When should you sell a stock?

by June 12, 2009

Interesting question, with many views and answers, lets take at a look at some of those answers and maybe determine which reasons are suitable for sell ing your stock.

Answers from some Wilson Parkson:

When a Stock is Over Valued
Can there be too much of a good thing? There certainly can in the market. When stocks are pushed way past their true value, they are often set up for a fall. The strategy is to sell when they are over valued and buy them back after a market correction has knocked the price back down. This, of course presumes an accurate knowledge of the top and bottom of prices – something very few of us are particularly good at with any consistency. Selling an over-valued stock is certainly preferable to buying an over-valued stock. Just be prepared to watch it keep going up after you sell, as happens sometimes. Don’t second-guess yourself; it could have more easily gone the other way

Rebalancing Your Portfolio
You have decided that the best allocation for your circumstances is 60% stocks, 30% bonds and 10% cash in your portfolio. Good fortune has smiled on you and your stocks, which are now valued at 70% of your portfolio. As tempting as it might be, your best move is to rebalance your portfolio by selling off some of your stocks and bringing the percentages back into alignment. Obviously, the stock(s) you sell should meet the long-term capital gains test of one-year ownership. Beyond that, look at how your stocks break out and decide which stocks can be sold to keep the diversification intact.

Philip A. Fisher answer:

The best answer was provided by the elegant Philip A. Fisher, who died in 2003 at the age of 96 after a 74-year career as a money manager. In his important book, "Common Stocks and Uncommon Profits," published in 1958 and currently available in a paperback edition, he wrote, "It is only occasionally," he wrote, "that there is any reason for selling at all." The occasional reason? According to Fisher, it is the deterioration of a company's underlying business. "When companies deteriorate, they usually do so for one of two reasons. Either there has been a deterioration of management, or the company no longer has the prospect of increasing the markets for its product in the way it formerly did."

In other words, sell if something has gone wrong -- not with the economy or the market, but with the business itself. A key product has failed, or new competition has driven down prices, or management gets distracted.

There are other reasons to sell. You might, after all, need the money. Stocks are long-term investments (that is, you should plan to hold shares for five years or more), but emergencies come up, and your cash reserves might not be sufficient. Finally, sell when you have the slightest doubts about the integrity or focus of management. When a company is accused of deceptive accounting, for example, examine the charges and, if they seem serious, sell the stock. Don't wait for the jury's verdict.

Of course to most retail investors, by they time they realise that the companies they are holding starts losing those competitive edges, or management starts acting funny, the share price will either come crashing down or get suspended. So, the question here is, what subtle signs are there to look out for, to foresee such things that might happen and sell the share with regards to that? -Akat
This what i found out from investopedia

Margins

I'll start with margins, which are useful for detecting deteriorating competitive or operating conditions. Margins are the profit a company makes on its sales. For example, a 25% margin means the company is making 25 cents for every dollar of sales. Gross margins are a measure of profit before a company accounts for overhead, marketing, research and development, interest and taxes. Rising gross margins tell you a company is reducing production costs or raising prices. Conversely, deteriorating margins say either that production costs are increasing and the company can't raise prices proportionally or that the company is cutting prices in an attempt to maintain market share.

Operating margins are a gauge of profit after a company accounts for overhead, marketing, and research and development. Rising operating margins generally indicate the company is operating more efficiently. However, falling operating margins signal something is amiss. Often, operating margins drop because the company has to increase advertising and other marketing expenses to maintain sales growth.

Margins tend to move in trends. That is, if margins rose in the previous quarter, they will probably be even higher in the current report. That's good news because rising margins usually lead to positive earnings surprises. Margins might fall for innocuous reasons, such as expenses related to a new product's introduction. However, falling margins, either gross or operating, often signal a declining competitive position. Thus it's important to check both. Calculate gross margins by dividing gross operating profit by sales for the same period. Calculate operating
margins by dividing operating income by sales.You can find all three items on MSN Money by looking at quarterly income statements. To rule out seasonal variations, always compare the most recent quarter's margins to the year-ago quarter.

