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Teach Me

Look Before You Sell, Don’t Lock in Your Losses

October 10, 2018

  • Seek broad diversification in the market
  • Aim for a variety of assets and asset classes
  • Check out the Stash Coach, stay diversified
3 min read

Nobody likes losing money on their investments. And when markets start dropping, it seems like they can go down forever. And that can be pretty scary.

But if you do sell, you’ll be locking in your losses. Here’s an explanation of what that means:

What are losses?

Here’s a simple example:

Let’s say you bought $10 worth of shares in an Investment*  on Stash. If the value of those shares increase to $15, you have an unrealized gain of $5. If that same value decreases to $3, you have an unrealized loss of $7.

By buying and holding onto your position, and even adding to it as stock prices go down, you have the potential for more gains over time

Understand, you have a loss on paper, in your account,  but it is not realized until you sell it.

There’s a temptation to sell when the markets go down because you’ve lost money in the short run. That temptation may be particularly strong if lots of other people are selling, and there seems to be a stampede for the exits on a particular stock or fund.

If you follow their example and sell, there is no chance you’ll ever make back the money you lost by selling.

Keep this in mind: When you invest in the market, you should establish a long-term horizon, generally for many years. If you’re investing for retirement, that time frame could easily be 30 years or more.

Buying, holding and investing for the long-term

By buying and holding onto your position, and even adding to it as stock prices go down, you have the potential for more gains over time.

Although it’s impossible to predict the future, if the past is any indication, an investment in a fund that tracks the S&P 500, an index made up of hundreds of the largest companies in the U.S., would have made an average 9.7% return per year* over the period 1928 through 2017 last eight decades.

Of course, that stretch of time contains some very bad years, including the Great Depression, and the more recent financial crisis of 2008. But if investors sell their stocks on the dips, they have no chance of earning back those losses over time.

Should you ever sell?

This is not to say you should never sell. When you own stocks in individual companies that lose money, you may want to consider selling, for example, if that company starts to have serious trouble meeting its earnings forecasts, or if the industry it’s in starts to deteriorate. Then it may make sense to get out.

There can be similar situations with funds, but they are different investments vehicles that tend to spread out risk by owning shares of numerous companies at once.

Some funds focus on specific sectors, for example, technology or retail, and those can tend to be more volatile, meaning their share price can be subject to wide and sudden swings in value. That’s because they focus on one area of the economy.

Others have a broader focus, and may, for instance, follow an index such as the S&P 500, with a large number of companies in numerous sectors.

In the end, you need to research any fund you’re thinking of buying and buy numerous kinds of funds that give you broad diversification in the market. That means you should aim for a variety of assets and asset classes, including stocks and bonds, in developed as well as developing countries. Remember that if you are uncomfortable with the volatility of your portfolio at any given point in time, there’s no need to panic and you have an easy way to reduce risk. You can buy more bonds to smooth out the ups and downs in your returns over time.

Finally, establish a long-term investment strategy that keeps you in the market.

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*Example is a hypothetical illustration of mathematical principles, and is not a prediction or projection of performance of an investment or investment strategy.

*Expected returns or probability projections are hypothetical in nature and may not reflect actual future results.This is a hypothetical illustration of mathematical principles, is not a prediction or projection of performance of an investment or investment strategy, and assumes weekly contributions at an annual rate of return (compounded annually) and does not account for fees or taxes. It is for illustrative purposes only and is not indicative of any actual investment. Actual return and principal value may be more or less than the original investment.

By Jeremy Quittner
Jeremy Quittner is the senior writer for Stash.

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