By Mickey Welcher
Buying and selling stocks can be very rewarding, but also frustrating. Investing is an emotional experience and our feelings can impact our ability to make money. Put it this way: Our human desire to avoid loss actually causes us to lose more.
So let me offer you three simple words that can serve as a guideline to stock trading:
Let It Go!
Here’s what I mean. Our brains tend to focus on remembering not the good times, but instead when things didn’t go as planned. This influences our decision-making to do what it takes to avoid failure. So when faced with a stock that’s losing value, we will be more inclined to hold onto it, hoping the price eventually goes up. How many times have you said or heard someone say that they’d sell a company’s shares when it gets back to even?
Often times, though, it doesn’t and continues to weigh down an investor’s portfolio. What makes it worse is when the investor sells some of their winners to help offset the losses. Now the portfolio is really out of wack and made up with only losing positions that continue to drain the person’s financial worth.
There have been many studies on this phenomenon that show investors with a penchant for “loss aversion.” When I began my career as a hedge-fund trader, I had the exact same mentality. I had to learn how to change my thinking process to become successful, and now use it on behalf of my clients. The way to make money in stocks is by understanding that selling the losers and holding the winners is the best thing to do.
When we buy stocks, there are always winning and losing trades. You never hit a home run every time. What’s more, the losers usually outnumber winners. Yep — it’s true. If I made 10 trades on the same day, three to four of them would wind up being losers and two to three would be classified as “no profit,” or flat trades. The few remaining would be the only winners.
On the surface, this is disheartening, but it’s really not. If you sell off the losers correctly, the winners will more than compensate for any shortfalls in your portfolio as well as turn a nice profit for you over time. To do this, have an “exit strategy” for every losing trade. When you buy a stock, you should know the exact price you will sell at if it goes against you. This could be based on a percentage of what you can lose on the trade or from the technical analysis of an advisor like myself.
Moreover, don’t rush to sell your winning trades to take a quick profit. You bought the stock for a reason, ideally because of the company’s financial fundamentals, competitive advantage, market position and such. Let it work for you. I can’t tell you how many times I hear investors tell me how they sold stock “XYZ” at a certain price and watched it continue to go up over the next year. Hold your winners until the reason you bought the stock changes. If the fundamentals change or the charts show weakness, maybe you take profits off the table and keep a small position. If things continue to deteriorate, then you sell the rest.
If you learn to accept small losses and let your winners run, I know you will see a huge difference in your returns. Of course, there will be times the stock bounces and starts to go back up, but you can always buy it back. For the one or two times this happens, you will see how often this strategy worked to save you money, which makes you more money moving forward.
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