I'll use specialty retailer Tween Brands to illustrate the process. Tween's share price dropped more than 30% after the company reported disappointing quarterly results in July. So we would have relied on its April quarter report to detect red flags warning of that event.

Find the income statement in the Financial Results section under Statements. The default is an annual income statement. To analyze margins, select the quarterly income statement, which lists data for the past five reported quarters. For Tween Brands' April 2008 quarter (which actually ended May 3), the income statement listed revenue (sales) of $251.74 million, gross profit of $86.34 million and operating income (profit) of $8.45 million. So the gross margin was 34.3% (86.34 divided by 251.74), and the operating margin was 3.4% (8.45 divided by 251.74).

Doing the same calculations for the April 2007 quarter yielded gross and operating margins of 37.9% and 8.1%, respectively. (Because the statement lists only the five most recent quarters, the April 2007 data disappeared when the July 2008 results were posted. So you won't be able to check my math for April 2007.)

First red flag: Deteriorating gross and/or operating margins

Tween Brands' April 2008 gross margin dropped to 34.3% from the year-ago 37.9% figure. That's a 9.5% drop. Small changes in gross margins translate to big changes in reported earnings. Consider a year-over-year gross-margin drop of 5% or more (for example, from 20% to 19%) a red flag.

Tween's operating margin dropped 58% (3.4% versus 8.1%). Operating margins are more volatile than gross margins, so they require more leeway. Consider a 20% drop in operating margins (for example, from 50% to 40%) a red flag. However, treat a 10% drop as a "yellow flag" that requires scrutiny.

Receivables

Corporations usually don't pay cash when they buy from another company. Instead, they have a predetermined time, such as 90 days, to pay for the goods. The amounts owed to a company by its customers for goods received are termed accounts receivables.

Usually, receivables track sales. For instance, if a company sells twice as much as it did the year before, you would expect its receivables to double. Sometimes sales grow faster than receivables, which signals the company is doing better at collecting its bills, which is good. But beware when receivables increase faster than sales. That means customers are taking longer to pay their bills. Here are three reasons that could happen:

  1. The company is slow in billing its customers.

  2. Customers don't have the cash to pay.

  3. The company is giving customers longer payment terms to encourage them to order the products they don't need right away.

Though No. 1 is fixable, reasons No. 2 and No. 3 will likely result in future shortfalls in sales and earnings.

To analyze receivables, compare the ratio of receivables (balance sheet) to sales (income statement) for the most recent quarter to the year-ago ratio. I'll demonstrate using Silicon Motion Technology. Silicon Motion's share price took a big hit after the Taiwanese chip maker reported disappointing June 2008 quarter results.

Here's what you would have found if you had analyzed Silicon Motion's receivables after it released its March 2008 quarter's results:For the March quarter, Silicon Motion's sales totaled $1.586 billion (in Taiwanese dollars), and its receivables at the end of the quarter totaled $920.3 million (a Taiwanese dollar is worth about 3 U.S. cents). So the ratio of accounts receivable to sales, or AR/S, was 58% (920.3 divided by 1,586). The same calculation for the March 2007 quarter yielded a 44.2% figure. Thus Silicon Motions' receivables increased to 58.0% of sales in April 2008, up from 44.2%.

Count the cash Cash flow is the cash that moved into or out of a company's bank accounts during a reporting period. Because cash flow must be reconciled with actual bank balances, it is a more reliable measure of a company's results than reported earnings, which are subject to arbitrary accounting decisions.

Operating cash flow is primarily net income with noncash accounting entries such as depreciation expenses added back in. Generally, operating cash flow should exceed net income. But many companies report positive net income when, if you count the cash, they are actually losing money.

