Buying Stocks Is Easy, Selling Is The Hard: 7 Rules To Manage Risk
2022.04.29 14:06
Buying stocks is easy; the hard part is knowing when to sell. I read an excellent article recently by on his trials and tribulations in owning a stock. To wit:
The primary tenant of investing is that if you are going to put capital at “risk” in a “speculative transaction,” be prepared to lose. We have all been there.
However, where I partially disagree with Michael’s analysis is this:
Like most that has survived the ages, it gets lost on young investors who have never lived through an actual bear market. More importantly, there is a vast difference between and investing.
There Is No Long-Term
There is a distinction that I must make here. Michael’s quote of Jon Boorman talks about investing, or rather, short-term trading. Here is his precise quote.
That is precisely correct. In the short-term, “value” has little relevance to what positions you should buy or sell. It is only momentum, the direction of the price, that matters. As discussed in “Picking Up Pennies,” no one is a long-term investor.
Average Holding Period For US Stocks 1930 To June 2020
Buying Stocks Is Easy, Especially In A Bull Market
During a bull market, which is the only market many investors have ever navigated, buying stocks is easy. As noted above, a strongly trending bull market covers up investing mistakes of buying poor quality companies. A great example is a company with sales of 3.9 billion and $0 of income, trading at 288x trailing earnings.
Yep, that’s Zillow (NASDAQ:Z), and those numbers are after a near 70% decline from the peak.
But it isn’t just Zilliow. According to Leuthold Group, 73 companies in the S&P are currently trading at 10x sales with a median price-to-sales ratio for the entire index above 3x.
Price To Sales 10x Number of Stocks
Why should 10x sales concern you? Such gets easily dismissed without context, mainly due to a speculative bull market. However, once you view 10x sales with a basis in reality, the concern becomes more evident.
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Buying stocks is easy in a market that only seems to go up. However, investors’ lack of “ provides no basis for a “sell discipline” when things go wrong.
Having A Sell Discipline Is Hard
Selling stocks is the most difficult challenge for any investor. That single decision becomes plagued with a host of emotional biases.
These are all rationalizations to avoid one thing – the admission that you made a wrong decision. It is purely an emotional bias that all investors must deal with.
As Howard Marks once stated:
This is why being unemotional is tough to do when it comes to your money.
Emotions of and cause individuals to take on too much exposure or worry risk is too high. Ultimately, emotion-based arguments are inherently wrong and lead individuals into decisions that harm their financial health.
7 Rules To Manage Risk When Buying Stocks, or Selling Them
Here are the rules for managing risk– they are not unique or new. They are time-tested and successful investor approved. If you follow them, you succeed – if you don’t, you won’t.
1. Sell Losers Short: Let Winners Run
It seems like a simple thing to do, but the average investor sells their winners and keeps their losers.
2. Buy Stocks Cheap And Sell Expensive
You haggle, negotiate, and shop extensively for the best deals on cars and flat-screen televisions. However, you will pay any price for a stock because someone on TV told you to. Insist on making investments when you get a If it isn’t – it isn’t. So, don’t try and come up with an excuse to justify overpaying for an investment. In the long run, overpaying will end in misery.
3. This Time Is Never Different
Our psychological makeup wants us to always hope for the best. However, this time is never different from the past. History may not repeat exactly, but it often rhymes exceptionally well.
4. Be Patient
As with item number 2, there is never a rush to invest, and there is NOTHING WRONG with sitting on cash until a good deal, a real bargain, comes along. Being patient is not only a virtue; it is an excellent way to keep yourself out of trouble.
5. Turn Off The Television
Any good investment is NEVER dictated by day to day movements of the market, which are nothing more than noise. Suppose you have done your homework, made a good investment at a reasonable price, and have confirmed your analysis to be correct. In that case, the day-to-day market actions will have little, if any, bearing on the longer-term success of your investment. The only thing you achieve by watching the television is increasing your blood pressure.
6. Risk Is Not Equal To Your Return
Taking RISK in an investment or strategy is not equivalent to how much money you will make. It only equates to the permanent loss of capital incurred when you are wrong. Invest conservatively, and grow your money over time with the LEAST amount of risk possible.
7. Go Against The Herd
The populous is generally in the middle of a move higher in the markets. However, they are seldom correct at major turning points. When everyone agrees on the direction of the market due to any given set of reasons, generally, something else happens. However, this also cedes to points 2) and 4); to buy something cheap or sell something at the best price, you generally buy when everyone is selling and sell when everyone else is buying.
These are the rules. They are simple and impossible to follow for most. However, if you can incorporate them, you will succeed in your investment goals over the long run. You most likely WILL NOT outperform the markets on the way up, but you will not lose as much on the way down. Such is important because it is much easier to replace a lost opportunity in investing. It is impossible to replace lost
As an investor, your job is to step away from your and look objectively at the market. Is it currently dominated by “greed” or “fear?” Your long-term returns will depend significantly on how you answer that question and manage the inherent risk.
– Benjamin Graham
