Can We Please Get This One Basic Thing Right? (Part II)

Now that we’ve laid the foundation, we need to build on it.

The most important aspect of investing is the entry. For a trader, entry is the least important aspect of the trade.

An investor enters after a thorough study. That’s the one and only time the investor is calling the shots regarding the investment. The right entry point needs to be waited for. After entry, the investor is no longer in control. Therefore, the entry must be right, if the investor is required to sit for long. If the entry is not right, then one will not be able to sit quietly, and will jump up and down, to eventually exit at a huge loss.

The trader can even take potshots at the morning newspaper, and enter the scrip hit by a dart at current market price (cmp). There’s a 50:50 chance of the scrip going up or down. If, after entry, the trade is managed properly, the trader will make money in the long run. A loss will need to be nipped in the bud. A profit will be allowed to grow into a larger profit. Once the target is met, the trader will not just exit slam-bam-boom, but will keep raising the stop as the scrip soars higher, and will eventually want the market to throw him or her out of the trade. If the scrip is sizzling, and closes above the stop, the trader will be happy that the market has allowed him or her to remain in the trade, because chances are very high that the scrip will open up with a gap the next morning. Then the trader will take the median of the gap for example as a stop, and will continue to raise this stop, should the scrip go even higher. Eventually, the correcting scrip will throw the trader out of the trade. One or two big winning trades like this one will give the trader a fat cushion for future trades. Now, the trader will position-size. He or she will again take his or her dart, and will select the next scrip. The amount traded will be more, because the trader is winning, and because the pre-decided stop percentage level now amounts to a larger sum. The trader’s position will be sized as per his or her trading networth. So, you see here how unimportant entry is for trading, when one compares it to trade management and exit.

For the investor, there’s no investment management in the interim period between entry and exit, unless the investor goes for a staggered entry or exit. That again falls under entry and exit, so let’s not speak about interim investment management at all. If anything, the investor needs to manage him or herself. The market is not to be followed real-time. One’s investment-threshold should be low enough so as to not have the portfolio on one’s mind all day. You got the gist. Also, exit happens when no value is seen. The investor just loses interest. He or she just tells his or her broker to sell the ABC or XYZ stake entirely. Frankly, that’s not right. Proper exits are what the trader does, and the investor can learn a trick or two here. Then, again, the investor would be following the market real-time in the process, and will get into the trader’s mind-set, and that would be dangerous for the rest of the portfolio. On second thoughts, it’s ok for the true investor to just go in for an ad-hoc exit.

You see, the investor likes it straight-forward. A scrip will be bought, and then sold for a profit, years later. That’s how a typical investment should unfold.

The trader, on the other hand, likes to think in a warped manner. He or she has no problems selling first and buying later. It’s called shorting followed by short-covering. The market can be shorted with specific instruments, like futures, or options. In seasoned markets, one can even borrow common stock and short it, while one pays interest on the borrowed stock to the person it was borrowed from. Yeah, many traders like to go in for all these weird-seeming permutations and combinations in their market-play.

A person who trades and invests runs the danger of confusing one for the other and ruining both. We’ve spoken about how proper segregation avoids confusion. Another piece of advice is to specialize in one and do the other for kicks. Specializing in both will require a good amount of mind-control, and one will be running a higher risk of ruining both games. At the same time, doing both will give you a good taste of both fields, so that you don’t keep yearning for that activity which you aren’t doing.

You see, sometimes the trader has it good, and sometimes, the investor is king.

When there’s a bull-run, the fully invested investor is the envy of all traders. Mr. Trader Golightly has gone light all his life, and now that the market has shot up, he is crying because he’s hardly got anything in the market, and is scared to enter at such high levels.

During a bear-market, Mr. Investor Heavypants wishes he were Mr.Trader Golightly. Heavy’s large and heavy portfolio has been bludgeoned, whereas Lightly’s money-market fund is burgeoning from his winnings through shorting the market. Lightly doesn’t hold a single stock, parties every night, and sleeps till late. Upon waking up, he shorts a 100 lots of the sensory index, and covers in the early evening to rake in a solid profit.

When Mrs. Market goes nowhere in the middle, Lightly gets stopped out again and again, and loses small amounts on many trades. He’s frustrated, and wishes he were Mr. Heavypants, who entered much lower, when margin of safety was there, and whose winning positions allow him to stay invested without him having to bother about his portfolio.

Such are the two worlds of trading and investing, and I wish for you that you understand what you are doing.

When you trade, you TRADE. The rules of trading need to apply to your actions.

When you invest, you INVEST. The rules of investing need to apply to your actions.

Intermingling and confusion will burn you.

Either burn and learn, or read this post and the last one.

Choice is yours.

Cheers.  🙂

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