Knowing when to sell a stock is always difficult!

Friday, Feb 24 2017 by
24

58b0234b73b9fdear_diary.jpg


My Weekend Diary

Many years ago,  I made that rare trip to the big city.  My sole purpose was to visit my stockbroker’s office to get some advice on stocks. In the reception area was the receptionist and a client seating area. The receptionist had the simple task of informing staff that particular clients to their offices had arrived and were waiting down in reception for them.

On the receptionist's desk, visitors could view the latest morning stock price movements on single A4 sheets. Making polite conversation, I asked the receptionist why XYZ Ltd stock was rising so much on the market.   Her response was because more people were buying than selling.   Obviously, a lady of few words, with no knowledge of stocks.  I reckoned her job description was to greet clients and answer the phone only.  I decided to give her one last chance to redeem herself and asked why another company MNOP Ltd was falling so much. She replied, it was because more people were selling than buying.  Hmm...., I thought to myself.  I hope that stockbroker arrives soon!

The stockbroker duly arrived down with a few analyst reports under his arm. He spoke confidently in business jargon about what particular stocks he would recommend at the moment?  I asked him about the rising XYZ Ltd share price.  The same stockbroker’s considered opinion was that the stock was now overbought and that some profit taking was in order.  Among the stocks, he recommended buying was the falling MNOP Ltd shares. He considered the company's fundamentals to be sound.  Buying now represented even better value after the recent drop.  

Needless to say, the  value MNOP Ltd share price kept on falling and the relatively expensive share XYZ Ltd that was rising, kept on rising.  Some time later, I began to wonder whether the receptionist was very much underpaid given her insight into the stock market .

All investors by their nature are bargain hunters.  We are often attracted to buy cheap stocks that have good fundamentals with a falling share price.  Surely, we should consider that insiders, such as management, institutions and other large shareholders would be in a far better position to make a judgement call on an individual company’s prospects.  As seasoned or novice investors, we tend to overvalue our initial analysis of the company against a market trend.

Reality Check!

These days investors can do their own research.  Investors can read company accounts, see broker forecasts, or watch positive company presentations on-line.  

Frequently, the stocks that tempt investors the most are those stocks that look even better value the lower the price goes. There will be lots of positive broker reports published, plenty of PR spin supported by various magazines' coverage. 

Also don't forget the bullish on-line comments by investors to other investors, encouraging each other to catch these bargains.  The turnaround in the share price is just around the corner is the mantra!

Our confirmation bias dissuade our normal doubts. If we have not bought yet, we rush to buy now before the share gets away from us.  Because we are smarter than the average bear, we buy even more stock often doubling up and re-doubling while our favoured share of the moment continues to evaporate downwards in price..

The "Show" continues for new investors to wade into the stock, until the deafening silence at the end, when all discussion evaporates.  At this point the share price is just a poor shadow of its former high price.  From now on, very little company news is issued and the media coverage dries up.  The "Show" alas has moved onto another share!

Investors finally wake up and ask themselves where it all had gone wrong?  Their failure perhaps was not to have questioned much earlier, why the existing shareholders were bailing out faster than new investors were buying in?

The Receptionist's Quiz (No Purchase Necessary!)

Ignoring the names over the stocks below, where would you decide to exit the stock on a 12 month graph? Start from left to right on each graph, taking three months at a time.  Do you need to see the entire 12 months or could you have got out earlier and why? 


58b024b3a0a72Fairpoint_chart.png

58b0629c7092agattaca_chart.png

58b06682da5c1laura_ashley.png

58b076834d997braemar_chart.png


Future Trading Decisions

I have come to a similar conclusion that rising shares should rarely be sold, even if we think they are somewhat overvalued.  The chances are that we are selling at the wrong time and we may miss out on the gains that come from staying with the trend.


                        58b076eb4c317boohoo_share_chart.png

The time to sell is when the business model for the company is challenged or the share price begins to underperform its sector, and the 50-day moving average is broken.

