Selling is a hot topic among investors: What? When? Why? And just in the past week, Rex Moore implored Fools, "Don't Sell!," while Paul Elliott asked, "Is It Time to Sell?"

Both Fools reached the conclusion that the best time to sell a superior stock is "almost never." Given equal positions, after all, a 100% gain will counter a total loss of capital. Plus, that 100% gain can keep going -- to 500%, 1,000%, or more -- erasing all painful memories of the stock that plummeted.

I'm also a reluctant seller, but I do think there is one very good time to sell: when you've lost faith.

Losing faith in pineapple
There's been a lot of discussion about selling in the Motley Fool Hidden Gems community recently, after Fool co-founder and analyst Tom Gardner let go of Fresh Del Monte Produce (NYSE:FDP). The move -- recommended because FDP management has been unable to separate itself from competitors in a commodity business -- means that half our first-year recommendations are now sold off the scorecard.

That may or may not sound like a lot to you, but we like to think of ourselves as patient, buy-to-hold investors with five- to 10-year timelines. Now, 12 of the recommendations we made are void in less than three years.

Are we crazy? Are we hypocrites? I don't think so. Here's what Tom wrote in our daily update to subscribers on Monday:

If anyone is worried that Hidden Gems will become a trading service ... go back to April 2004 and look forward. There hasn't been a single sale. ... But I feel an obligation to get members out of fair or poor businesses.

Recognize declines
What if you could be patient with your superior businesses, yet learn to get out of floundering ones? That strategy could yield spectacular results. Here are three ways to identify declining businesses:

  1. Falling operating margins and returns on capital.
  2. Management that blames external factors for poor performance.
  3. Management that repeatedly overpromises and underdelivers.

The margin problem
Falling margins and returns on capital indicate a company investing less profitably in its business, and being squeezed by the falling prices of its products. That may mean the loss of a competitive advantage. Fresh Del Monte over the last few years, and Eastman Kodak (NYSE:EK) during the advent of digital cameras, are excellent examples:

Company

 ROC Op. Margin ROC

Op. Margin

 ROC Op. Margin

Return

Fresh Del Monte (2002-2004)

 16.8%

11.3%

 15.1%

8.9%

 6.9%

4.6%

111%

Eastman Kodak (1999-2001)

 24.2%

16.5%

 20.1% 14.7% 10.5%

8.2%

(54%)
*Data courtesy of Capital IQ, a division of Standard & Poor's.

While FDP's return from 2002 to 2004 may look great, consider that the stock is down 30% since the beginning of 2005.

You're a poor excuse for an excuse
When management focuses solely on external factors, it may indicate that the company isn't coming to grips with its own shortcomings. KrispyKreme (NYSE:KKD) was a poster child for this during the Atkins diet craze. As sales were declining and questions were raised about the quality of earnings, then-CEO Scott Livengood even had the nerve to say, "We are disappointed that external forces have caused us to revise our first-quarter and fiscal 2005 earnings guidance."

The emptiest promises
Overpromising and underdelivering happens across publicly traded companies. Since the beginning of the year, Intel (NASDAQ:INTC), RadioShack (NYSE:RSH), UTStarcom (NASDAQ:UTSI), and Fossil (NASDAQ:FOSL) all missed or lowered their own guidance. In Fossil's case, the miss resulted from lower sales and margins than perviously anticipated. In other words, they "misoverestimated" the capabilities of the core of their business. When this becomes a habit, it's time to get worried. Management is either out of touch or in denial. Neither of those states will yield much growth for investors.

The Foolish bottom line
If you're invested in a declining business, sell. Reallocate your capital to a company you adore.

You won't always be able to identify a declining business before a good chunk of your investment is gone. I'm lucky if I'm right more than 50% of the time. That's when diversification can save you. Hidden Gems recently had a company shed 30% of its market value -- yet that moved our total average returns down just one percentage point.

Our goal at Hidden Gems is to make sure our members are diversified across the market's very best small businesses. To date, we think we're achieving that goal: Our collection of stocks is beating the market by more than 25 percentage points.

To join our thousands of members as we earn market-thumping returns for the next 10 years and beyond, click here. If you don't like the service, or think we're guilty of overpromising and underdelivering, we'll refund your money.

There's not a single stock that offers the same deal.

Tim Hanson does not own shares of any company mentioned. No Fool is too cool for disclosure ... and Tim's pretty darn cool.