No. of Recommendations: 19
We hear the phrases "cash in profits", "locking in profits" many times.
The only way to "lock in profits" or to "cash in profits" is to sell the entire stock, rather than just selling the capital gain amount. For those that understand that, do not read on.
Imagine you have 1000 shares, at $100 per share, and $0 cash. Total equity: $100,000.
Next the share price moves to $125 per share, and your capital gain is $25K. Let's say you "lock in profits" by selling $25K worth of stock. So you sell 200 shares (200 * $125 = $25K). You think to yourself "I have just taken out a profit of $25K - that profit is now safe, wow, I have done well and I'm glad to be more level headed than some".
The share price next moves back to the original quote of $100 per share.
You now have 800 shares, at $100 per share, and $25K cash. Total equity: $105,000.
Your profit over the cycle: $5,000.
By "locking in your profit" when the price was higher, you thought you locked in $25K, but you actually locked in $5,000.
What you really locked in was the capital gain associated with the $25K sale, which was a capital gain of $5,000 ($20K worth of stock sold at $25K, i.e. 200 shares bought at $20K and sold at $25K).
- Manlobbi