Academic research has found that comparing reported net income with operating cash flow is a good way to spot future problems. Specifically, the researchers found that a situation in which net income grows
but operating cash flow doesn't is a red flag pointing to future earnings shortfalls. Interpreting a cash-flow statement is a little tricky. The quarterly statements show the cumulative year-to-date totals for each quarter instead of each quarter's individual figures. For instance, if a company's fiscal year starts in January, its June-quarter figures include the total of the March and June quarters. To get the June quarter's operating cash flow, you would have to subtract the March totals from the June totals.

However, there's no particular advantage to analyzing the quarters separately. So I make it simple and compare the most recent quarter's numbers to the year-ago figures, regardless of whether they represent single or multiple quarters. Thus you need only compare the change in net income with the change in operating cash flow from the year-ago quarter to the most recent quarter.

Third red flag: Rising net income combined with a decline in operating cash flow

Healthways' May 2008 net income rose 12% over May 2007, while its operating cash flow dropped slightly over the same period.

It's a red flag if net income increased from a year ago but operating cash flow didn't grow. Consider it a yellow flag requiring attention whenever net income exceeds operating cash flo

The answers from Mary Rowland:

1. Do you have too much emotion wrapped up in a stock?

"If you want to be a successful investor, you have to separate yourself from the emotions," said John Zbesko, senior equity researcher at Schwab Equity Ratings at the Schwab Center for Financial Research. "The market doesn't care about your feelings." So don't hang on to a stock just because you inherited it from Grandma or its ticker symbol matches your initials.

2. Do the reasons why you bought the stock still hold?

You can't know when to sell a stock unless you know why you bought it.

"Think about the reasons why you thought the stock was attractive in the first place, and if those reasons are no longer true, then you should [consider selling]," Mr. Zbesko said.

3. Have the company's financial health and future prospects deteriorated?

This is the key question you need to ask.
Assess the reliability of your company's profits well into the future. Does it have sustainable competitive advantages, or can competitors easily horn in on its turf?

Is the company's debt increasing?

Growing debt isn't necessarily bad if the company's profitable and it's using the funds to invest in growth projects or buy back shares. The key question is whether the company can pay its debts long term. Are inventory levels rising? Make sure "accounts receivable" – money owed the company – and inventory aren't growing faster than sales, as that suggests things are getting out of control.

But be careful of bailing just because a company misses earnings estimates.

"You're going to miss some earnings estimates," said William Reichenstein, investments professor at Baylor University. You can overlook an occasional setback, he said, if the reasons why you bought the stock are still valid.

4. Did you miss something when you first evaluated the company?

"Perhaps you thought management would be able to pull off a turnaround, but the task turned out to be bigger than you thought," Pat Dorsey, director of equity research at research firm Morningstar, wrote in an article.

"Or maybe you underestimated the strength of a company's competition, or overestimated its ability to find new growth opportunities," he said. "If your initial analysis was wrong, cut your losses and move on."

5. Has the stock become too large a part of your investment portfolio?

A fundamental tenet of investing is to diversify your holdings. You may want to consider selling if you're overloaded in a particular stock.

6. Is the stock soaring while earnings at the company aren't growing?

"By themselves, share-price movements convey no useful information, especially since prices can move in all sorts of directions in the short term for completely unfathomable reasons," Mr. Dorsey said.
How a stock performs in the future is largely based on the expected future cash flows of the company, so when you're making a sell decision, look to the future, rather than the past.

7. Is the overall stock market rallying but your stock isn't?

Consider selling, especially if it's a stock that tends to move in sync with the market, but don't take that step before analyzing what's going on with the company.

8. Is there a better stock to buy? "The decision whether or not to sell a stock boils down to one rule: Sell an existing holding if a superior stock is available," said Greg Forsythe, senior vice president of Schwab Equity Ratings. Sell a stock if another that suits your risk tolerance and has more return potential – after subtracting any taxes and transaction costs – is available, he said.

9. Do you really need the money and have no other resources?

Stocks are long-term investments, so hold on to them if you can. But if you need the money, by all means sell.

In the future, however, if you expect you'll need the money in fewer than five years, consider putting the funds in a money market mutual fund, which has less volatility.

