of product delays and it was one of the many companies caught up in a back-dating of stock option investigation. From mid-January to mid-July, the stock price was slashed by 41%–falling from $85.59 to $50.67. It was a six-month period fraught with signals for skittish investors to sell. Many lost sight of a long-term investing strategy and bailed out. However, in the end, CEO Steve Jobs was exonerated of any wrongdoing in the options investigation.
“A lot of people who bought at $63 last spring took a big haircut, and of course, the stock went on to trade at $97,” says Charles Payne, CEO and chief analyst of Wall Street Strategies Inc. in New York City. He reminds investors not to focus too much on the past. “For the most part, if the company is growing its business in a smart way and it’s been able to do that for a long time,” he says, “you have to believe that management isn’t going to make a big mistake. Mostly you’re betting on management.”
Have a Plan
Investors should set some guidelines when they buy a stock, advises Peace. “Just to give an example, you might tell yourself that you’ll look at the stock if it goes up by 25%,” he says. “On the other hand, you’ll re-evaluate after a 20% decline.” At those points, you can consider whether you still want to own that company.
“Suppose you bought a pharmaceutical company because it had a promising new drug,” says Peace. “Since you bought it, the drug did not pass a Food and Drug Administration review. Or maybe you bought a company that was No. 1 in its field but is now No. 2 after a merger of competitors. When events like that occur, you might decide that you no longer want to own the stock.”
Perhaps that former No. 1 company was bought at $60 a share and now sells for $75, giving you a 25% paper gain. At that price, given the new competitive situation, future upside seems limited, so you decide to sell. As Peace puts it, “Nobody goes broke taking a profit.” That’s especially true today, when the federal tax rate on long-term capital gains is capped at 15%.
You might think that the converse is true–nobody gets rich taking a loss–but selling at a 10% or a 20% loss can be a worthwhile move, particularly if it helps you avoid a loss of 50% or greater. What’s more, taking losses may offer tax advantages. “Especially when you are dealing with relatively small amounts, you should be confident that the amount of the loss will be enough to justify the transaction costs,” says Diahann Lassus, a certified public accountant and certified financial planner with Lassus Wherley, a wealth management firm in New Providence, New Jersey. Losses you take can offset capital gains on other stocks, effectively making those profits tax-free. And $3,000 of net capital losses can be deducted from your other income each year, providing instant tax savings.
In the end, stick