Sitting on losses is never a good strategy because those losses can pile up very quickly. Even strong stocks can dip and give up all gains from a buy point in a single session. That’s why it’s essential to investing to watch for sell signals and know how to sell stocks.
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There are different ways to find trim signs. Chart analysis offers a clear clue thanks to IBD’s 7% sell rule. The sell rule is a simple and effective way to cut your losses in a disciplined way.
When a stock breaks out of a base, watch out if it falls below the base’s buy point. This in itself is not a sign of a failed escape. However, if the stock falls 7% or more below the entry, it triggers the 7% sell rule. Time to exit the position before it does more damage.
This way, investors can always be in the game for future opportunities while preserving capital. The deeper a stock falls, the harder it is to break even. A 7% drop requires a 7.5% gain to fully recover. A 20% drop takes a 25% rebound. A 30% decline results in a 42.9% rebound.
The 7% stop loss applies to any stock purchase at any level. If you bought a stock at 45 and the buy point was 43, you want to calculate the 7% sell rule from your buy price.
Selling shares: advantage for small investors
The 7% sell rule is one of the tools available to nimble investors that larger funds that hold massive positions across a wide range of stocks may not have. IBD founder William O’Neil would point out that this is “a tremendous advantage” that the agile and decisive individual investor has over institutions.
Shares of Metaplatforms (META) came out of a flat base with a buy point of 377.55 on August 30, 2021 (1). Volume was below average, which might have alerted a watchful investor. The shares rose to 384.33 but soon started falling.
The stock fell below its 50-day moving average on September 20 (2) — the first sign of trouble.
That same day, Meta fell as low as 349.80. This was down 7% (to 351.12) from the buy point.
Two days later, the stock deepened and the 7% loss was now quite clear. The shares fell to 88.08 in November 2022. That’s a 77% loss from the August 2021 entry.
Despite gaining 148% this year, Meta has yet to recover to August 2021 levels, and investors holding onto its shares are reportedly still waiting for it to break even. But those who sold in September 2021 would have the capital to get back into the stock for its 2023 rally.
How to Sell Stocks: Market Conditions Matter
The 7% sell rule applies in bullish markets. But in a bear market, it may make sense to exit early if the stock falls 3% to 4% from a buy point after a breakout.
The 7% sell rule is one of the simplest rules investors can follow. IBD called it the 7% to 8% sell rule, but in practice it is treated as a 7% loss trigger.
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