Originally posted August 9, 2018. Last updated January 12, 2021.
Don’t Get Emotional
If you want to become a good investor, you need to take emotion entirely out of the equation.
No one likes to lose money, so the concept of buying an investment and feeling bad because it’s headed down is an emotion we can all understand. However, there’s a mirror emotion to this – the kids call it “FOMO” or Fear Of Missing Out.
FOMO is what happens when the investment you’re watching starts skyrocketing in price before you’ve gotten in. FOMO makes you want to throw away your research and jump in RIGHT NOW so you don’t miss out on the profit. You feel like kicking yourself for not buying earlier.
Unfortunately, any investment that skyrockets eventually pulls back from its highs (even if it only pulls back to rest before heading higher from there). If you bought on the way up, you’re more likely to buy near the price peak rather than near the bottom which means the pullback could result in a lower price than where you bought in. Now, you have a loss instead of a gain.
Taking action from either emotion is a bad way to make money. In fact, they’re both incredibly effective at losing you money.
So, what should you do?
There is No Good or Bad. There just is.
Work on eliminating the thought that “up is good” and “down is bad.”
As difficult as it can be to know a drop in price means your profits have decreased or your loss has increased, the market doesn’t have feelings – it doesn’t think of either direction as good or bad.
Instead of thinking about your losses when the market drops, think about it as if your favorite store is having a sale and look at stocking up (pun intended).
IMPORTANT: There’s a difference between a market- or sector-wide sell-off and a stock-specific sell-off. If your stock’s company has reported financial troubles, a resigning CEO, bad earnings, a recall or any other negative news, it may be time to take the loss. If the drop is due to a market- or sector-wide sell-off, it may be a good opportunity to add more to your position.
Make a plan BEFORE you invest
Step 1: Make a shopping list.
Research stocks you’re interested in and keep a list handy so when the market drops, you can buy in because your favorite stocks are on sale.
IMPORTANT: This rule changes if it’s a stock-specific or sector-specific selloff. If your stock’s drop isn’t due to a market-wide sell-off, make sure you know why the stock you’re interested in is dropping before you buy.
Story Time: “Bagging The Big One” or “How we bought into Amazon”
At Get Irked, we wanted to buy into Amazon ($AMZN) for a long time, but at over $1,000 a share, the idea of pulling the trigger on even a single share was enough to make us seasick. So, following good trading discipline, we waited for a sell-off.
Sure enough, at the end of January 2018, the S&P saw a market-wide selloff. The sell-off followed a death-defying drop, affecting nearly every single stock on the market. Amazon, our target, dropped from a high of $1617 a share down to $1355.
In February, selling had reached peak levels. Since we knew we wanted to buy Amazon and we knew that the price collapse wasn’t stock-specific, we held our collective noses and pulled the trigger – buying in at $1378.
About six months later, that $1378 share was worth nearly $1900, a gain of more than 35%.
If we hadn’t known to keep a list of stocks to buy during a sell-off in advance and known to look at a market-wide sell-off as “sale pricing,” we would never have bought Amazon (the most expensive-priced stock we’ve ever owned, by the way) at any price.
Step 2: Getting in and getting out.
Knowing when you want to get OUT is just as, if not more, important than knowing when you want to get in.
Buy yourself a nice sweater
When you own a stock, you need to set price targets when you’re going to “take some money off the table and buy a nice sweater” as CNBC’s Mad Money’s Jim Cramer says.
A profit isn’t a profit until you take it. If you don’t take a profit, the market could change direction and not only gobble up your profit, but also turn your delicious profit into a sour loss.
Just like you should Buy in Stages, you should also sell out in stages. Never buy all at once, never sell all at once. Rarely do we ever pick the tops or bottoms in stocks, so buying and Selling in Stages offers us the opportunity to get in at lower levels and take profits at higher levels.
Your first loss is your best loss
The same goes for if your stock’s headed down.
Although Get Irked recommends buying in stages at increasingly lower levels, you also need to have a plan in place when you’re going to take a loss if the company behind the stock you own is broken and you need to get out.
IMPORTANT: Here are just a few examples of key events that equal immediate loss:
(1) If your company’s iconic CEO resigns to “spend more time with family,”
(2) if your company’s product needs to be recalled or its medication doesn’t pass FDA compliance (if you’re in a pharmaceutical sector), and
(3) financial complications – always, ALWAYS, sell if financial complications are found.
Be prepared – Have a plan
When it comes to investing, you always need to have a plan. Plan when how you’re going to buy in, when you’re going to add more, when you’re going to take a loss, and when you’re going to to start taking profits.
If you plan in advance when you’re going to sell your investment – both with gains and losses – you’ll increase your gains and limit your losses more effectively.