Determining an Exit Price for a Stock
I had a hard time when I began to invest in stocks in deciding the best price to sell my shares, exit the position and quantify my tax calculation. Figuring out the entry point is only part of the challenge. Knowing when to get out is where returns are realized. Until an investor is out of a position the gains are not real yet. I’ve certainly been in that position more than a few times where I start to celebrate or even mentally spend my new profits only to see them melt away as the stock falls.
I spent time reading books and articles on how to value a stock and how the macroeconomic factors affect the price of a stock. Before long I became overwhelmed with all of the data. Around that time, Enron went belly-up along with a number of other corporations built on lies that didn’t make it above the fold in newspapers. I started to wonder what was the point in pouring over all this data if it could be made up of less than accurate statements. Even when the corporate accountants are honest, an investor has to figure out what the difference is in the bottom line and pro-forma earnings and one time write offs and tons of other screwy accounting tricks that are all actually legal.
I finally took a step back to focus on what worked for me. Clearly all of the above criteria works for some investors, but I just couldn’t move quickly enough based on so much data. That’s when it clicked for me. I was already selling naked puts and covered calls which automated my exit strategy. I realized that by spending my time focusing on an entry point and less about the exit point I could trade more often and have greater realized gains. If I can pick the right entry point, the options I sell will get me out of the stock without using my time to second guess myself. If I want to keep the stock I have to do all of my research again on where to enter a stock.
To me, that’s the best way to decide if you should exit a stock. If you can say to yourself that this is a good buying point, then you should stay invested. If you aren’t sure if you would buy the stock at the current price, get out. I’ve never understood the analysts who rate a stock a “hold”. Why would you hold a stock that you don’t think is going up. All stocks should be either a buy or sell. If you aren’t sure, then it is a “do not hold” because another stock is probably a better place to invest your cash.
Coming to this rationalization of how and when to take a profit became a major cornerstone in my investing model. Typically I wrote covered calls after a naked put is assigned to me. On occasion I held the stock long with no option covering it. Sometimes I was right to do so and the stock went up giving me extra profit and sometimes it went down causing a loss of “paper profit”. I changed my strategy to invest strictly based on premiums from options. If assigned a stock from a naked put, I immediately sell a covered call on it the following trading day. The only decision I have to make is at what strike to sell the covered calls. I remove the pride issue of trying to get back to even on the entire series of trades and base the strike on where the stock is trading that day. In essence I am cutting my losses early and starting over in the process of increasing my account value again from that day forward. That’s the final goal anyway, have more in a month from now than you do today. Keep that in mind, don’t focus on what could have been and the higher long-term returns will come.
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