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Oct 2, 2023

Exit Sign: When To Know When Itís Time To Sell

by Rita Silvan

For most investors, buying shares is a lot easier than selling them. Knowing when to take profits (or losses), trim position size, or rebalance a portfolio are skills every investor should master. Even Warren Buffett of Berkshire Hathaway, a famous buy-and-hold investor (“Our holding period is forever.”) does it. In the early 1960s, he bought five per cent of American Express. The investment proved so successful that by the late 1960s, the company represented over 40% of his fund’s value before he made the prudent decision to sell some.

There are several reasons why buying is easier than selling. One of them is the imbalance between “buy” and “sell” recommendations by financial analysts. Today, a “sell” rating is as rare and endangered as a snow leopard sighting. A 2017 survey tracked analyst recommendations for S&P 500 companies—only six per cent were for “sell” or its industry euphemism “underweight”. The imbalance is not caused by sunny dispositions among researchers but rather by financial incentives, in the form of high salaries and bonuses, rewarding those who cultivate friendly relationships with corporate management that could lead to lucrative underwriting contracts. Issuing a “sell” recommendation on a company is unlikely to bring their future business to your firm.

Then, of course, there are the bad actors who tout the company as a buy to the media to elevate the share price and sell as demand increases. In 1995, Jeff Vinik, who ran Fidelity’s US$54 billion Magellan fund, announced that the one and only stock to buy was Silicon Graphics, then a leader in visual computing. At the same time, Vinik pumped the name, he was selling millions of shares in his fund, causing the share price to crater. (The Securities Exchange Commission nosed around but never charged him with fraud. Today, Vinik is the proud owner of the Tampa Bay Lightning.)

Whereas buying equities is based on the belief the shares will become more valuable over time, selling them puts a cap on the potential upside or, in the case of a losing stock, locks in the loss permanently. The latter is one reason many investors suffer from “get-even-itis” and hold on too long while waiting for the share price to recover— at least to their book cost— to avoid taking the loss. This may cause them to miss out on better investment opportunities.

Knowing when (and how) to sell is as necessary as knowing when to buy. Here are some factors to consider when deciding to sell:

Give Equal Attention To Your Exit Strategy

Before buying a company’s shares, decide what the triggers will be to sell. Most investors devote all their attention to the buy transaction but pay little attention to what would trigger the exit.

1. The Business Has Changed

Companies are constantly evolving and changing. In some cases, if the main reason you invested is no longer valid, it may be time to sell. For example, in the 1990s, publicly owned Seagram Company, based in Montreal, Quebec, was a multinational conglomerate and one of the largest owners of alcohol brands in the world. Edgar Jr., one of the founder’s sons, took over the business and sold off the lucrative alcohol brands to invest in a Hollywood film studio and theme parks, which precipitated the downfall of this storied Canadian company.

2. The Company Is Being Acquired

If the company is being acquired by another firm, you need to consider if this is a company you want to own or, if you already do own it, have more of it. For example, when Salesforce bought Slack Technologies, Slack shareholders received cash and shares in Salesforce. If you already owned shares in Salesforce and didn’t want more shares, selling Slack prior to the merger completion would have made sense.

3. Sales Growth Has Changed

When a company’s sales revenues and earnings are trending down, it’s time to take a closer look at the potential reasons. For a retailer like The Gap or Target, it may be that consumer tastes are changing. For Yellow Pages, the cause of falling revenues was a little thing called the “internet”; people switched to searching for businesses online, not in doorstopper telephone books.

4. Management Changed

When senior leadership changes, this could indicate changes to the business direction, so you should pay attention. Apple was a dud under John Sculley (1983-1993) but soared under Steve Jobs and now Tim Cook. Frequent turnover of senior personnel is a warning sign and may be a good time to de-risk by selling some shares until there is better visibility on the company’s new direction.

5. Understand The Micro And The Macro

During the past decade of low-interest rates and loose lending policies, many companies, even those without earnings or profits, had an easy time obtaining loans and gaining high market valuations. Today, these same companies need to service their debts at much higher rates which cut into their ability to invest in the business and grow rapidly. Companies that appear to thrive under one set of economic conditions may flounder when the tides turn.

6. Personal Reasons To Sell

Each investor may have idiosyncratic reasons to sell. These include a requirement for funds in the near future, tax efficiency (tax-loss selling, for example, or taking advantage of being in a low tax bracket), or simply finding a better investment opportunity. In the same way that dollar-cost-averaging can be used to buy shares or fund units, investors can sell gradually, particularly if they believe the shares will rise in value. When a single investment represents an outsized percentage of your portfolio, it is wise to de-risk by bringing the allocation back to an acceptable range.

Rita Silvan, CIM is a finance journalist specializing in women and investing. She is the former editor-in-chief of ELLE Canada and Golden Girl Finance. Rita produces content for leading financial institutions and wealth advisors and has appeared on BNN Bloomberg, CBC Newsworld, and other media outlets. She can be reached at rita@ellesworth.ca.