Action Taken

Yesterday, I followed my own advice and sold Genus plc.  The price action says that I am at the wrong side of the trade. 

Genus plc Share Price Performance


 Genus plc (GNS)

52w High

-18.2%

50d MA

-2.54%

200d MA

-3.55%

58b068988c763Genus_chart.png


The Last Word

This article is a self note to myself to be more disciplined.  I need to sell stocks sooner rather than later when moving averages decline.  A few sample stock graphs does not prove a rule or provide a system. This strategy will not provide protection from the unexpected profit warnings, but could still save investors some money from timely exits from stocks.

Most investors are mostly content with themselves at the moment. Why should they not be?  Aren't their stock portfolios reaching ever higher valuations?  The game is too easy!  The challenge is how to hold onto most of the capital gains earned.  We need an excuse to sell. Any tool that gives an additional reason reason to sell may prove useful. Following the green line might not be the worst approach.

Regards


Dearg Doom

PS (General reading material for amusement purposes only)


Disclaimer:  

All articles and comments are for general information only. No investment advice intended.

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Genus plc is an animal genetics company, which provides farmers with genetics that enable them to produce animal protein, in the form of meat and milk. The Company's segments include Genus PIC, Genus ABS, Genus Asia, and Research and Development. The Genus PIC segment is engaged in porcine sales business, excluding Asia, and serves porcine customers in North America, Latin America and Europe. The Genus ABS segment is engaged in bovine sales business, excluding Asia, and serves dairy and beef customers in North America, Latin America and Europe. The Genus Asia segment is engaged in porcine and bovine business in Asia, and serves porcine, dairy and beef customers in Asian markets. In the porcine market, it sells boars and sows. In the dairy and beef markets, its primary product is bull semen. The Company offers embryos through its subsidiary, In Vitro Brasil S.A. Its porcine business has a network of over 600 breeding herds in approximately 40 countries. more »

LSE Price
1746p
Change
0.7%
Mkt Cap (£m)
1,061
P/E (fwd)
24.3
Yield (fwd)
1.5

Fairpoint Group plc is a United Kingdom-based company, which provides consumer professional services, including legal services, claims management services and debt solutions. The Company has four segments: claims management, legal services, individual voluntary arrangements (IVA) and debt management plans (DMP). The IVA segment consists of the subsidiary company, Debt Free Direct Limited, which is an IVA that consists of a managed payment plan providing both interest and capital forgiveness. DMP services segment consists of the Company's subsidiary, Lawrence Charlton Limited, which provides DMP for consumers. Claims management segment provides a range of claims management services, including reclaiming payment protection insurance (PPI). The legal services segment provides a range of consumer-focused legal services with lines, such as family law, complex personal injury, personal legal services, and a legal processing center focused on both personal injury and conveyancing work. more »

LSE Price
10p
Change
 
Mkt Cap (£m)
4.8
P/E (fwd)
0.7
Yield (fwd)
68.0

Gattaca plc, formerly Matchtech Group plc, is a human capital resources business dealing with contract and permanent recruitment in the private and public sectors. The Company operates through two segments: Engineering and Technology. The Engineering segment comprises Barclay Meade and Alderwood recruitment consultancy brands. The Technology segment includes the Connectus recruitment consultancy brand. The Company is a provider of specialist recruitment services to the engineering and technology industries, both in the United Kingdom and internationally. The Company offers three core solutions: Contingent Workforce Solutions, Permanent Recruitment Process Outsourcing (RPO) and Total Workforce Solutions. more »

LSE Price
304p
Change
-1.6%
Mkt Cap (£m)
97.6
P/E (fwd)
7.6
Yield (fwd)
7.4



  Is Genus fundamentally strong or weak? Find out More »


16 Posts on this Thread show/hide all

jonno 26th Feb 1 of 16
4

Wise words indeed Dearg and an excellent and amusing article. I held Gattaca, EasyJet and Next for far too long; all of which have now been sold, at about a 40% loss. Although all are good companies and in particular Next, in my view, the continued persistent downward drift of the share price tells the story, which after much hesitation I eventually woke up to.

