April 18th, 2012

Hold on to your winners and quickly sell your losers

The previous post explored challenges posed by a stock that disappoints, in this case, the disappointing reaction to news that HALO was requested to provide additional information to the FDA on a new drug they had submitted for approval.  According to my “selling rules” discipline,

In short, decisions to sell stocks should be the exception rather than the rule and those exceptions fall into the following categories:

  • individual stocks where risks associated with that stock appear to have increased:
    • Sell a stock that you may have bought incorrectly (i.e., too early, too late after a breakout buy point, a stock pattern fails or you erred in reading a chart incorrectly) and performance disappoints shortly after the purchase.
    • Sell any stock that has a surprise including such events as reporting an accounting error, a badly missed earnings announcement, a significant top management change or terminated merger and acquisition discussions. [example, HALO’s announcement of more delays in FDA approval of a new drug].
    • Sell a portion of a stock position that, because of a large run, ends up comprising too large a percentage of your total portfolio and thereby increase its risk (a large position in NFLX or PCLN are examples).
    • Reduce exposure to an industry group if it falls out of favor (for-profit education stocks come to mind).
    • Sell a stock that has underperformed the market and you expect to continue doing so over the near term future as measured by its relative performance during the time you’ve held it (of course there are many of these I could name).
  • Sell a stock opportunistically to generate funds to take advantage of a stock you believe has relatively greater potential than the successful stock position you’re selling. I discourage this because it often results in nothing more than account churning and ultimately worse performance for the total portfolio over the long run.

But stocks follow chart pattern rules more often than they disappoint, especially when they have the wind of a favorable market behind their back.  The following three stocks have moved extremely well after crossing above significant resistance levels (stocks that I had add to my portfolio over the past couple of months).  According to the Sell Rule Discipline, there’s no apparent need to sell these stocks even if the market enters into a “Sell in May ….” sort of consolidation over the summer (click on images to enlarge).

  • INTU
  • IACI
  • CLB

While astute chart reading is important to being successful in the stock market (the number one requirement being that purchases need to be timed with market health and momentum), an even more critical factor to successful performance is to “hold on to your winners and quickly sell your losers“.  Just because these stocks show double digit appreciation since purchase, there’s nothing to indicate that the market won’t resume advancing after it consolidates.

These stocks and others that have crossed above significant resistance levels may retreat along with the market but there’s nothing to indicate that they need to be sold …. unless they fall below those resistance level breakouts and market momentum moves from consolidation to clear reversal.

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