Selling stocks at the right time is a challenging task. It is tough not to wonder what you might have left on the table when taking profits in that hot stock. However, it is better to speculate after the fact, rather than to risk having all of those gains cycle into a loss.
Of course, investors hope their latest purchase will double, triple or more in price. And some will, but such big winners are often few and far between.
Most stocks will pause to take a breather once they have run up about 20%. So a prudent rule of thumb is to take profits when you are up 20% to 25% on most of your stocks. Even if you don’t sell the entire position, it doesn’t hurt to lock in some gains.
You can then use those winnings to open a position in another stock on your watch list. But what if you are convinced the stock you own isn’t ready to slow down?
That’s why a special hold rule exists. True leaders can sometimes score even bigger gains during a short period. So if a leading stock you own soars 20% or more in less than three weeks from a breakout or a rebound off the 10-week moving average, that warrants holding for eight weeks. However, this exception only applies if the market condition remains favourable.
Avoid A Round-Tripping Of Big Profits
When the hold period expires, evaluate the stock to decide if you should sell it or hang on to it for even longer. Also, keep an eye on how the overall market is behaving. Whatever you do, don’t take what’s called a round trip. That’s when a stock gives up everything it gained from the breakout.
Let’s say stock XYZ, which boasts sound fundamentals across the board, breaks out past a base buy point in heavy trade and rises as much as 20% over the next month. You know you should lock in some gains, but think the stock may have more legs, so you stay put.
Now XYZ starts to slip. Soon your gain has been whittled down to 18%, then 16%, and so forth. But volume has been light, so you keep holding as the stock nears its 50-day moving average. Then it suddenly slices the key support line and falls below the buy point. You have just taken a full round trip — and it was anything but relaxing.
Now let’s try to understand this concept using the example of one of our recent portfolio additions. Vip Industries manufactures a wide range of hard-sided and soft-sided luggage under brands such as VIP, Skybags, Alfa, Aristocrat, Carlton, and Caprese. In India’s organized luggage market, the Company is a market leader with more than 50% share.
We added VIP Industries to our portfolio on July 24 after it broke out of a five-week-long flat base pattern on heavy volume (1). It witnessed strong buying interest thereafter and gained 31% in just three weeks from the breakout (2). This brought the eight-week hold rule in picture as it displayed signs of a big winner. It went on to hit an all-time high of Rs 647.00 on August 28, but pulled back sharply and closed near the day’s low (3). The Indian market condition deteriorated amid rising distribution and the market outlook was changed to Uptrend Under Pressure on September 4. VIP Industries also came under selling pressure and breached its 21-DMA on September 5 (4).
Considering its solid fundamentals, we decided to give the stock a chance to reclaim its 21-DMA. However, it failed to do that in the next four sessions and we decided to book a 16% profit in the scrip (5). With the Indian market experiencing further distribution, VIP Industries kept on tumbling and fell below the previous buy point on September 26 (6). While we saw our total gain reducing from 35% on August 27 to 16% in just two weeks, we made sure we did not suffer a round trip in it. It then went on to correct more than 30% since our removal (7).
Following strict sell rules in light of weakening market condition saved us from a round trip. While a fundamentally strong stock generally does well after rising 20% or more after breaking out in less than three weeks (power from pivot), a favourable market condition is extremely important to support the rally.
Related: Sell And Take Profits In Growth Stocks, Or Hold?
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