On the other side of the equation I was fortunate to buy Tristle and Brainjuicer, when they were inexpensive. Both have more than doubled in price and are now on racy multiples, which raised the difficult question of do I sell. Not wishing to run the risk of giving my profit back to Mr Market, I sold half of my holding in each. Whether this was the right decision time will tell.

The art of compromise I suppose; find me a fence and I will sit on it, so to speak.

All the best


Jonno

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Nick Ray 26th Feb 2 of 16
6

If you sell when P < SMA(P,50) you are in effect selling when you think the "drift" ( = expected return) has become negative as measured on a 50-day time period. (In other words when the price is falling on a 50-day basis.)

Now let's generalise that a little. The daily drift can be approximated by (1/25)*(P/SMA(P,50)-1) ? Why? Because SMA(P,50) is a smoothed estimate of the price 25 days ago, so we take 1/25th of it for a daily drift rate. With this formula selling when P < SMA(P,50) is still just selling when the estimated drift goes negative as before.

In general, on an N-day basis, estimated drift = (2/N)*(P/SMA(P,N) - 1). But why wait to sell until the drift goes negative? Why not sell before it goes negative? Have a minimum acceptable rate (MAR) and sell if drift < MAR. And also use a longer period than 50 days. I find that between 200 and 500 days (about 1-2 years) works well - but note that you are asking for a bigger gap above the SMA line rather than touching it with this system.

As a further refinement you can divide by the standard deviation (sigma) of the drift which gives you the Sharpe Ratio (SR):

SR = (drift - MAR)/sigma

This division is not needed if you just want to sell when the SR for a stock goes negative, but you can compare the SR on several stocks and choose those with the highest SR for your chosen MAR. These stocks will in theory have a higher probability of staying above the MAR at least in the near future.

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Patxi 27th Feb 3 of 16

Based on the 4 examples of declining stocks shown above, selling at the point where the price crosses the SMA50 for the 2nd time in a negative direction appears to be quite reliable.
I'll do a bit more research on this observation before I write a book about it though!

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herbie47 27th Feb 4 of 16
2

Dearg, it is an interesting article but I don't think it's quite as clear cut as you make out. Yes in those 4 examples its clear that you should have sold early on. However I would argue that selling winners on dips to the 50MA or below is wrong and it can be a buying opportunity, one example would be JD Sports Fashion (LON:JD.) Also most shares dip down to the 50MA line, even high flyers such as Burford Capital (LON:BUR). Some shares that have done well for me are Ab Dynamics (LON:ABDP), Bioventix (LON:BVXP) and Tristel (LON:TSTL), the last 2 I did top up on falls. Cohort (LON:CHRT) you maybe interested in studying also. My strategy now is to hold winners and top slice on peaks and top up on dips, having said that I have just sold Next Fifteen Communications (LON:NFC) with 70% profit.

After you have sold, do you look to rebuy and if so when?

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Mark Carter 27th Feb 5 of 16
1

In reply to Patxi, post #3

An interesting point.

Personally, I'm a bit leery about selling out when P touches SMA(P,50). I consider it a support point, and hence a possible buying opportunity. Also, a little bit of "drift" is not necessarily bad. It could just be that it's gathering breathe for the next move forward.

Therein lies the condundrum: a buying opp, or a signal that momentum has broken down.

How to resolve the issue? I'm not sure! Two possible ways to tackle the situation:
1. look at news flow and market reaction. You may decide that the this completely changes the complexion of everything, and hence answers your question as to whether to buy or sell
2. decide on a support level for the share. If the company breaks both the 50SMA and support level, then it's a sell.

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Mark Carter 27th Feb 6 of 16
2

Laura Ashley Holdings (LON:ALY) is a very interesting share. They did that property deal, and the market has been suspicious as to what's going on. A clear negative trend was established.

Now, you could have argued that it was a definite value share - and I wouldn't have argued with you.

