Holding On to Losers and Selling Winners Too Early

Many people find themselves selling a winning stock quickly to "lock in the gain", while holding on to a losing one because "it is not a loss until I sell". The pattern is so common that behavioral finance has a name for it: the disposition effect.

Why does it happen?

Selling at a gain gives you the pleasant feeling of having been right, so you want to grab it before it slips away. Selling at a loss means admitting a decision did not work out, and that feeling hurts. So the mind looks for a reason to postpone it: "it will surely come back", "I will not sell at a loss".

The result can be a portfolio where the winners were sold early and the losers stayed for a long time. Not because that was a considered decision, but because the feeling did the choosing.

An example with a small portfolio

Stock A Bought for 10,000 12,000 The feeling: "Sell and lock it in"

Stock B Bought for 10,000 8,000 The feeling: "Wait until it comes back"

The question that matters: if I owned neither, which one would I buy today?

Invented numbers. The same amount invested, opposite feelings.

ExampleYou put EGP 10,000 into stock A and 10,000 into stock B, both invented companies. A is now worth 12,000 and B 8,000. You need EGP 8,000. Many people will sell A without thinking because it is "the winner". But note that for B to get back to 10,000 it needs to rise 25%, not 20%, because the percentage is taken from the smaller number.

This does not mean selling B is right or keeping it is wrong. The company may be in good shape and the drop temporary, or it may not. The point is to decide on where each stock stands now, not on whether it is up or down from your own price.

MythAs long as I have not sold, I have not lost.

RealityThe holding is worth 8,000 in your account right now whether you sell or not. The drop in value has already happened; selling turns the loss from unrealised into realised.

MythIt has to get back to my price before I decide.

RealityThe stock does not know your price. The decision should rest on where the company stands now.

A question that brings you back to the stock

Before selling or holding, ask: if I owned neither and had their value in cash, which one would I buy today at today's price? This question takes your purchase price out of the picture and makes you look at the company, the news and the plan. Sometimes the answer will be to keep both, and that is fine.

Watch out"It will come back" is not a plan. If you keep a falling stock, know why you are keeping it and what would change your mind.

Look at your portfolio this way

Open your portfolio, cover the purchase-price column with your hand, and ask of each stock: would I buy it today? FoudaLens shows the numbers and descriptive analysis; the decision is yours.

Portfolio

Check yourself

1. A holding fell from 10,000 to 8,000. What percentage rise does it need to get back to 10,000?

2,000 / 8,000 = 25%, because the rise is measured from the smaller number.

2. Which question takes your purchase price out of the decision?

The second question looks at the stock now, not at your own price.

Summary

We tend to sell winners early and delay selling losers, because a loss hurts.
A loss is in your account's value whether you sell or not.
Ask: if I did not own it, would I buy it today?

Related terms

Stop-loss

Related lessons

Educational content only, not investment advice. Companies and figures in the examples are invented for illustration.