Cut your losers and let your winners run

The stock market Bull had been full of strength lately not only in the Philippines but around the world. Some stocks made enormous gains like for example Paxy's (PAX) a call center in the Phils. made an outstanding 31% gain last Friday alone and 52% in one week gain. Another is Alliance Global Inc (AGI) a holding company also in Phils jumps 32% this week alone. This brings a question in my mind , is it time to cash our “paper” gains and run?
Then I found a newsletter article in my inbox that answers all this questions, based on my many years of experience in stock trading or investing, big money can be made by following this style and wanted to share with you here. Happy weekend everyone.

In 1993, my father did something incredibly nice for me...

He entrusted me to manage $100,000 of his money.

This was far from pocket change... My dad was a career Navy man, and my mom a schoolteacher – not exactly get-rich-quick professions. And neither of them came from money.

I was just starting out as a stockbroker. I have the full academic education in finance, all the way to a PhD. But looking back, the biggest financial education I ever received was from that $100,000...

The money was an enormous weight. This was my dad's IRA money... What if I screwed it up? I was determined not to lose it.

So in my dad's portfolio, I was conservative. I only bought "deep value" stocks and safe income plays. And I only bought once they'd fallen to the point where it seemed we couldn't possibly lose money. (And then they'd go down!)

I wish I could tell you I doubled or tripled his account in a few years. The reality is, it crept forward. And if I didn't have the "tailwind" of a slight uptrend in the market, it might have crept backward.

Meanwhile, I had a client in New York whose account was the same size as my dad's. Ellen was probably 70 years old. But she was not afraid of the markets...

"My dear, what's Malaysia Fund doing today?" she'd ask.

"It's around $16," I'd tell her. The stock was up from where she bought it.

"Buy me some more of it," she'd say.

"But Ellen, you've already got a big stake in this one, and you can't lose this money. Are you sure?"

"Buy me some more of it."

"OK."

A few weeks would go by. Then we'd have the same conversation, only the fund was $2 higher...

"Where's Malaysia Fund today?"

"It's around $18."

"Buy me some more of it."

"Are you sure? This is really getting to be a big stake here..."

"Buy me some more of it."

Ellen's account was going up in nearly every position. Meanwhile, my dad's account was just treading water. My main goal was not to lose his money. I was scared to take a risk. So I wasn't making him much money.

A couple more months went by. I got the same call from Ellen. With the Malaysia Fund at $23, she bought even more.

At this point, I didn't really protest. I didn't tell her this... but it seemed to me she was better at this than I was. Heck, she'd been at it longer than me.

When a stock my dad owned went up 20%, we sold it. I could hardly wait to lock in a profit. Meanwhile, this little old lady from New York was doing the opposite... When a stock Ellen owned went up 20%, she was buying more. And she was making real money.

I wish this story had a happy ending. But like most individual investors, Ellen didn't have any "exit strategy." She didn't use trailing stops or anything else. Instead, she made the all-too-human error of hanging on too long.

In other words, she only got it half right.
The easiest lesson of successful investing: Cut your losers and let your winners run.

Nobody taught us that in business school. But around the time I was working with Ellen, I read the book Market Wizards, by Jack Schwager. The guys in the book made their fortunes in various ways... but there was one common thread: These successful traders simply tried to catch the majority of an uptrend (let their winners ride) and avoid the big downtrends (cutting their losers using things like trailing stops).

Trailing stops have helped you ride the big uptrends and avoid the big downtrends. (And if you haven't been using them, I hope the experience of the last few years is proof of their value...)

If you want to make a lot of money in the markets... and not lose much when your stocks go down... then you need to follow the Market Wizards and Ellen and let your winners ride. More importantly, you need an exit strategy to cut your losers early so you can always keep your account heading in the right direction – up.