Anyone who invested in the Chinese stock market a year ago probably saw their investment go up very nicely. That is until the twenty percent across the board losses in the last couple of weeks. There was a huge disconnect between the slowing Chinese economy and the rise in the Chinese stocks in the last year. Nevertheless investors saw huge gains. The problem in a rising market is to know when it is time to sell stocks. Even the likes of Warren Buffet, the penultimate buy and hold investor, sell stocks. His take on things is that when he no longer understands how the company will make money to support its stock price it is time to get out. This is the fundamental analysis approach. Knowing the intrinsic value of your stocks is critical for knowing when to buy and knowing when it is time to sell stocks.
Intrinsic Stock Value
Intrinsic stock value is the expected company cash flow discounted to current dollars. It is a discounted cash flow valuation. An inherent weakness in this concept is that too often the medium and long term prospects of a company and its stock price are not clear. So, what is intrinsic stock value of a company if the future is uncertain? The ability to see into the future to see how well a company will manage its assets, products, costs, R&D, and marketing is of utmost importance in calculating intrinsic stock value as a means of deciding whether or not to purchase a stock. When an overly enthusiastic market drives prices substantially higher than the intrinsic value of a stock it is most commonly time to sell stocks.
Timing the Market
The point of investing in stocks is to make money and to keep that money. Many investors do not subscribe to a buy and hold approach. Rather they look for value, often using the intrinsic value approach, and buy when they believe that the market will recognize the value of a stock and drive its price up. The same investors look for takeover targets. The Google purchase of Motorola, its cell phone division, a few years ago was classic. Carl Icahn had purchased more than eleven percent of Motorola shares in an effort to force the company to provide more value for its investors. The value that Google purchased was the treasure chest of patents from the company that basically invented the cell phone. It their fight to protect their development of the android operating system this was of great value to Google. The point of this example is that anyone who invested in Motorola in the run up to the acquisition of the mobility division by Google made money. Thereafter it was time to sell Motorola stock and look for other investment opportunities.
When a Stock No Longer Fits Your Portfolio
When an investor is approaching retirement it is time to start adding dividend stocks to his portfolio and remove risky growth stocks. When you are younger you have time to make up for mistakes. When you are retired you want steady income a good night’s sleep. It is time to sell stocks when they no longer fit the design of your portfolio.