The Best Reason to Sell Now

You've seen the same message everywhere: sit tight, don't panic, and wait until things sort themselves out before making any drastic moves with your portfolio. That's smart advice. But even if your stocks have gotten beaten down in the panic of 2008, there is one good reason why you might consider selling some of your holdings right now.

Still hurting
After recovering nearly 1,000 Dow points since lows last Thursday, investors were feeling euphoric late last week. After having a weekend to think things over, though, there's no guarantee that the market won't go back down or even fall below last week's low levels. Undoubtedly, some people took advantage of Friday's gains to reduce their overall asset allocation to stocks.

Yet although that may seem like an appealing reason to sell now, it's far from the best one. After all, even considering the big gains on Thursday and Friday, the Dow is still down more than 12% in 2008, and the S&P 500 is down more than 13%. In other words, if you sell now and move to the sidelines, you're locking in a big loss -- and you're betting not only that the current government bailout proposal will fail, but also that no one will figure out a better solution anytime soon.

That bet's getting increasingly difficult to make. With the new ban on short selling in place, you can no longer make direct bets against financial companies like Citigroup or Morgan Stanley. In addition, brokers are taking steps to prevent customers from using options to achieve the same purpose, disallowing the exercise of put options.

More importantly, though, it's been a losing bet historically. And while past success is no assurance against future failure, you'll find far more people defending the world's financial system than wanting to let it collapse.

Sell low, buy lower
The better reason why selling some shares may make sense is to pick up companies that offer even better opportunities than the shares you're holding. Although ideally you might prefer to hang onto all your current holdings and buy more shares, not everyone has cash on hand to add to stocks right now.

Here's an example: Say you correctly foresaw the troubles in financials and the sharp correction in energy and materials stocks. To protect yourself, you may have stuck with shares of traditional defensive plays, such as health-care stocks and makers of consumer goods. As a result, you've only seen modest declines or even earned small profits, rather than the wholesale destruction that has plagued many stocks in this bear market.

Yet now, you may believe the worst is over. Even though you may have suffered some losses on your defensive stocks, you might earn better returns by selling them and shifting back to more aggressive sectors of the market. If you're correct that the worst of the market downturn is over, then moving into shares that are more responsive to market rebounds will increase your profits.

For instance, consider these stocks:

Stock

52-Week Return

Beta

Theoretical Gain If Market Rises 10%

PepsiCo (NYSE: PEP  )

2.4%

0.39

3.9%

Kellogg (NYSE: K  )

1.2%

0.37

3.7%

Medtronic (NYSE: MDT  )

(7.2%)

0.10

1%

Celgene (Nasdaq: CELG  )

(3.8%)

0.20

2%

Baker Hughes (NYSE: BHI  )

(25.9%)

1.60

16%

Southern Copper (NYSE: PCU  )

(34.8%)

1.64

16.4%

Vale (NYSE: RIO  )

(22%)

2.05

20.5%

Source: Motley Fool CAPS.

By investing in low-beta stocks that tend not to drop as much in volatile markets like the first four above, you minimize your losses in down markets -- but you also limit your upside when stocks rebound. If you add some high-beta energy and materials stocks to your portfolio, you could enjoy better returns, if economic conditions continue to improve and markets keep going up.

This sort of sector rebalancing is a type of market timing -- if markets continue to fall, buying high-beta stocks is a bad move. However, a long-term stock portfolio composed entirely of defensive issues is only appropriate for extremely conservative investors. If, like many investors, you have 10 or more years to go before retirement, you can afford to invest in riskier stocks to reap greater potential rewards.

In general, staying put during a panic is a perfectly good way to handle your investments. Yet for those who want to turn hard times into opportunity, making some adjustments to your portfolio could help you profit even more from the recovery when it comes.

For the latest on last week's historic events, read about:

Buy? Sell? You'll hear all sorts of advice in tough times, but who can you trust? Rely on the experience of Fool co-founders Tom and David Gardner in our Motley Fool Stock Advisor newsletter. You'll get a lot more than monthly issues -- you'll also get frequent updates that respond to current events, instant access to discussion boards, and much more. The best part? It's free with a 30-day trial.

Fool contributor Dan Caplinger still has some cash. He doesn't own shares of the companies mentioned in this article. Try any of our Foolish newsletters today, free for 30 days. The Fool's disclosure policy is always a buy.


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