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Breaking Bad: Time To Sell When Stock Pierces 50-Day

Investors pay special attention to identifying a stock's buy point, for good reason. But it's equally important to know when to sell.

Stocks usually give off warning signs before they break downward. Typical signs of weakness are new highs in weak volume or wide weekly swings near new peaks.

A high-volume drop below the 50-day moving average is another warning that you should heed. Otherwise, your profits could quickly vanish or losses could rapidly pile up.

A healthy stock will normally get support at its 50-day line (or the 10-week moving average on a weekly chart) as institutional investors step in to prop it up. But a high-volume drop below that level is a sign that mutual funds, pension funds and others have started to sell large stakes.

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Since these big funds control as much as 80% of the market's trading volume, it's a good idea for individual investors to bail out, too.

The 50-day moving average smooths out a stock's daily fluctuations and shows how the stock has behaved over time. It shows up as a red line on stock charts at Investors.com. You can calculate it by adding up a stock's closing prices from the past 50 sessions, then dividing by 50.

The Chinese Internet firm NetEase (NTES) cleared a 27.26 buy point from a long consolidation on April 2, 2009. At the time, the stock boasted superior fundamentals, including a best-possible 99 Composite Rating and a 97 Earnings Per Share Rating. Its Accumulation/Distribution Rating was B+, indicating strong demand for the shares, and the stock's Relative Strength line was hitting new highs.

NetEase ran up 78% in a little under six months, hitting a peak of 48.50 on Sept. 23 (1), after getting support all the way at its 50-day line.

However, on Oct. 8 (2), the stock sliced through its key support line in volume that was 63% above normal. Volume for the week rose to its highest level in three years. By then, the market's uptrend had come under pressure, adding to the negative tone, as few stocks can defy the market's overall direction.

NetEase continued to fall sharply, and volume accelerated (3). The heavy institutional selling indicated that it was time to sell.

NetEase rallied a few times in early 2010, but the stock's largely downward-sloping 50-day line indicated that the overall trend was now down. On May 20, the stock slipped below its 27.26 original buy point.