On speculative account management

To a great extent, the performance of an account is directly proportional to how quickly the management can admit they were wrong. Your money is supposed to be working for you, not against you. In the absence of the experience, expertise and resources needed to properly manage your own accounts, you can find someone who can and will actively monitor and fine tune the account so that it’s always in the optimal position to gain from the current environment, always protecting the account’s downside like every cent matters.

If it’s you doing it, you should focus on the value of the account. Look to compound positive returns as often as possible. When you make a call, sell at the first sight of being wrong. The first opportunity to admit you were wrong is after a 2-5% swing against your position. If you bought near a support or resistance level, you can often tell you were wrong even earlier than that. Sell here, if for no other reason than looking at large losses every day is hazardous to your mental health. If it turns out you were right in the first place, wait to be sure, and then buy it back. Never let a 5% loss turn into a 10% loss, a 20% loss. That’s being wrong multiple times in a row. How do you like looking at those losses every day? Now you’ll want to sit and wait to get that money back, won’t you? Because you’re smarter and more patient than the market, right? Well, now that’s dead money. You’ll stare at losses until the current downtrend reverses, and that could be in five days, five weeks or five years, and there’s no way to know when. Sell losers early and often, keeping your investment capital either on the upswing or on the sidelines. Holding cash in an account is a great alternative to losing money.

Never average down. Ever. You’re putting additional money into something that’s only proven that it can lose money. That’s a very dumb thing to do with hard-earned capital. If you want to own more of it, wait to be sure you’re right, because you were obviously wrong the first time. You bought it because you thought it was going significantly higher from where you bought it, and it didn’t. If you were smart, you’d want to force the investment to earn your additional capital. But rather than hop back into something that is probably only bouncing off support and trying to find its new equilibrium after a big news event, it’s usually even smarter to take the money left after selling that loser and put it into your best position.

There are four possible outcomes when exiting a position. 1. Big gain 2. Small gain 3. Small loss 4. Big loss

The first 3 out of four of these are acceptable. The fourth is an absolute account killer, and 9 out of 10 times, absolutely avoidable if you use the right discipline when building a position.

….some would say not to put all your eggs in one basket, and what they end up doing is selecting too many baskets to follow all at once, basically creating an index fund. Ask anyone who’s been successful at continuously compounding returns, (i.e. speculating)… what you do is, identify a very small handful of the best “baskets” for your eggs, and then you never, ever, take your eyes off those baskets.

Winning speculators concentrate their capital and focus on being right. Losing speculators over-diversify and turn into investors, and then wonder why they’re not any good at speculating. They blame everyone and everything except themselves. Since the performance of their account basically mirrors that of the market, they begin to blame the market, they even proclaim that they now hate the market. Well, the reason these types can’t compound money is because what they are doing is throwing as much shit as they can against the wall and hoping something sticks. They don’t know any better either; they’ve been taught that diversification is good. And diversification is often very good, especially for a conservative growth investor, but that is not what we are talking about here. We are talking about going after out-sized returns when we talk about speculating. The things the industry teaches you and requires you to be tested on in order to hold a license are important, and for the protection of the investing public, but they do not teach you how to manage money. And they certainly don’t teach you how to go about growing money. I hold like nine different industry licenses and not one of them has had any bearing on why I’m good at compounding money. What good is it if your manager has all the licenses required to practice but none of the knowledge required to be any good at it?

RM ~Feb 2011

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