Curried Wealth Building
Finding an Edge

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My Investment and Trading Rules

I thought I'd take this week to focus on something a little bit different.  I'm actually on vacation and I didn't really want to focus on the day to day happenings so I'm going to review what I've learned and how it applies to investing and trading.  These are my "rules" for handling my investments.  Hope it helps you in your decision making.

1.  Flexibility is Paramount.

 

There are some "gurus" who are like broken recorders, always spouting the same advice no matter what the current conditions.  "The stock market is going down, down down!"  "The end is near!"  "You can't go wrong with stocks."  All of these "experts" are what I call Johnny One Notes, as they always say the same thing, no matter conditions.  Larry Kudlow is a perfect example, as he is a permabull.  This doesn't lead to great results in the market.  Always question your assumptions and be ready to look at the other side of all arguments.   This is THE most important rule to me.  As soon as gold has run its course, I will be the first to abandon it.

2.  The Trend is your Friend.
 
 
Following the main trend is the only "method" that has been shown to make money in the long haul.  NEVER fight a trend and bet against something going up.  That is a sure way to get your head handed to you.  Find the trend and go with the flow.  That is the true secret of the markets and it is talked about very seldomly on the main money programs.
 

3.  Trading leads to lower returns.

Trading Is Hazardous to Your Wealth:

The Common Stock Investment Performance

of Individual Investors

BRAD M. BARBER and TERRANCE ODEAN*

ABSTRACT

Individual investors who hold common stocks directly pay a tremendous performance

penalty for active trading. Of 66,465 households with accounts at a large

discount broker during 1991 to 1996, those that trade most earn an annual return

of 11.4 percent, while the market returns 17.9 percent. The average household

earns an annual return of 16.4 percent, tilts its common stock investment toward

high-beta, small, value stocks, and turns over 75 percent of its portfolio annually.

Overconfidence can explain high trading levels and the resulting poor performance

of individual investors. Our central message is that trading is hazardous to your

wealth.

 As you can see from the above snippet, trading too much is a killer to returns.  Be sure of your bets and sit tight.  You don't have to "do something."  Let all the other knuckleheads overtrade.  Be content with your decisions, and unless circumstances have changed, hang tight.

4.  Margin Kills.
 

A margin account lets you leverage your money.  If you have $100,000 in stocks, you can usually buy up to $50,000 more in additional stocks using the original stocks as collateral.  This works great if stocks are going up, but not so good when they are going down.  If any of the stocks drop too much, you will be given a margin call.  This is a DEMAND for money.  There is no extra time to deliver.  Some brokerages give you until the next day.  Others will liquidate the amount of stock necessary to meet the call.  Stay away from margin!
 
5.  Ignore the MSM.
 
This is the easiest rule to apply.  Just turn off the television and put down the paper.  Most of the people you hear are "talking their book."  Which means saying things that help their own positions.  These people cannot be trusted.  They will lie.  They will cheat.  Here is the video of Cramer saying just that:
 

6.  Cut your losses and let your winners run.

 
You must have an exit point for any trade.  Limit your downside to at most 20%.  Doubling down, is rarely a good idea.  Cut your losses and live to trade another day.  On the other hand, let your winners go.  Don't sell too soon.  Riches are made with big scores.  Big scores can only happen over longer periods of time.  Selling is the hardest part of investing.  It must be done with discipline.  This takes lots of practice.

7.  Diversity isn't an elixir.
 
 


If you've read this blog for a while, you know I have a large postion in GORO.  This is in direct opposition to most normal investment advice.  Putting all your eggs in one basket is frowned upon.  I believe what Warren Buffet says about diversifying, "It's for people who don't know what they are doing."  Now I would never recommend that others do what I'm doing, but for me, at this point in my life, I believe the risk/reward structure is worth having.  If GORO goes where I think it's going, I could retire.  At least I'll be KMA.  (that's kiss my ....)  Diversity does lower risk but only if you diversify over EVERY investment class.  If you are interested in doing that, Paul Merriman is the man.  Check him out at www.fundadvice.com.

 

8.  Never marry a stock, just date it.


Stocks are not animate things.  Unfortunately they become family members to a lot of people.  They start identifying themselves with everything the company does.  They start shopping at the store, and buying anything the company offers, thinking that this will help the bottom line of their investment.  This is wrong, wrong, wrong.  First, anything you buy is so marginal to any decent sized company's earnings, that it is laughable.  Second, stocks MUST be treated as things to be discarded at will, if necessary.  In stocks, a one night stand, is the best policy.  Dump a company that screws up and don't look back.  Don't think that the "stock beat me and I have to make it back."  This is allowing your emotions into the process.  I will dump GORO in two seconds if things turn sour and never look back.  I hope you do the same.


  

9.  Demographics is destiny. 
 
 
This is the one aspect of investing that is fixed.  The age groups of the population are fixed for decades.  The baby boomers will have a tremendous impact on the stock market in the coming years as they retire. Disregard this at your peril.  World demographics can and should be used for deciding on foreign investments.  Harry Dent is an excellent source on demographics and their affects on stocks.
 
 
10.  Follow the money.
 
 
This is as simple as asking, "who profits?'  Answering this question will lead you to way things are probably headed.  If a law is being considered that if passed, will profit airlines, then that will a good area to look for stocks.  Right now, the government is going into debt like crazy, so gold is a good bet.
 
11.  Never trust a government statistic.
 
 
I write about this constantly as the government is constantly modifying its stats.  They make "adjustments" to previous years figures and nobody notices.  You are better off just looking at the relative difference in two consecutive quarters, rather than the nominal number.  That way, you at least can get an idea of the trend.  When looking at the stats, just always assume they are trying to make things look better, and you should be ok.

