But even if you, like me, are a buy-and-hold investor, one question about timing will perhaps continue to bother you – more today than ever.
When should I exit this bull market?
You see, generally, the fear of losing our accrued gains is far bigger than any potential profit. For this reason, we end up making what is perhaps the biggest mistake in investing – selling too soon.
Given the stakes, let’s try and understand what the right time is to exit the bull market. We’ll approach this from the perspective of someone who is interested in generating wealth over years. Here goes.
Reasons to sell a stock
Broadly, there could be three reasons to “consider” exiting a stock you own.
First, let’s start with the idea of having a balanced asset allocation. There are times when the price of a stock runs up a lot, making it a huge part of your portfolio. Your wealth is now largely determined by one stock. Think Rakesh Jhunjhunwala and Titan. What do you do in such a situation?
Well, the Titan example offers a suggestion on how to deal with it. You don’t exit the stock because it’s become too large in your portfolio. You let your winners run. Think of the allocation as an outcome of good decisions, and not as the starting point for making good decisions.
But there is a caveat here – an important one. This brings us to the second reason for exiting a stock. And that’s if there are signs that something is amiss at the company level. This is easier said than done. Companies that are run by solid management teams overcome seemingly insurmountable obstacles over time. So it generally makes sense to stick with them even through tough times.
But every once in a while a company deviates in a way that can prove to be detrimental in the long term. This could happen in many ways. A pricey acquisition or an unrelated diversification could be one such signal. Or it could be deterioration in the way the business is managed, perhaps resulting from a change in management. There could be many more.
Of course, not all these will end up being detrimental. But when these signs start to appear regularly, perhaps it’s time to track such stocks even more closely and maybe reconsider your allocation. If and when you are convinced that something is a miss – and only then – it’s an exit signal you may want to act on.
The third reason for exiting a stock has to do with changes at an industry level. Here, again, there could be various factors at play. Let’s consider two. Is the demand for the industry’s products likely to grow over time? Well, if you were a typewriter business in the 1990s and computers and printers were becoming affordable, you knew it was time to exit.
Another reason is regulatory risk. This risk is highly underappreciated – until it hits your industry. If you can see this around the corner, or it’s happened and you understand the impact to be long-lasting, it could be time to consider reducing your allocation or even exiting the stock entirely.
There are other factors to consider as well. For instance, if you assess that the long-term health of the economy will be terrible, that’s clearly a reason to exit. Companies can’t continue to do well indefinitely if the economy is about to collapse. Imagine someone had made that call about China in the mid-2010s – the person could have saved a fortune.
‘When to sell’ is harder than ‘when to buy’
In short, there are many reasons to consider exiting a stock. A lot of this could be just noise, a near-term development, and/or emotions getting the better of you. Not surprisingly, it’s often harder to decide when to sell a stock than when to buy it. That’s true even for many successful investors.
Some of the fund managers we all admire prefer to buy and hold stocks instead of exiting at the first hint of problems. They stick with companies that have solid products, growing market shares and great corporate governance, which are all proof of solid management. All of this reflects in a company’s earnings, which over time is the only determinant of its stock price. It’s all that matters.
Note that I have not discussed what is perhaps the key reason you are thinking of exiting your stocks – the market or the company’s stock price has run up too much. The reason for that is as long-term investors it’s generally better to focus on the company’s business performance, and potential future performance, than its year-on-year stock returns.
Remember, you don’t own ‘the market’ – you own a stake in a real business. If you have that temperament, or can develop one, you can avoid the cardinal sin most investors end up committing – selling too soon.
So, in conclusion, the time to exit the bull market is almost never, even if that means living through periods of pain, over and over again.
Rahul Goel is a finance and publishing professional with over 25 years of experience in the industry. You can tweet him @rahulgoel477.
You should always consult your personal investment advisor/wealth manager before making any decisions.