Margin of Safety and Trading

MoS and trading have a somewhat funny relationship.

When MoS is offered, you don’t feel like looking at your trading portfolio.

Why?

Because it is bleeding?

Maybe.

Actually, you are in a hurry to clock some long-term investments. After all, there’s MoS on the table. Yes, you’d much rather occupy yourself with your long-term portfolio.

With serious MoS in the pipeline, the market makes it easier for you. It bludgeons your trading portfolio, such that you sheer exit it, and now you are free to focus solely on your long-term investing portfolio.

Fine. Great. Is that it?

There’s a tad more to the connection between MoS and trading.

What is trading?

Buying high, and selling higher? Selling low, and buying back lower? Yes, that’s trading.

On first instinct, you’d buy on a high, or sell on a low, that’s what you’d think.

However, on the ground, margin of safety makes itself felt.

Players wait for the underlying to correct a bit, or rally a bit, and then pick it up, or sell it. They’re not picking it up on the fresh high, with no resistance opposing them. They are taking a chance, that there will be a correcting move, and that’s when they will pick it up. Vice-versa for the bears.

Those few extra buck of fall will add to their profits when the underlying starts to rise again and makes new highs. Expressed for the bears, those few extra bucks of rise will add to their profits when the underlying starts to fall again and makes new lows.

The pay-off is, that this doesn’t always work. The trader might miss the trade altogether, if the correcting or rallying move does not take place, and the underlying zooms (falls) to make one high (low) after another.

So when does waiting for MoS actually work in trading?

Almost always. Except…

…when it’s a full-blown bull or bear run.

This means that it works like 90% of the time, which is a pretty high number.

Does that make you want to adopt MoS full-time while trading too?

Of course it does.

How do you still make use of the opposite strategy – buying upon highs, or selling upon lows?

You let a few setups go amiss. Missing a couple of trades due to bull or bear runs is the signal.

Now you can switch to buying on fresh highs or selling on fresh lows.

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When it Pinches, Then You Buy

What is a good time to buy for the long-term?

Is there some kind of formula? Mathematical equation? Algorithm?

Who doesn’t look for the holy grail?

Sure, there are technicals galore, to assist one’s buying and fix its appropriate time. 

Of course, fundamentals, when studied properly, are even more helpful. 

However, neither technicals nor fundamentals can replace emotion.

The emotional alarm, when sounded, is a good time to buy for the long-term. 

Surprised?

Here you are, getting alarmed at how the markets are falling. 

How are you supposed to buy with a straight face amidst the panic?

That’s just it. 

Markets are wired in an opposite fashion to our mentality. 

At the onset of margin of safety, our mental framework emits panic upon seeing the mayhem. 

Upon the vanishing of margin of safety, the same mental framework emits euphoria and wants to participate in the rally. This is trading, not long-term investing, and as long as you buy high and sell higher, you are good. What you are not going to do here is hold your trade for the long-term, thinking it’s a long-term buy. What has not been bought with margin of safety is not a long-term hold. 

Why?

Margin of safety gives us a buffer. 

Let the markets fall; they still don’t reach our entry price. Or, they only fall a tad under it, and then start to rise again. That’s the beauty of buying with margin of safety. You can use the low now created to pick up some more, if you are still convinced about the stock. Otherwise, you can always exit the stock on a high. 

In long-tem investing, one should not exit on a low due to panic. If one does so, it’s like market suicide. 

What causes exits on lows?

Panic. 

Need for money.

Weak hands. 

Become a strong hand. 

Put in only that money which you don’t need for the next ten years. Make sure before entry that you won’t be pulling out this money in the middle of the investment if you can help it. Have a fallback family fund to lean on ready before you start putting money into the market for the long-term. 

Teach yourself not to panic. Rewire yourself alongside the market. This takes time. It took me almost a decade to rewire myself. Everyone needs to go through this rewiring process.

Once you’re rewired and  financially secure, your strong mind will pick up on the emotional trigger, and will start buying when the pinch-factor kicks in. 

Your strong hands won’t let go owing to panic. 

In the long run, your investment, which has been made with margin of safety and proper due diligence, will yield you a fortune.

Happy investing!

🙂