Reader David had the following thoughts on taking profits:
I do not recall you writing about taking profits. We have all heard the old slogan of “cut your losses and let your profits run”. It seems to me that there must be circumstances where you might want to sell part (or all) of a very successful position to lock in some profit before 7% or 10% of it was given back by your stop.
One case would be if you wanted to rebalance your allocations. Another might be because you felt that its price (or the over-all market prices), had reached unsustainably elevated levels…. for example, if it was 30% or 50% or 70% above its 50 day moving average, or if it moved into a flat trading range after a long steady ascent, and the general market had become rather volatile.
I do not expect you to give any precise numerical rules; it’s obviously partly a matter of personal temperament, zeitgeist, and context. Please give us the benefit of your experience.
Let’s recap. The use of the trailing sell stops fulfills two purposes:
1. It limits our losses in case the trade goes against us, and
2. It locks in our profits, if prices continue to rise
This means, short of needing cash from my investments, I let the duration of the trend be my guide as to when to exit a position.
If you don’t, you are just making a wild guess as to when to take profits. In your example above, you might consider taking them when a position has risen 30% above its 50-day M/A, but that is just an arbitrary number that has no resemblance as to any momentum changes.
Since we get whipsawed occasionally, which may result in a loss, we absolutely have to make up for that shortcoming by letting profitable positions run until the end, when the trend bends, reverses and stops us out.
I have not found any other way to identify an exit point with better reliability and consistency. Along the same line, you want to keep it simple by having a clear plan that does not rely on a bunch of indicators no one will use.
The goal here is to have an exit strategy in place designed to take the emotions out of the decision making process. If you can do that, you will be better off more often than not, according to my experience.
Comments 1
While I think you can't go wrong following Ulli's advice, it also makes sense that a sector rotation model can enhance performance. I use such an approach with my Fidelity Select funds. You can only trade once month. As long as the sector fund I'm in is performing well, I might stay, but if there is a better performing sector, it makes sense to jump to that, especially if my current fund is on the decline. There are no transaction costs, so why not rotate into a hotter sector? Ulli's weekly data sheet is a very valuable tool in assessing the momentum of sector funds.