10. Have you hit your predefined pain threshold?

How bad does the loss have to be before you head for the exit? Once it hits that threshold, consider selling.



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Undiscovered Gem sector- Managed Futures fund!

by June 09, 2009
Many individual and institutional investors search for alternative investment opportunities when there is a lackluster outlook for U.S. equity markets. As investors seek to diversify into different asset classes, most notably hedge funds, many are turning to managed futures as a solution. However, educational material on this alternative investment vehicle is not yet easy to locate. So here we provide a useful (sort of due diligence) primer on the subject, getting you started with asking the right questions.

Defining Managed Futures The term "managed futures" refers to a 30-year-old industry made up of professional money managers who are known as "commodity trading advisors" (CTAs).

CTAs generally manage their clients' assets using a proprietary trading system, or a discretionary method, that may involve going long or short in futures contracts in areas such as metals (gold, silver), grains (soybeans, corn, wheat), equity indexes (S&P futures, Dow futures, NASDAQ 100 futures), soft commodities (cotton, cocoa, coffee, sugar) as well as foreign currency and U.S government bond futures. In the past several years, money invested in managed futures has more than doubled and is estimated to continue to grow in the coming years if hedge fund returns flatten and stocks underperform.

The Profit Potential. One of the major arguments for diversifying into managed futures is their potential to lower portfolio risk. Such an argument is supported by many academic studies of the effects of combining traditional asset classes with alternative investments such as managed futures. Dr John Lintner of Harvard University is perhaps the most cited for his research in this area.Taken as an alternative investment class on its own, the managed-futures class has produced comparable returns in the decade before 2005. For example, between 1993 and 2002, managed futures had a compound average annual return of 6.9%, while for U.S. stocks (based on the S&P 500 total return index) the return was 9.3% and 9.5% for U.S. Treasury bonds (based on the Lehman Brothers long-term Treasury bond index). In terms of risk-adjusted returns, managed futures had the smaller drawdown (a term CTAs use to refer to the maximum peak-to-valley drop in an equities' performance history) among the three groups between Jan 1980 and May 2003. During this period managed futures had a -15.7% maximum drawdown while the Nasdaq Composite Index had one of -75% and the S&P 500 stock index had one of -44.7%. An additional benefit of managed futures includes risk reduction through portfolio diversification by means of negative correlation between asset groups. As an asset class, managed futures programs are largely inversely correlated with stocks and bonds. For example, during periods of inflationary pressure, investing in managed futures programs that track the metals markets (like gold and silver) or foreign currency futures can provide a substantial hedge to the damage such an environment can have on equities and bonds. In other words, if stocks and bonds underperform due to rising inflation concerns, certain managed futures programs might outperform in these same market conditions. Hence, combining managed futures with these other asset groups may optimize your allocation of investment capital.

Evaluating CTAs Before investing in any asset class or with an individual money manager you should make some important assessments, and much of the information you need to do so can be found in the CTA's disclosure document. Disclosure documents must be provided to you upon request even if you are still considering an investment with the CTA. The disclosure document will contain important information about the CTA's trading plan and fees (which can vary substantially between CTAs, but generally are 2% for management and 20% for performance incentive).

Trading ProgramFirst, you will want to know about the type of trading program operated by the CTA. There are largely two types of trading programs among the CTA community. One group can be described as trend followers, while the other group is made up of market-neutral traders, which include options writers.

Trend followers use proprietary technical or fundamental trading systems (or a combination of both), which provide signals of when to go long or short in certain futures markets. Market-neutral traders tend to look to profit from spreading different commodity markets (or different futures contracts in the same market). Also in the market-neutral category, in a special niche market, there are the options-premium sellers who use delta-neutral programs. The spreaders and premium sellers aim to profit from non-directional trading strategies.