The problem then came with the Feb Interim Results, which precipitated another sharp decline. Like-for-likes were down, and the interim dividend was cut to 0.5p.

With the benefit of hindsight, it is now no wonder that the shares have been a complete disaster.

It also raises some questions as to either the competency and/or integrity of management.

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herbie47 27th Feb 7 of 16
2

In reply to Mark Carter, post #6

I mostly agree although there are plenty of examples that even breaking the support level that does not always work, some I have outlined some already in JD Sports Fashion (LON:JD.) Bioventix (LON:BVXP) and Tristel (LON:TSTL) all 3 had great buying opportunities, JD Sports Fashion (LON:JD.) at 207p, BVXP @ around 950p and TSTL @ around 90p. OK JD was to do with Brexit, as we now know that was a great time to buy shares.

Looking at high flyers I note many touch the 50MA or breach it, so I don't consider the share has lost momentum then, even Fevertree Drinks (LON:FEVR) breached the 50MA about 8 times in the last 2 years but the sp is up nearly 5x.


Yes looking at the news flow and reasons for the fall, sometimes it's nothing to worry about maybe just some media story, sometimes incorrect information, big falls on no news is more concerning. I don't think there are any rules, each share should be considered individually.

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Dearg Doom 27th Feb 8 of 16
2


There is no holy grail to be found in charting. The future direction of a chart is often in the eye of the beholder.  I'm not a chartist, but I do use them. They are just one part of my thinking process for buying a stock.  I feel to date, that I was not using them enough for the reverse process of selling.  I find I need more reasons to sell a stock than to buy, so moving averages may help with the discipline.

Events such as Brexit in June 2016 would have possibly dropped most UK listed shares below their 50-day moving average. The blip below the 50-day moving average on that occasion could be ignored. But the failure however, for the stock not to get back above the 50 day average within a month or two, could be more important as a selling factor.

I take on board the comments about breaking twice the 50-day moving average as a possible key turning point. I also like myself the idea of giving a chance for a share I own to catch its breath below the 50 day moving average before selling. Sometimes the randomness of stock price movements make fools of us regularly.

Back to Top of the Charts

Let us look at a few more charts that seem to have a definite signal or maybe not.  The charts below suggest that if the share price stays above the green line on regular basis, than the share price tend to move upwards to the right of the graph.  If on the other hand the stock spends two or three months below the green line, than the stock continues to move to the lower right corner.


Burford Capital (LON:BUR)

Next (LON:NXT)

Bonmarche Holdings (LON:BON)

Carpetright (LON:CPR)


Fund Manger Quiz

Imagine you are a fund manager with a 12 month view.  Presume also, that you are investing on charts above alone. You have no knowledge of the companies' market capitalisations, profit forecasts or sectors.

  1. Which of the four companies offers the safest positive return for your investors?  
  2. Which share has the greatest risk of loss for your fund?
  3. Is Carpetright a buy based on the chart?

Here in lies the investors' dilemma!  Tomorrow's cars may only have passengers and little driver assistance. Can we allow charts likewise to self-drive our own investment decisions?

Hopefully Ed in his webinar may show us how to chart more effectively taking into account the comments and suggestions raised by readers.

Regards

Dearg Doom











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Nick Ray 28th Feb 9 of 16
2

I had a think about how to graphically present the idea of beating a target "minimum acceptable rate" u0 and came up with this.

We want the estimated return (2/N)*(P/SMA(P,N)-1) > u0

Rearranging this gives us P > SMA(P,N)*(1+(N/2)*u0) instead of the simple P > SMA(P,N) of the original piece.

(Since this is a daily rate, a MAR of 25% p.a. would be
calculated as u0 = (1+(N/2)*(1.25)^(1/220) assuming 220 working days per year)

So graphing BUR and NXT and showing the SMA(50), SMA(200) and the lines for a required 25%, 35% and 45% return p.a. (red, blue, cyan, pink, orange) we get the following charts. You can see the formula I used on the charts.

