Buying stocks is easy, as those of us who manage our own trading and investing portfolios know. Maybe we bury ourselves in research and ratings, such as Weiss Ratings, and use that information as a guide to purchase shares of a company. Or, maybe we take our cues from talking heads on financial television networks.
Some of us may even consider tips from our cousin’s dental hygienist, who fancies himself as a stock guru. Whatever our motivation, most of us are adept at sitting in front of our monitors and clicking on the “Buy” button at our broker’s website.
Once the shares are purchased, however, many active investors don’t have an exit plan. “Heck,” they declare, “As long as the stock goes up, I’ll hang onto it.”
But what if the market decides to sell off—and the stock slides south? You may remember, as I do, the market’s miserable meltdown in 2008 and into the first quarter of 2009. I talked to so many investors who felt helpless and hopeless. Why? They didn’t have an exit plan.
As a trading and investing educator, I encourage my students to set protective stops to minimize losses and capture the best gains.
Some investors use a discretionary stop loss method of 7% to 8%. That is, if their stock moves 7% or 8% (of the price per share) below their entry, they sell.
Alternatively, you can use a technical stop loss method that is essentially a “trailing” stop. For example, if your stock’s price closes for two consecutive days below its (simple) 50-day moving average (daily chart), consider exiting the position.
I use the 50-day moving average because this single line indicator is watched by many institutional traders and investors. (Institutional traders and investors are the folks who move markets; they buy/sell millions of shares at a time.) Moreover, most are more inclined to purchase stocks that trade above their 50-day moving average line, and may avoid stocks that trade below it.
Moreover, if your equity’s price trades above the 50-day line, it means that stock is strong and trending above its average closing price for the last 50 trading days.
If you don’t have charting software, you can easily find daily charts plotted with a 50-day moving average online, as it is a commonly used moving average indicator.
The daily chart of Wal-Mart Stores, Inc. (WMT) below, shows the retail behemoth rising to an all-time high of $90.97 in in January of 2015. Then, in February, it dove below the 50-day moving average (green line) for two days, then rebounded. It then quickly reversed again and headed down decisively (red arrow). For me, that would be the final exit signal. Note that the stock remained below its 50-day line until the last week in December.
Chart Courtesy RealTick®
Active investors who exited at ~$85 in February would have avoided Wal-Mart’s 32% drawdown that took place in 2015.
I know what you’re thinking: When should I re-invest in Wal-Mart?
Technically speaking, when the stock reversed to the upside and punched above its rising 50-day moving average in December, that is one potential re-entry (or entry) point. Naturally, your protective stop strategy remains the same.
Knowing when to buy a stock is a great skill set to have in place. But knowing how to manage risk and when to sell it can be the deciding factor in investing success!
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Toni Turner is the President of TrendStar Group, LLC, is an accomplished technical analyst as well as a popular educator and sought-after speaker in the financial arena.
She is also the author of best-selling books: A Beginner’s Guide to Short-Term Trading, Short-Term Trading in the New Stock Market and Invest to Win: Earn and Keep Profits Bull and Bear Markets With the GainsMaster Approach, co-authored with Gordon Scott, CMT.