Drawdowns Whatever type of CTA, perhaps the most important piece of information to look for in a CTA's disclosure document is the maximum peak-to-valley drawdown. This represents the money manager's largest cumulative decline in equity or of a trading account. This worst-case historical loss, however, does not mean drawdowns will remain the same in the future. But it does provide a framework for assessing risk based on past performance during a specific period, and it shows how long it took for the CTA to make back those losses. Obviously, the shorter the time required to recover from a drawdown the better the performance profile. Regardless of how long, CTAs are allowed to assess incentive fees only on new net profits (that is, they must clear what is known in the industry as the "previous equity high watermark" before charging additional incentive fees).Annualized Rate of ReturnAnother factor you want to look at is the annualized rate of return, which is required to be presented always as net of fees and trading costs.

These performance numbers are provided in the disclosure document, but may not represent the most recent month of trading. CTAs must update their disclosure document no later than every nine months, but if the performance is not up to date in the disclosure document, you can request information on the most recent performance, which the CTA should make available. You would especially want to know, for example, if there have been any substantial drawdowns that are not showing in the most recent version of the disclosure document.Risk-Adjusted ReturnIf after determining the type of trading program (i.e. trend-following or market-neutral), what markets the CTA trades and the potential reward given past performance (by means of annualized return and maximum peak-to-valley drawdown in equity), you would like to get more formal about assessing risk, you can use some simple formulas to make better comparisons between CTAs.

Fortunately, the NFA requires CTAs to use standardized performance capsules in their disclosure documents, which is the data used by most of the tracking services, so it's easy to make comparisons.The most important measure you should compare is return on a risk-adjusted basis. For example, a CTA with an annualized rate of return of 30% might look better than one with 10%, but such a comparison may be deceiving if they have radically different dispersion of losses. The CTA program with the 30% annual return may have average drawdowns of -30% per year, while the CTA program with the 10% annual returns may have average drawdowns of only -2%. This means the risk required to obtain the respective returns is quite different: the 10%-return program with a 10% return has a return-to-drawdown ratio of 5, while the other has ratio of 1. The first therefore has an overall better risk-reward profile.Dispersion, or the distance of monthly and annual performance from a mean or average level, is a typical basis for evaluating CTA returns. Many CTA tracking-data services provide these numbers for easy comparison. They also provide other risk-adjusted return data, such as the Sharpe and Calmar Ratios. The first looks at annual rates of return (minus the risk-free rate of interest) in terms of annualized standard deviation of returns. And the second looks at annual rates of return in terms of maximum peak-to-valley equity drawdown. Alpha coefficients, furthermore, can be used to compare performance in relation to certain standard benchmarks, like the S&P 500.Types of Accounts Required to Invest in a CTA Unlike investors in a hedge fund, investors in CTAs have the advantage of opening their own accounts and having the ability to view all the trading that occurs on a daily basis.

Typically, a CTA will work with a particular futures clearing merchant (FCM) and does not receive commissions. In fact, it is important to make sure that the CTA you are considering does not share commissions from his or her trading program - this might pose certain potential CTA conflicts of interest. As for minimum account sizes, they can range dramatically across CTAs, from as low as $25,000 to as high as $5,000,000 for some very successful CTAs. Generally, though, you find most CTAs requiring a minimum between $50,000 and $250,000. ConclusionBeing armed with more information never hurts, and it may help your avoid investing in CTA programs that don't fit your investment objectives or your risk tolerance, an important consideration before investing with any money manager. Given the proper due diligence about investment risk, however, managed futures can provide a viable alternative investment vehicle for small investors looking to diversify their portfolios and thus spread their risk. So if you are searching for potential ways to enhance risk-adjusted returns, managed futures may be your next best place to take a serious look.If you'd like to find out more, the two most important objective sources of information about CTAs and their registration history are the NFA's website and the U.S. CFTC's website. The NFA provides registration and compliance histories for each CTA, and the CFTC provides additional information concerning legal actions against non-compliant CTAs.

by John Summa (Contact Author Biography) taken from
http://www.investopedia.com/articles/optioninvestor/05/070605.asp
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