12.  If it seems to good to be true......
 
 
 
If you don't recognize the man above, it is none other than Charles Ponzi.  The imfamous criminal who bilked investors out of millions before getting busted.  He basically promised a fixed, high rate of return, with no risk.  Too good of a rate.  Almost any email you get about a stock is a fraud or ramp job.  Just trash them.  These stock touts are typically just trying to unload a bunch of shares.  They gin up a bunch of demand and then sell to marks.  Don't fall for any investment that is "a chance of a lifetime."

13.  Never chase a stock on a run up.
 
 
If you're looking to buy a stock it is almost NEVER a good t.o buy if the stock is screaming higher.  If the stock is up 50% in the last week or so, there is a very high probability that it will come back down.  Bide your time and wait for a dip.  Buy on the dips, sell on-the spikes.  This is different from a stock being at an all-time high.  If the high was reached on a steady increase, it is probably a good idea to buy.  That is buying strengh.  Don't chase a stock!
.
14. The only price that matters is today's price.
 
 
 
Never look at a stock and think of what you paid.  The only price that matters is the current price.  If you have $10,000 in an investment, the correct question is, "If I had $10,000 would I buy the stock?"  The past price is irrelevant.  Ignore it, it will cloud your judgement.  Too many people are, "trying to get even."  Cut your losses. Waiting around for years for a stock to come back is time wasted, don't fall prey to this common trap.
 
15. It's never "house" money, it's always yours.

 
This one absolutely drives me crazy as I see it all the time.  Someone in Vegas starts with $500 and wins $500.  They then proceed to do all kinds of wacky stuff with the "house's" money.  That $500 is now YOURS.  Treat it that way.  The only account of your money is the current account.  After you win $500, then your current account balance is $1000.  Just because you won money quick doesn't mean you should treat it with any less care.  This almost ensures that you'll give back the whole $500, and probably more. 
 
The same applies to stocks where you are way up.  Some will recommend that you sell half if the stock doubles.  That's great advice, but then they'll say to let the rest ride as it's "house" money.  NO!  That is your money.  Treat it as if you never had the other half of the stock.  Make sell decisions as if it was your only money.  This is only way to keep your decisions factual and logical.
 
One last point here and it's not completely related, but I had to mention it.  On the show Deal or No Deal, people will often turn down very large offers.  I don't know how many times I've watched idiots turn down $200k.  The expected winnings of the game is $131k.  Any offer over that should be taken immediately.  It's very easy to calculate the expected winnings late in the game.  Just add up the large case values and divide by the number of remaining cases.  If the banker offers more than that, the deal should be accepted.  However, if there is only one large case value remaining, it is almost always smart to accept whatever deal is offered.  The worst decision I've ever seen on the show was a contestant that had 2 cases left with values of $1,000,000 and $500,000.  The offer was $740,000.  The offer was turned down.  Now that is $10,000 less than the expected winnings so that would seem like a smart decision, but......this is a clear case of bird in the hand.  The person who rejected this offer was taking $240,000 and going double or nothing on a coin flip.  Her case had $500,000, but the decision would have been wrong even if she had won the million.  Would you risk a quarter million dollars on a coin flip?  Not likely, but then again, she was playing with "house money."
 
 
16.  Fees matter.
 
 
I shouldn't need to say much if you've looked at the graph above.  Always look for low fee mutual funds.  This is especially true in bond funds.  The differences in returns are massive.  This is one of the few things you can do that takes no skill and will assuredly increase your returns. 
 
17.  Don't hope. 
 
Richard Russell writes the longest running investment newsletter in the world.  He started in 1958 and has never missed an isssue.  Here is my favorite article of his and it involves the enemy of the successful investor...hope.

HOPE:  It's human nature to be optimistic. It's human nature to hope. Furthermore, hope is a component of a healthy state of mind. Hope is the opposite of negativity. Negativity in life can lead to anger, disappointment and depression. After all, if the world is a negative place, what's the point of living in it? To be negative is to be anti-life.

Ironically, it doesn't work that way in the stock market. In the stock market hope is a hindrence, not a help. Once you take a position in a stock, you obviously want that stock to advance. But if the stock that you bought is a real value, and you bought it right -- you should be content to sit with that stock in the knowledge that over time its value will out without your help, without your hoping.

So in the case of this stock, you have value on your side -- and all you need is patience. In the end, your patience will pay off with a higher price for your stock. Hope shouldn't play any part in this process. You don't need hope, because you bought the stock when it was a great value, and you bought it at the right time.

Any time you find yourself hoping in this business, the odds are that you are on the wrong path -- or that you did something stupid that should be corrected.

Unfortunately hope is a money-loser in the investment business. This is counter-intuitive but true. Hope will keep you riding a stock that is headed down. Hope will keep you from taking a small loss and instead, allowing that small loss to develop into a large loss.

In the stock market hope get in the way of reality, hope gets in the way of common sense. One of the first rules in investing is "Don't take the big loss." In order to do that, you've got to be willing to take a small loss.

If the stock market turns bearish, and you're staying put with your whole position. and you're HOPING that what you see is not really happening – then welcome to poverty city. In this situation, all your hoping isn't going to save you or make you a penny. In fact, in this situation hoping is the devil that bids you to sit -- while your portfolio of stocks goes down the drain.

In the investing business my suggestion is that you avoid hope. Forget the siren, hope -- instead embrace cold, clear reality.

 
I always use this advice when deciding to sell or not.  Am I hoping the stock goes back up, or is the company still an outstanding investment.  The answer is usually obvious and will dictate my actions.