58b4c68a7763dbur.png58b4c6e0b229fnxt.png

Essentially you use a smoother SMA which you then nudge upwards by an amount equal to your target return.BUR just clips the 45% return line, which is a very strong performance. NXT cannot even get above the SMA(200) with a 0% target return so any time it is spending above the SMA(50) is not really a buy signal.

(Connoisseurs will also note that BUR has much lower volatility than NXT which is also in its favour.)

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Nick Ray 28th Feb 10 of 16
1

Just to correct an error in the above post, the calculation of u0 is messed up. The sentence should say:

Since this is a daily rate, a MAR of 25% p.a. would be
calculated as u0 = (1.25^(1/220)-1) assuming 220 working days per year

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Mark Carter 28th Feb 11 of 16
2

All TA is only indicative, so I am leery about all that algebra.

I think one may need to marry TA with FA.

The charts are quite interesting, actually. Next and Bonmarche are in clear downtrend. Burford is in uptrend. It's Value score is 14, which is quite low. So maybe hold and hope it rebounds off the 50dMA; but risky to buy.

CPR looks like we have a trend reversal here. Value score is 87, market reaction to latest trading statement looked good. I never thought about the share before, but it looks like it bodes well. It will be interesting to see how this one goes.

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Noodle Hat 28th Feb 12 of 16
1

If interested in moving averages violation perhaps look into Gill Morales of O'neil disciples fame and his moving average violation theory.

Basically that first violation of the MA is okay, its only if it then trades below the intraday low of that initial violation which indicates a true violation and sell signal, helps avoid one off day violations of the MA shaking you out,

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aflash 1st Mar 13 of 16
1

The article made me laugh out loud and Nick Ray's formula is brilliant. I suggest Dearg Doom turn to writing for extra income.

My unconventional contribution is this. I have just sold FRP (Fairpoint) and a week or so ago BMS (Braemar) for small profits because I waited until what seemed to be 'sellers exhaustion' to buy and sold on the bounce.

If you moved your BOO (BooHoo) chart back to the IPO you would find a similar drop to the other charts. We just all bought at the bottom.

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Hot Socks 8th Mar 14 of 16
1

In reply to aflash, post #13

I agree with you - quality of timing is judged with hindsight.

The value strategy works long term because if you buy things for a price that is less than their intrinsic worth then you have an asset which is worth more than you paid for it and in the long term that has a good chance of out weighing short term volatility. Implementing the strategy is just a teeny bit harder than the theory but in my view a good start is to delete all charts before you start because they mislead you as to value (just because the share price has gone down 50% doesn't mean its good value).

Buying on the basis the price is rising is a momentum strategy which seems to work for a lot of people. As far as I can see the strategy is about buying as soon as a clear upward trend is established and selling fast if it turns. The period of owning the share is then naturally on the upward swing in the chart.

It seems to me the advantage in a rules based approach to selling is it forces a decision to sell once sentiment turns. I've not seen anything that makes me think there is a magic route to getting the timing right - whatever method you use its bound to be right some of the time and wrong some of the time, but statistically if your approach maximises your chance of owning mainly on the upward trend then overall it should (in theory) win out which is why momentum strategies work in general, although clearly they will work better in bull markets and be hard to follow in bear markets.


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zeibots 8th Mar 15 of 16
3

Interesting how most of the comments focus around the 50SMA. This does make a certain amount of sense as many traders/investors look at this and hence it can be a self fulfilling prophesy but there are other indicators that may well give an earlier warning or confirmation of the existing trend.
The big boys do tend to leave their footprints in the market that are there for all to see. What they do is ultimately confirmed in the subsequent price action. You cannot hide volume.
There are three indicators that I look at from the investor rather than the trader perspective. They are OBV, Acc/Dist, and MACD. These I think should all be set in the WEEKLY mode to remove the market noise.
No single indicator tells you the full story everytime but the consensus of these three enable me to make timely entries and exits from my portfolio.

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Allen2020 16th Mar 16 of 16
1

Selling is hard for me also , but having a trading plan with hard rules to go by is king.

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