Markets are always changing and sometimes appear to be easy.
But the challenges are usually most intense when the market looks easy.
How we Make Money in the Market
These principles will work to your advantage when you apply them with awareness, patience, and discipline.
Understand your safety preference and the logical results of your investment choices. An old maxim is, “If you don’t know who you are, Wall Street is an expensive place to find out.”
Understanding the biggest % decline in the value of your account (the drawdown) you could experience – and remain at peace – is paramount. Discuss this with your manager before you start. If the manager says that a normal drawdown for his/her strategy is 20% and a 10% decline would be difficult for you, hire someone else. If the manager won’t tell you the normal decline, hire someone else.
Invest on your own cycle
Don’t listen to short-term views if you’re a long-term investor.
Manage risk carefully
Professional investors ask, “How much can I lose?” Amateurs ask, “How much can I make?” Analyze all investments carefully; never take a “flyer” and jump blindly into a high-risk investment because of something you read or because a friend said it’s good. But, if you decide to take a high-risk move, keep it a small percentage of your portfolio. It’s better to lose an opportunity than to lose money. In the long-run, controlling risk distinguishes superior portfolio managers. However, to make money you must be appropriately courageous. Your success lies in minimizing risk while seizing opportunities.
Seek profits, not excitement
Making 10% a year is not exciting, yet you can do very well at that rate. Guard against the tendency to be in the markets for the thrill. If you get a buzz when you’re doing well and feel depressed when you’re not, choose a more conservative approach.
It is fun to click the mouse and think you are being productive. However, we click only when it is likely that doing so will increase long-term profit.
We look for the feeling in the pits of our stomachs when we’re questioning ourselves and everyone else thinks we’re wrong.
If you have no sell discipline, it feels real easy and obviously a good thing to do – all your friends have money in it, it must be good! – you’re buying high, joining the amateurs, and having acted in haste, will repent at leisure.
Beginners with no sell discipline often err by falling in love with an asset that is way up and buying it, thus they help the market by providing liquidity for those who enjoy selling high.
Study market history and economic history
The history of the United States has led many people to conclude that US stocks will always eventually make new highs. And yet, every country, civilization, currency, and market has ultimately gone to zero with enough time. Know the history of other countries’ markets, the magnitude of bear markets, interest rate trends, and current movements.
Our results can be evaluated over a complete market cycle, both the up and the down. Late in a bull market, we attempt to reduce exposure. Late in a bear market, we increase it.
Keep the money safe
Do not “reach for yield” by buying lower quality bonds or longer-term ones to try to earn more. The bond market is very efficient. The highest interest rate goes with the highest risk.
Our #1 goal is capital preservation, our #2 goal is growth of capital.
Compute your rate of return
Not knowing your investment returns is like playing a game when you’re not paying attention. Compare your net returns to a stock benchmark like the S&P500 with dividends and an accepted bond benchmark The CFA Institute’s standards call for managers to compute returns monthly. If you’d hired yourself to be CFO of your personal finances, how would you rate yourself?
We emphasize the importance of understanding your rate of return and facilitate it through our simple yet powerful quarterly reports.
Being successful in investing often requires buying when it is difficult to buy and selling when it is difficult to sell.
Success in markets is counterintuitive
Most people make excellent retail shopping decisions: If they double the price of a Lexus, leaving the car unchanged, sales will fall. But cut the price in half and a long line will form to buy one.
On the other hand if stock market fundamentals (revenues, earnings, dividends, balance sheets) are unchanged and the stock market doubles, almost everyone will rush to buy stocks and tell stories why the market has to go even higher. If stocks fall by half with fundamentals unchanged, the crowd will tell stories about how bad stocks are and avoid them. The crowd repeatedly buys high and sells low and most people lose money in markets over time. To succeed we imperfectly buy low and sell high, going against our guts and the crowd.
Spend at least as much time analyzing an investment as you would a refrigerator
Many people carefully analyze a $2,000 decision and move $500,000 into an investment on a whim.