You might buy the stock of a particular company because you are convinced its market price is on its way up. The problem is, you're probably buying that stock from another investor who is equally convinced the stock price is about to drop. You both may be right, just at different times. If you're going to invest in stocks, you need to have a plan for when your stock's price falls.
Revisit Your Investment Plan
Your stock's price will likely rise and fall to some degree during every market cycle, sometimes within a few moments. As financier J.P. Morgan observed, "The market will fluctuate." The important issue is how a price drop affects your overall investment plan. Before you bought the stock, you should have determined what you expected it to do for you. As long as the stock continues to meet your expectations, there is no need to make any changes, even if the price has dropped.
Buy More Shares
Stock prices are influenced by a variety of outside factors, some of which have nothing to do with the quality of a company. For example, a stock's price may decline based on negative national news or a downturn in the overall economy, even if nothing has changed with the company. Check out the company's fundamentals such as its earnings, sales, management changes and positive or negative news. If the company is still as sound as the day you bought it, there is little reason to change your position. It might even be a good time to buy more shares at fire-sale prices.
Take Your Losses
While a number of factors can influence a stock's price, ultimately it comes down to supply and demand. If there are more sellers than buyers, the price will drop. Before you decide to buy, sell or hold your stock, it helps to determine why the price is dropping, particularly if the overall economy is in good shape and every other company in the industry sector seems to be flying high. If you discover something has changed for the worse, and it doesn't look like the company will rebound anytime soon, you need to decide at what point you need to bail out of your position, even it if means taking a loss on your investment. Consider setting a "stop-loss" order at a predetermined price beneath the current market price to protect your profits or limit your losses. This is the price at which you would sell your shares.
Re-Balance Your Portfolio
The Securities and Exchange Commission recommends using an investment strategy known as asset allocation. This means dividing your investment portfolio among a number of categories such as stock, bonds and cash, with specific percentages for each category. For example, your investment plan might include 40 percent stocks, 40 percent bonds and 10 percent cash. Changes in your stock prices, whether up or down, present an opportunity to re-balance your portfolio. If your stocks drop in value, it could throw off your target percentages. You may need to sell some of your better-performing assets and use the proceeds to buy more shares of your other investments to restore your original portfolio percentages.
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