Could you advise me on some sort of formula on when to sell a stock? Do you keep it for a certain length of time or do you sell after it reaches a certain percent and what percentage would you sell? (August 5, 2000)
This is a frequently asked question, and much depends upon what stage of ownership you are in. We all know that even the best analysis can be blown by unforeseen twists and turns in the market. Thus, when we buy a stock, we have a rule that we will sell a stock if it drops 7% to 8% from our purchase price. That way we prevent a buy at the wrong time from turning into a big loss. We keep 98% of our money on the trade (less commissions), and we are ready to find the next trade.
Once a stock moves up for us, we tend to let it run for us as long as it is showing good price/volume action and no signs of topping. Again we have to keep an eye on the overall market. Three out of four stocks follow the overall market, and while a strong stock may buck the market for awhile, it has a good chance of at least pulling back in sympathy with it. One rule of thumb when you have gains in a stock: if it is up 20% and starts to sell back hard, get out and lock in profits. By selling hard, we mean on rising volume.
After breakouts stocks frequently come back to test their breakout point. If you buy a stock that has run up 10% from its breakout, it could correct back to the breakout on low volume and you would be taken out if you adhered to the 7%-8% sell rule. So, don't chase stocks past 5%-8% above their breakout price. If you miss them, you will get a chance in most cases to pick up some shares on a test of the breakout when it starts back up.
If a stock runs up 50% after you buy it, give it some room unless it really starts to crater. That may mean letting it pull back 20%. Stocks that move up that much shortly after you buy them can be big winners, returning 100%, 200% or more. You have to temper that, however, with a view of the overall market and how hard the stock is pulling back. KEI was off and running early in the June rally. It doubled in price, but then started selling on high volume. It crashed back through its breakout point. A key signal was when it reversed on high volume the second session of July. The volume was higher than any of the previous volume in the rally, and that is the sign of a climax run.
In short, limit your losses to 8% by selling if the stock falls that far after you buy it. Don't let a solid gain evaporate when selling starts in earnest. If the stock continues to perform well, i.e., rising on higher volume than it pulls back on, let it continue to work for you. Stocks rise and fall on their runs. We just have to recognize when they start to distribute through higher selling volume and reversals off of tops.
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