Don't Let Big Gains Fool You

In "Get Ready for a 25% Drop," I told the story of my friend Charlie who gets terribly nervous when one of his stocks is down 15% to 20%. He wound up selling Microsoft after such a drop in 1995, and he missed out on some truly spectacular gains because of it.

But there's another potentially costly (though much nicer) problem you're bound to run across at some point: What do you do when one of your stocks has risen appreciably? If you've owned any of these companies, each of which has more than doubled the market's return over the past five years, you may be facing just such a situation:

Buy, sell, or hold?
What do you do when your stock is up 100% or more? Crazy question, I know. But in this situation, people can make costly mistakes in terms of opportunity. Many prefer to sell at least half their position in order to "lock in some gains," and others will sell it all, thinking there can't be much upside left in the stock after such a big run-up.

But oftentimes that thinking is wrong. Glance up at that chart again and see what you would have missed out on by selling after a 50% gain.

In Motley Fool Stock Advisor, David and Tom Gardner each have stocks with more than 700% gains: Marvel for David and Quality Systems for Tom. In the roughly four years since each was recommended, it must have been tempting for the Gardner brothers to issue a sell recommendation and lock in big gains. But with both companies maintaining strength in balance sheets, management, and competitive advantages, they held. In fact, they issued more buy recommendations on both stocks even as they soared higher, and they remain bullish on the two companies today.

Stipulations
Our advice to not sell off a big winner comes with stipulations. Your original reasons for buying should be intact, and the company must remain fundamentally sound. Also, you must be mindful of diversification. Our advice doesn't apply if your portfolio becomes so concentrated in a stock that it would suffer significantly when that stock tumbles. In that case, it could certainly be prudent to lighten your load.

The Gardners have compiled stellar results in Stock Advisor by following these principles, with total average returns of 70% (compared with 30% for equal amounts invested in the S&P 500). Those signing on for a free 30-day trial today will be able to see David and Tom's top five stocks to buy now, as well as all of their market-beating recommendations. Here's more information.

Rex Moore regrets to inform you that due to new insurance regulations regarding monkeys and marshmallows, he is no longer available for birthday parties. He owns no companies mentioned in this article. Yahoo! is a Stock Advisor recommendation. The preceding information is brought to you by the Fool's disclosure policy.