September 30, 2008 at 10:22 am | | Comments 2

Prevent Poundings

Yesterday we saw a historic decline in the market as the major averages posted some of their worst performances ever. The selloff was harsh, unrelenting, and decisive (to say the least). The damage to many stocks will not be repaired for quite a long time, and it’s safe to say that just as many trading accounts suffered significant losses.

In fact, I know that’s true from my recent correspondence with many other traders. Just yesterday I heard from one I’ve known for a couple of years, finding out he’s leaving the game after having blown out his account after adding to a bad position. In his words, he failed to preserve capital and instead broke a fundamental rule by leveraging and averaging down when underwater. It’s a disappointing thing to hear of, and I’m sure it’s a common story this week. About the only positive thing about the situation is that those 5 Expensive Words aren’t likely to be used by him again.

To see the market come under heavy distribution is certainly not a new thing, because we all know that the market does much more than simply climb higher. Over time there are impressive rallies, there are dull trading ranges, and yes – absolutely – there are mind-blowing bloodbaths which can rock your confidence to the core if you find yourself caught on the wrong side of it.

Learning from Gustav, Ike, and Kyle

We’re at the tail end of hurricane season, and there are some realistic parallels we can draw here. Those who live in the projected path of these powerful storms whenever they come along realize that certain precautions must be taken in order to avoid physical harm. (See where I’m going here?) While a few of their belongings might sustain some damage, their willingness to pack up and get out of town when authorities say it’s time can save their lives – allowing them to return and rebuild, and once again thrive.

Similarly, as a trader you must be willing to seek shelter when storms come along, whether it’s a slow grind downward or a massive selloff like we witnessed on Monday. During these times, your account might take a hit, but any effort to preserve capital during such times will enable you to at some point resume your activities as a trader. (And that’s not something to be taken lightly, because I know of numerous others who wish they were able to do just that). Once the clouds begin to break up, then you can seek out those profits once again and begin to rebuild your confidence.

Safety First, Profits Second

Knowing that the market corrects is one thing, but making provision for your own safety in the event of such a move is entirely different. In my next post, we’ll look closer at a few specifics on how to put this idea into practice, but I wanted to set the table for it today and post a reminder that goal #1 is based on staying in the game. Without a sound understanding of that basic principle, making money over time becomes far more difficult.

It’s been a nasty market out there, so keep your head on straight and don’t let an adverse move take you completely out – whether you’re short or long. This too shall pass, so tread with caution and trust that better times will arrive when being bolder is far more prudent than it is now.

Trade well today, and I’ll see you back here soon with Part 2!

Jeff White
President, The Stock Bandit, Inc.
Swing Trading & Day Trading Service

[tags]Stock Market, Day Trading, Stock Trading, Investing, Swing Trading[/tags]

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  1. This recent sell off highlighted to me how far I have come in understanding my limitations. Even when being long (and will remain so), the sell off after the failure of the passage of the bill in the senate did not put me in a position where I still coudln’t sleep.

    This is my barometer. If I can not sleep at night, I am risking too much.

  2. TSD, that’s a good observation and reminder to “sell down to the sleeping point” as Edwin Lefevre stated in his book Reminiscences of a Stock Operator.

    Thanks for your comment,


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