CMU: Either you sell too early, or you hold too long. 

By Jani Ziedins | Free CMU

Nov 15

Cracked.Market University

Coming up with good trading ideas is easy. The hard part is deciding when to take profits.

All of us come to the market with unique insights and experiences. These allow us to see opportunities others miss and is the basis for our best trades. But all too often we fail to capitalize on our best ideas because we botch the second half of the trade, taking profits. There are few things more frustrating than selling a large move too early, or holding too long and allowing those hard-earned profits to evaporate.

Often it is hard to let go of a big winner because we become emotionally attached to our best trades. The success of a great idea seduces us into thinking there is even more to come. Greed kicks in when good enough is no longer good enough. But a great trade is cannot be great trade until we lock-in our profits. We’re in this to make money and the only way to do that is by selling our winners.

While it would be lovely if there was a consistent way to identify tops, unfortunately only a fool believes this is a realistic goal. Those of us that know better realize every time we take profits we have to make a conscious decision between selling too soon, or holding too long. What strategy a trader chooses large depends on their personality, risk tolerance, and approach to the market. Personally I prefer selling too early, but there is nothing wrong with holding too long if a trader does it in a deliberate and thoughtful way. The least effective approach is leaving the selling decision to undisciplined and impulsive urges.

I’m a proactive trader and that means I prefer making my move before the price-action forces me to react.  Owning stocks involves the risk of holding the unknown and is why I only want to own stocks when I’m getting paid, i.e. they are going up. Holding a sideways consolidation in my trading account doesn’t make sense to me because I’m at risk of losing money if the unexpected happens. I’m okay with that risk if someone is willing to sell me their stocks at a steep discount, or if prices are rallying. But once the profits start slowing down, my preference is to get out and start looking for the next trade. My favorite trade is buying dips and I cannot do that if I’m fully invested during the pullback. But that is not the only way to do this.

The problem with selling proactively is sometimes I get out too early and miss a big portion of a much larger move. Personally I’m okay with that, but other people like maximizing their trades by selling after a move has reached its peak. The most common way to do this is using trailing stops. Every time the stock moves higher, you raise your selling point. If the sell point is far enough away from the current price, the trader will be able to ride through the normal dips and gyrations that occur during every move higher. But if the trailing stop is too far away, a trader gives up too much profit when the rally eventually pulls back.

The advantage of a trailing stop is it is automatic and many brokers let you enter an order that automatically adjust your selling price so it becomes a truly hands-free trade. This is great for people who cannot follow the market every day or have a hard time pulling the trigger when it is time to sell. The disadvantage is markets move, that’s what they do. If you put in a 10% trailing stop under current levels, there is a good chance you will end up selling at that 10% lower price. If the time to sell is getting close, it could be better to sell now and collect 100% instead of 90% later when the trailing-stop is inevitably triggered.

The point of this article isn’t to say whether one approach is better than the other. The reasons to do one or the other depends on each trader’s approach to the market. What matters is that we arrive at this decision thoughtfully and deliberately before it is time to sell. The best time to plan your sale is before you buy the stock. Many books and courses stress the importance of using a stop-loss, but just as important is planning when to take profits. Decide now if you are a sell too early or hold too long type. And then stick to that approach when your trade turns profitable.

In another post I will explain how to tell if there is still upside left in a trade, or if the upside momentum is stalling and it is time to take profits. Sign up for Free Email Alerts so you don’t miss it.

Jani

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About the Author

Jani Ziedins (pronounced Ya-nee) is a full-time investor and writer who has successfully traded stocks and options for more than a decade. He earned a B.S. in Mechanical Engineering from the Colorado School of Mines and an MBA and M.S. Marketing from the University of Colorado Denver. His prior professional experience includes manufacturing engineering at Fortune 500 companies, structural engineering, small business consultant, collegiate instructor, and managing investment real estate. He is now fortunate enough to trade full-time from home, affording him the luxury of spending extra time with his wife and two young children.

[email protected] November 17, 2017

Yes, this is sound advice. In August 2015 I watched my carefully laid “big move” come to fruition and the Dow plummet from 18,300 (about) to around 15,750. I was watching it through the night. When the inevitable rebound came it just didn’t tally with my decision that the Dow would go all the way to 14,250……I watched mesmerised as a powerful rally took place all the way back to 17,000 and my magnificent 60,000 aud profit went up in smoke. Now, I would see the momentum building and sell quickly. Its pure ego at play and you learn these lessons the hard way. I came out with $25,000 but very chastened.

I enjoy your articles as they are clearly the result of years of solid experience. And better to learn at one remove than make those mistakes your own.

This site is much more interesting for being sincere and thoughtful. The absence of dramatic statements about an impending crash – or just the opposite – is a relief !

Oliver

    Steve November 25, 2017

    August 2015 was what I was thinking too. That was an expensive learning experience. The market moved fast and painful. It bounced and then early 2016 went lower, particularly in AAPL where I was over leveraged. It had been a hugely winning strategy through more than the first half of 2015 when I ran to a high around $270k USD then to a miserable low of around $10k. In the meantime I’ve mostly recovered my gains once again, but wiser for the experience. I trade a wider range of stocks today and I’m less apt to try running with something that has run hot.

    I aim to take profits by pre defining potential profit with bull or bear option spreads. You can choose to buy or sell puts in the spread and I generally go for something half in the money with 2-3months of time on it with the aim to double my money or better. For example I’ll buy a $20 spread and look to pay around $10 for it. If I’m right I’ll collect close to $20 for every position close to expiry or cash in a little early if the move was quicker than expected.

    These spreads have the side benefit of not costing an excessive amount of premium and in some cases may cost less than the intrinsic value so they are apt to profit even moving sideways or especially close to expiration they’ll go positive when the stock moves down and the back end of your spread looses value. To me that’s a handy set of characteristics that help me to make more profit through built in trade discipline.

    Jani Ziedins November 26, 2017

    I’m glad you find my blog useful!

[…] CMU: Either you sell too early, or you hold too long. […]

Ray Scarbrough November 26, 2017

As a beginner investor I’m confused about the best way to prevent large losses during a market sell off.

1. From my understanding, a “stop loss order” becomes a “market order” once the stop loss limit is hit. Once its a market order it may not be filled until the price has lowered more due to order execution time. There for your actual sell price may be lower the your stop loss price.

2. From my understanding, a “limit order” guarantees that the set limit price to buy or sell will be met or the trade won’t take place.

Please provide advise and correct my understanding if it’s wrong please. I’ve signed up for the free emails. Thanks

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