How to know when to take profits

TL;DR

  • Investors should monitor the performance of their investments by periodically calculating gains and losses.
  • Investors should aim to sell a stock after it experiences considerable growth and before it decreases in value.
  • It is difficult to predict when a stock will start decreasing in value, but economic conditions and news reports can be good predictors.
  • Price targets can be used to predict a realistic future selling price of a stock.
  • Many investors use a quick formula known as the rule of 72 to determine how long it will take to double their investments.

Calculating gains

Everyone enters the stock market with the hope that one day their investments will turn a profit. Long-term investment portfolios, such as retirement funds, are likely to naturally increase in value over time, and therefore, require little oversight. On the other hand, if an investor aims to make a profit over a relatively short period, investments must be monitored closely. A great way to monitor the performance of short-term investments is by periodically calculating gains and losses. To calculate the gain or loss on an investment, simply take the price at which the stock was purchased and subtract it from the current market price. To find the percent increase or decrease, take the price difference, divide it by the original purchase price and then multiply the resulting number by 100. For example, if a stock is purchased at the price of $10 and it goes up in value to $15, the dollar gain would be $5 and the percentage gain would be 50%. If an investment experiences a considerable gain, it may make sense for the investor to sell it and recognize the profits.

When to take stock profits

One of the hardest parts of investing is knowing when to sell. If a stock is showing considerable gains, some investors may quit while they’re ahead and choose to sell the stock. On the other hand, some investors may hold on to the stock in hopes that it will grow further in value. While the former investor risks the stock increasing further in price and losing potential gains, the latter investor risks the stock dropping in price and losing any unrealized gains. This dilemma begs the question, how does an investor know when to take profits on stock?

While it is extremely difficult to predict when the price of a stock will decrease, there are a few warning signs that investors should look for. In general, the news tends to be a good predictor of stock trends. If the news reports that a particular industry is struggling, or that a company is about to experience a negative change in its business or executive board, stocks in that industry or company may decline shortly after. Similarly, if a company announces that it is cutting back on or removing dividend payouts, this may signal to investors that the company is struggling financially, which could also cause its stock price to decrease.

Even if there are no negative warning signs, it may be a good idea to sell a stock if it experienced considerable growth. Setting a target price for a stock upon purchase is a good way of keeping track of when it may be best to sell. A stock’s target price represents a realistic future price that, if reached, would present the investor with unrealized gains. Investors often try to buy a stock when it is undervalued, therefore a future price target should represent what an investor believes the stock is worth. If a stock is overvalued in the market, it will eventually correct itself and drop in price. For this reason, many consider it a good time to sell when a stock reaches its target price. Check out some techniques for calculating a target price here.

The rule of 72

Making a profit on an investment takes time and it is often hard to calculate how long it will be before returns are substantial. To avoid the complex calculations associated with finding the amount of time it takes to double an initial investment, many people use what is called the rule of 72. The rule of 72 is a fast formula that uses a rate of return to estimate how many years it will take to double an investment. Simply take the number 72 and divide it by the rate at which an investment is projected to grow. For example, if an investment is projected to grow 6% every year, divide 72 by 6 to get 12 years. Therefore, in this example, it would take 12 years to double an investment that is growing at a rate of 6%. If an investor is looking to make a specific return on an investment before selling it, this is a great way to estimate the timeline.

Bottom line

At the end of the day, determining when to sell a stock and make a profit is extremely difficult. If a stock grows a considerable amount and presents an investor with the opportunity to make a large profit, it may be worth selling. The investor who holds on to a stock for too long, may see a dip in price and end up missing out on unrealized gains. Many investors set a price target, or projected future stock price, as a benchmark for selling an investment. Although some warning signs may suggest that it is the right time to sell an investment, the stock market is unpredictable. Because of this unpredictability, staying informed and being diligent is necessary when creating a successful investment portfolio.

Courtney is a freelance writer and finance professional based out of New York City. You can connect with her on Twitter at @CourtSaintJames.

The above content is provided is paid for by Public and is for general informational purposes only. It is not intended to constitute investment advice or any other kind of professional advice and should not be relied upon as such. Before taking action based on any such information, we encourage you to consult with the appropriate professionals. We do not endorse any third parties referenced within the article. Market and economic views are subject to change without notice and may be untimely when presented here. Do not infer or assume that any securities, sectors or markets described in this article were or will be profitable. Past performance is no guarantee of future results. There is a possibility of loss. Historical or hypothetical performance results are presented for illustrative purposes only.

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