One of the worst things that can happen to someone looking to implement responsible personal finance strategies and reduce debt is seeing an investment go south. There are legitimate debates about whether or not it’s wise to invest before paying off debt in the first place. But plenty choose to set aside a portion of their wealth to grow in financial markets while trying to get out of debt. And for people who make this decision, getting trapped in a declining investment can be seriously problematic!
The tricky part is how to recognise and get out of a truly declining investment. Let’s say you’ve invested in Starbucks because it’s pumpkin-everything season and their sales are probably going up. But then the stock dips a couple of points. Do you abandon ship? Do you double down and buy more shares during the lull? Or do you wait for news that might explain why it dipped and go from there?
Every situation is different and should be treated as an individual scenario. But here are a few general tips for responsibly exiting an investment.
Remain Sceptical Of Downturn Analysis
It’s been noted that top analysts can’t distinguish between corrections and bear markets. A “correction” is usually a 10-to-19 percent decline in the market, and can sometimes be brief or easily reversed. A full-on “bear market,” on the other hand, can mean losses of 20 percent or more, and can last longer and cause greater problems. I should note that the aforementioned analysts remark was made with specific regard to a market scenario in August 2015, but the general idea remains relevant. When the market as a whole is in a downturn, you shouldn’t blindly accept analysts’ opinions on whether it’s a correction, a bear market, or a blip on the radar. Before exiting your own investments, you need to do your best to determine trends and projections on your own.
Set Stop-Loss Orders
Getting into a more specific method to avoid significant losses, one of the most common strategies is actually quite simple: set a stop-loss order. This is defined by as a protective order that closes out a trade when that trade has gone against you at a pre-determined amount. So for instance, if you set a stop-loss order on that Starbucks stock for four points below where you bought it, and the stock drops two points, you’ll still own it, and can make your decision as you please. But if the stock drops five points from your initial purchasing point, it will automatically be sold at the four-point mark. Basically, it’s a safeguard that helps your account automatically assume a certain loss in order to avoid a greater one.
Make Your Decision Personal
There’s an important distinction here. Personal does not mean emotional. Rule number one in investing is to take emotion out of the game. That said, it’s important to make your decisions based on your specific financial situation when your ultimate goal is to establish solid personal financial management and shed debt. This is something we touched on in a past article on learning to invest, and it’s particularly important when it comes to cutting losses and getting out of investments. Only you know how much risk you can afford to take, so at the end of the day it’s vital to combine market analysis with personal circumstances.
Hopefully this gives you an idea not just of how to exit an investment but of how to make the decision to do so. It’s a key component of financial management, and something that can make you a more responsible investor.