Wouldn’t a better solution be to use a sell discipline and cut your losses when they are small rather than wait for them to get out of control?
That way you can regroup and prepare for another investment opportunity rather than praying for a recovery that may take months or years to come. Now the other side of that coin is that you may get stopped out of a holding and it immediately blasts off to new highs and leaves you in the dust. That is certainly a risk that you take when using stop losses. However, I believe that the risk of a big loss is far worse than the risk of lost opportunity.
Here are some of my investment rules that I follow for myself and my clients:
1. Always have a stop loss or sell discipline in place to manage the risk of a big loss. You are not going to pick winners every time, so make sure that you cut your losses early rather than waiting until it is too late.
2. Don’t get over allocated to one stock or sector. Many investors make the mistake of having too much of their money concentrated in a big winner like Apple (AAPL), only to watch it quickly deteriorate without a plan for banking their gains. I love my iPhone, but I am not in love with any of my investments.
3. Always have a watch list ready for new ideas. If you get stopped out of a position and go to cash, you should have a prepared list of stocks or funds that you are considering for new money. This list should constantly be evolving based on changes in the market.
Successful investing starts with the mindset of avoiding big losses and having clear investment rules to follow when all else fails. If you follow the rules, you won’t get in trouble.
David Fabian is the Chief Operations Officer and Managing Partner of Fabian Capital Management. To get more investor insights from Fabian Capital, visit there blog here or click here to download their latest special report, The Strategic Approach to Income Investing.