When Do You Hold or Sell a Losing Position? It’s a common question from readers here at StockIdeas.org. And while there are no one-size-fits-all rules for when to hold or sell a losing position, there are definitely some best practice guidelines that can help you determine what you should do when you’re holding a losing position.
So in this blog post we’ll first review the risks with holding a losing position and different courses of action you can take to try and get yourself out of the position. Sound good?
Two Types of Losing Positions:
When you are dealing with stocks you need to be careful to discern if you are investing or trading. If you’re a long term investor, you might have a bit more leeway dealing with losing positions whereas if you are a technical trader you will want to cash out and put your money to work somewhere else. Make sense?
So: If you’re in a losing stock position you need to know why you bought the stock in the first place. If it was just a short-term trade based on a technical set up then you need to sell your losing position. Admit your set-up didn’t work and move on. I usually look for a 7-8% stop loss at the absolute maximum. Taking bigger losses than that is just too painful and can destroy far too much capital. For example…
If you lose 25% on one trade you need 50% to earn it back. You simple must admit your thesis went wrong and move on when you having a losing position based on technical trades. Got it?
On the other hand:
If you’re a long term investor you might not even know what technical analysis is. And that’s okay too. In that case, it’s best to dollar-cost-average and slowly and build your position over a couple of months. In this case you don’t need to worry about whether you are winning or losing on the position right after you buy it. Of course…
If your long term fundamental thesis (aka reason for investing) changes then you will want to cut your position. And if the stock price crashes this might be a warning that not everything was as you perceived so best to revisit your thesis.
But otherwise as long as the position isn’t too big a percentage of your portfolio you shouldn’t worry too much about the short term fluctuations in price.
Two Risks of Holding a Losing Position:
There are two main risks of holding a losing position. The first and obvious risk of holding a losing position is that you will have to realize a capital loss. This sucks in a few ways. Not only do you have less money than when you started but you also have to admit you are wrong. This admission of error can often be the most difficult think about selling a losing position. But you need to realize everyone makes mistakes and as long as you keep the loss small it isn’t a huge deal.
If you don’t give in and lose a little bit of money, you have to deal with the second risk of holding a losing position. And the second risk of holding a losing position is that you will not make your money back and you will waste a lot of time. You see…
The losing stock you are holding doesn’t have to crash, but even if it just oscillates at 10-15% below your cost basis you will agonize over the position. And you won’t be able to use that money for anything else. It will be trapped! Having your capital tied up for long periods without a return is a real risk! Even if the stock eventually breaks even you will have had to wait months at a time and been unable to use the money for other investing opportunities in the interim. Do you see the risk?
Now that you understand the different reasons for buying a stock and the difference between holding losing trades and losing investments let’s take a look at a prudent approach to managing losing positions in the future…
How to Always Avoid Getting Stuck Holding a Losing Stock Position:
The easiest way to avoid holding or selling a losing position is to come up with a simple trading plan. Your trading plan doesn’t have to be anything groundbreaking. But when you commit to buy targets, sell targets and stop losses then you know each and every day what to do.
If your stock quickly drops 10% you know in a heartbeat if it was a quick trade you should stop out of, or a small starter position of a long-term investment you can average down it. Does that make sense? When you’re prepared for a stock to drop you won’t be held wondering if you should hold or sell a losing stock position.
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