeks from the original buy point have passed, you can sell to lock in your gains or continue to hold.
If you have a solid gain, and the stock chart and stock market indexes still look healthy, you may want to sit tight and see how the story plays out. It could be a stock that goes on to even bigger gains.
The 8-Week Hold Rule in Action
