Investors love it when the stock market is up and their individual stocks are performing well. However, the stock market is not always up and your stocks will not always be profitable. The hardest part for a new investor is knowing when to cut your losses and when to capture your profits. Typically, when a new investor is asked when they plan on exiting their stocks, they say when the stock rises to a certain price. Most times, a new investor will ride their stock up to a significant profit (but never quite reaching their target price) and ride it all the way back down to a loss before selling and ending up with a loss instead of a profit. This is not an exit strategy. Emotion gets in the way of trading stocks successfully.
By having an a pre-determined exit strategy, you can take the emotion out of stock trading. With an exit strategy, you can cut your losses and capture your profites automatically. To cut your losses, set up a stop loss order so that if your stock drops to a certain price the stock will be sold. This way, there will be no emotion of waiting for the right time to sell, and no riding your stock all the way down to the bottom. Cut your losses. You can also use a trailing stop, which is the same as a traditional stop loss, however it is dynamic and it will rise as your stock price rises. For instance, with a trailing stop you can specify that your stop will be a percentage or a dollar amount from the current trading price. This way, if you buy GOOG at $500 and set your trailing stop to be at 20%, the stop would be at $400 if the price of GOOG is $500, but if the price of GOOG continues to go up to say $600, the trailing stop would follow it up and always stay 20% back, and rise to $480. This is a good way to capture your profits from GOOG rising up in price instead of having to wait for GOOG to fall all the way down to a static price of $400.
Another good way to capture your profits is to set prices to where you will take some off the table. For instance, if you own GOOG at $400 and you want to sell it when it gets to $500, start to take a little of the table even before it gets to $500. That way you will assure yourself of at least some profit in case GOOG never quite makes it up to $500. A good way to do this is to sell a third of your positon at 30% of your price target. This means if your price target is $500, sell a third of your shares when GOOG rises to $430. Then sell another third of your shares when GOOG rises 50% to $450. Then if GOOG rises to $500 you can liquidate the remaining shares of GOOG. The good thing with this strategy is that most times GOOG will not reach your target of $500 and you never end up profiting. For instance, if you buy GOOG at $400 and ride it up to $490 waiting before it reaches $500 before you sell, and GOOG then drops back down to $400 and then even lower to $300 before you sell, you end up with a loss when you could have had a profit.
